The Madoff Affair: Behind the Scenes

Bernie Madoff’s June 29 sentencing date is fast approaching. If you still don’t quite understand what happened there, do yourself a favor and watch a recent Frontline documentary on the subject. “The Madoff Affair,” premiered on PBS on May 12, but if you missed it, you can watch the entire program, along with lots of bonus material, on the Frontline web site.

“The Madoff Affair” was produced by Martin Smith and Marcela Gavaria of Rain Media. Smith and Gavaria have made more than two dozen episodes on subjects like Bin Laden, North Korea and psychiatric meds for kids. (Full disclosure: I’ve worked on Frontlines in the past, though none with Rain Media).

This Frontline doesn’t really break any news on Madoff, or his $50 billion Ponzi scheme, but it effectively distills what is an incredibly complex story into something that can be easily absorbed. Beyond that, they managed to get some great interviews with Madoff insiders.  Their interview with Michael Bienes, who began funneling investors to Madoff in the 1960s, perhaps provides the most salient window into who Madoff is, and how his scheme worked. Check out the extended interview with Bienes online.

We spoke to Smith about his experience making this film, what he learned and what we should all take away from the Madoff story in general.  One thing seems certain: People will still be trying to understand Madoff the man, long after they’ve figured out how he ripped so many people off.

MainStreet: What do you think is the most important piece of information the average investor should take away from this story?
Smith: We were surprised all along at how so many people gave their money over to Madoff or to a feeder fund and then asked very few questions.  Those that did were rebuffed by Madoff's staff, but they left their money in his hands.  I think ordinary investors should make sure they understand the statements they're getting and the strategy used to generate profits.  If it's a secret proprietary strategy, then an investor should be aware of the risk.  A track record is nice but it is not hard to find managers who have succeeded for years only to falter badly.  If 90% of professional money managers fail to beat the market over the long run, then it seems an investor should either park their money in an index fund or really know what risks they are taking.  Ask questions.  And make sure you understand the answers.  Madoff's investors seemed only to focus on that bottom line. 

What are some red flags investors should look out for?
A big red flag, which we didn't get to explore in the piece, was the fact that Madoff was his own custodian, broker and investment advisor with a tiny unknown accounting firm doing his audits.  He was accountable to no one but himself.  Any investor should steer clear of such a set-up.  A third party should hold your assets, not the investment advisor.  That alone should insure that someone other than your advisor is verifying the trading. 

Some investors lost everything with Madoff. What lessons are there in terms of the importance of diversifying your investments?
Well, diversification usually refers to mixing up your portfolio among various types of asset classes.  And, if you believed Madoff's statements, it didn't look so bad. The problem was, it was all a lie, of course.  Ordinarily, diversification doesn't mean you need to divide your money among several different managers.  One good manager or advisor who diversifies your holdings is sufficient.  Just make sure you can trust that advisor.

What did you learn about the Securities and Exchange Commission, in terms of how it works and how it ultimately protects investor interests?
That's a big question.  Unfortunately, the SEC did not co-operate with Frontline in the making of the piece. We had background conversations and a couple of interviews with former chiefs.  But to get inside one needs to talk to those inside the enforcement division.  We heard recurring themes and I refer you the transcript of an interview with Diana Henriques of the New York Times. She's covered the SEC for years and in the last part of her interview she addresses this question.