Time magazine’s Robert Chew, who lost a small fortune to Madoff, thinks he should be compensated for his losses.
Chew has noticed that the Securities Investor Protection Corp will only pay claims by investors who lose money from fraud by firms insured by the SIPC. Those firms happen to be registered brokers, who pay for the fraud insurance out of fees collected from their customers. People who reach outside the world of registered brokers, people whose wealth allow them the legal privilege of seeking greater gain through investing in unregistered hedge funds, give up the safety of this insurance.
That system worked fine for Chew until it didn’t. He was among those who invested in Madoff through a feeder fund, something most ordinary investors are prevented by law from doing. Now, however, he feels like someone should be made to pay for his fraud losses.
He’s not clear on that.
Surely, Madoff, if he had the money, should be made to pay. Since he doesn’t, that’s a nonstarter. So Chew is left making a more general claim against the universe, or at least the bank accounts of others.
“How did Bernie Madoff come to have two classes of investors — the first-class crowd enjoying SIPC support, and the rest of us in coach?” Chew asks. This kind of mental gymnastics–describing the retail investors protected by the SIPC as “the first-class crowd” and the wealthy hedge-fund investors not protected “coach”–would be funny if it weren’t so self-serving. Oh, the horrors of the wealthy finding a small corner of the financial world that hasn’t yet been rigged in their favour. It feels like…gulp…flying coach.
To make things even worse, Chew admits that registration, regulation, etc, etc, would not have avoided the Madoff fraud. So his lament amounts to nothing more than a naked demand for other people’s money:
The Securities and Exchange Commission (SEC) encouraged the growth of unlicensed, unregistered feeder funds when it liberalized investing rules in the 1996 National Securities Markets Improvement Act, now part of the Investment Company Act of 1940. As a result, anyone managing pooled investments held by fewer than 100 people, or managing monies for an unlimited number of “qualified purchasers” (investors with more than $5 million or institutions with more than $25 million), need not worry about SEC registration.
Some experts, prior to the Madoff mega-swindle, were all for lesser regulation. But now they are rethinking this idea. “Registration of these funds might have helped prevent this,” says Barry Barbash, a Washington-based securities lawyer with Wilkie Farr & Gallagher. Barbash was the SEC director of investment management from 1993 to 1998, the time the liberalization took place.
A 1992 study showed Barbash and others in the Clinton Administration that there was a need for liberalization for hedge funds. “There was a greater appetite for them, and the 100-person rule was too narrow,” says Barbash. “The philosophy was that we needed to cut regulation for larger, more sophisticated investors.”
Madoff, the “sophisticated swindler,” couldn’t have agreed more. Some unregistered feeder funds, like the one I and others invested in, had $500 million or more in them and were the early engines of Madoff’s dubious success.
“I’m not sure it would have helped stop this crime, but earlier transparency, or registration for the sponsor group [feeder fund] has a logic to it now,” says Barbash. “Certainly, I think greater protection would have come if Madoff was forced to register.”
Up until 2006, Madoff was not even registered as an investment adviser. When he did register as an adviser, the SEC checked him out and gave the thumbs up. No Ponzi here.
But who checks on these now very large “small funds”? Who blows the whistle when there are more than 100 investors or when each investor truly has the deep pockets to invest? “Either the manager of the fund has to regulate this, or someone in the fund has to raise a red flag,” says John Heine, deputy director of the SEC’s Office of Public Affairs.
In effect, the unregulated funds have to regulate themselves, and if there is fraud, the only recourse is to sue the unlicensed fund manager. Those investing under the SEC’s amended rules have no recourse for recovery from the system that fathered them.
Generally, hedge-fund managers are loath to endorse more regulation, but even Chris Kundro, co–chief executive officer at New York City-based LaCrosse Global Fund Services, which manages $13 billion in assets for its clients, believes the Madoff case “has changed things.” Kundro told Bloomberg TV last week that the Madoff fraud was a unique situation that added to the overall crisis in investor confidence. Since Madoff, Kundro said, there is “now a fundamental shift in thinking that some regulation may be needed for feeder funds.”