Opinions about how Fairfield Greenwich Group came to incinerate $7 billion of client cash at the hands of Bernie Madoff vary from “incompetent” to “criminally negligent” to “co-conspirators.” Regardless of where the truth lies, one thing is certain: FGG was very proud of its due diligence and risk management processes.
Listen, for example, to how the firm explains its extraordinary custody and risk-management procedures in this 2006 article in Wall Street Technology:
To facilitate a holistic view of risk, FGG requires that its underlying funds afford a high-level of transparency so data on their positions can be aggregated and fed into systems for fund and firmwide risk and compliance assessments…
Currently, the firm uses two primary methods to aggregate data… The first is via direct pipelines from eight prime brokers, some of which handle multiple FGG funds. At the end of the business day, different divisions within the primes deposit files — including transaction files, position files and gain/loss files — to the firm through file transfer protocol (FTP) sites.
(Apparently this doesn’t apply to the majority of FGG funds, which were invested with Bernie Madoff. Madoff didn’t use a prime broker.)
FGG also collects data directly from the underlying managers and administrators. Again, the firm’s risk group works to reconcile the multiple sources of incoming portfolio information to make sure the data is clean. In fact, FGG often prefers to receive information on its underlying funds from the third parties with which it works, rather than directly from the funds themselves.
“Independently receiving portfolio information from the managers is critical for our investment-compliance and risk-oversight function,” according to Amit Vijayvergiya, head of risk management at FGG. “We rely very heavily on what we receive from those independent sources — whether they be administrators or prime brokers.” Information received directly from the managers augments the third-party data, he adds.
(Again, except for Madoff.)
One of [FGG’s] main tools, called CAI… allows the firm to process the collected information, add additional terms and conditions or market data, and perform data scrubbing and reconciliation. Then FGG is able to “present a portfolio at the end of every day on what our holdings are and marry that with other market fields,” explains Vijayvergiya.
CAI’s investment compliance module helps FGG ensure that its managers are adhering to their mandates on a daily basis, in terms of staying within certain concentration limits as to instrument type, market capitalisation, sector, industry or other parameter. The firm also monitors certain portfolio activity or turnover limits…
So should we take this to mean that FGG will soon be producing daily snapshots of how it thought the $7.3 billion of client money with Madoff was allocated? Snapshots that show each and every one of Madoff’s fabricated positions, along with detailed return calculations that add up to the exact return Madoff reported each day and each month?
These snapshots will go a long way toward clearing FGG of criminal negligence. They will show that, day after day, the professionals at FGG were fooled by an amazingly intricate fraud in which Madoff figured out, retroactively, at the close of business each day, bogus trades that added up to the reported return and stayed within FGG’s vaunted risk parameters–and then emailed this spreadsheet to FGG so they could feed it into their system. The snapshots will show why, unlike many other sophisticated investors, FGG’s experts did not have any question about how Madoff generated his returns–because it was all there, in black and white, each and every day.