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The following was excerpted from Gregg Easterbrook's “Tuesday Morning Quarterback” column on ESPN.com Page2 and has been posted with permission from the author.
Bernard Madoff was all about cashing in, so now there is a rush to cash in on him. The first example was the book "Madoff's Other Secret," in which Sheryl Weinstein spent 224 pages belaboring her claim of an affair with Bernie. Why anyone should care if the two had an affair is unclear. Weinstein was chief financial officer of the charity Hadassah at the time of the claimed affair, and invested about $40 million of Hadassah donations in the Madoff swindle. This sure sounds like Weinstein violated her fiduciary responsibility. She was the perfect paramour for Madoff!
The evolving question about the Madoff scandal is whether some of those he bilked are likewise shifty. Surely Madoff had some victims who were genuine innocent bystanders -- whose money was funneled without their consent to Madoff by intermediaries. But are some of Madoff's investors -- who knew they were assuming substantial risk by placing money into a hedge fund -- trying to pull a fast one now? Some are asking that the calculation of their positions be altered in a way that could shower taxpayer subsidies on them, even if they lost nothing!
As explained here, Irving Picard, the court-appointed tru stee handling the Madoff claims, has been using the common-sense definition of loss. A person who, say, invested $1 million with Madoff, and over the years received $900,000 in dividends, is considered by the trustee to have lost $100,000 -- the amount now gone. But some Madoff marks are asking their "loss" be calculated not based on the amount they put in, but rather on the phony totals shown on their Madoff Securities statements when the cops arrived. A person who invested $1 million probably saw, on his or her last statement, a phony claim his or her investment had grown to $2 million. The Madoff investors petitioning for the changed definition want us to believe that's their loss: they "lost" $2 million, even though they only put in $1 million.
Get it? Now tell me which cup the peanut is under! This means some Madoff marks are pretending to have lost money they never had. Picard's calculations show that of the 4,903 Madoff accounts, 2,568 got back more than they put in, and thus experienced no real-world loss. But many of those 2,568 are demanding additional payments anyway. Picard calculates that Madoff actually stole about $21 billion. When he was caught, his phony books showed $64 billion being held for investors. Some of the investors are claiming the latter number -- the totally phony number -- is the one on which compensation should be based.
This matters because investment-fraud losses up to $500,000 can be repaid by the Securities Investor Protection Corporation, a government-chartered insurer. (The SIPC insures only against fraud, not against disappointing returns or bad business decisions.) The person who invested $1 million with Madoff and got $900,000 back would, under the trustee's common-sense approach, receive $100,000 from the SIPC. But under the calculation claimed by some, if Madoff's counterfeit paperwork said the investment had grown to $2 million, that person would get a check for $500,000 -- the maximum -- from the SIPC. See what's happened? You put in $1 million, then get back $900,000 as dividends, plus $500,000 from the SIPC. Your $1 million has become $1.4 million; you come out ahead on your "loss." Watch those cups closely!
In turn, if the SIPC runs out of money, which might happen owing to Madoff claims, taxpayers are on the hook. Outside the Madoff sentencing hearing in June, some investors speaking to the media throng demanded that SIPC rules be changed to allow them to be paid more than $500,000. The money would come from average taxpayers, and go to people who made extremely foolish money-management decisions (never put money you can't afford to lose into a hedge fund), who in most cases were very well-off (Madoff had a minimum buy-in of $1 million), and who in many cases are still very well-off (some Madoff investors asked the IRS to let them deduct losses as theft losses rather than investment losses, a distinction that matters only to those in the top income brackets).
The next step in the apparent attempt by some Madoff clients to turn into swindlers themselves (not all Madoff investors support the suspicious maneuvers being described here) is this recent dispute about when Madoff Securities changed from a legitimate fund to a Ponzi scheme. Former Madoff investors in this instance claim that dividends received while the fund was legitimate should be added to a loss calculation. In their logic, suppose you put $1 million into a Madoff fund long ago, when he was initially legitimate. You reinvested $500,000 in legitimate dividends. Then it became a Ponzi scheme, and you took $1 million in illegitimate dividends. In this reasoning, you put up $1.5 million and got back $1 million, and so are owed $500,000 by the SIPC -- even though your out-of-pocket was $1 million and your back-into-pocket was $1 million! Watch those cups carefully.
The big legal filing on this contention goes to the relevant judge in February. Let's hope the judge laughs out of court a contention that investors could put up $21 billion and "lose" $64 billion. Otherwise, the federal government, which has been so irresponsible with taxpayers' money lately, may shower checks on Madoff "victims" who create an illusion that they lost more than they did, if indeed they incurred any losses at all. In his cell, surely Bernie is smiling.