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“Madoff: The Monster of Wall Street” is a four-part documentary streaming on Netflix. This could hardly be more relevant given the spectacular implosion of Sam Bankman-Fried and his FTX Cryptocurrency empire.
While much is unknown about “SBF” and FTX, similarities to the Madoff operation are striking.
Ponzi characteristics: Madoff operated a pure Ponzi scheme. He took money from new investors and used it to pay off old investors. Unlike Charles Ponzi, Madoff did not promise investors returns of 100% every 90 days. Madoff promised steady month-by-month accretion amounting to something like 10% per year. Since Madoff was not actually doing anything with the money, investors could have withdrawn their fictitious profits every year for years and been paid entirely with their own deposits.
If panicked investors hadn’t started cashing in en masse during the 2008 financial crisis, Madoff might have gone on indefinitely.
SBF and FTX operated in the Cryptocurrency “industry.” This industry is a Ponzi scheme without a Ponzi. Cryptocurrency is a computer creation with no tangible value beyond what a gullible buyer will pay. Without money from new investors, old investors have no way to get out. Unless you can fool some of the people all of the time, Crypto is a tulip bulb mania without tulips.
Credulous institutions: Much of the Madoff money came from “feeder funds.” These are middlemen who take money from investors and farm out the actual investing to people like Madoff. Any middleman should have known Madoff’s returns were too good to be true. The split-strike options strategy supposedly used by Madoff was neither new nor unknown. While it could prevent large losses, the strategy could not produce the positive returns Madoff reported in every severely declining market.
Institutional “victims” of FTX include Blackrock, Softbank, Tiger Global and Sequoia Capital. It is not surprising to see Sequoia, which was bamboozled by Valeant back in 2017, or Softbank, which was a big investor in WeWork among other disasters. But Blackrock, which manages $8.6 trillion, couldn’t figure out that a Crypto firm buying up other Crypto firms was a house of cards?
Regulatory failure: The Securities and Exchange Commission received multiple warnings about Madoff’s operation including a demonstration that Madoff’s fictitious trades amounted to more than 100% of the options actually traded. The SEC did not even bother to pick up the phone and call the Depository Trust Company to verify that Madoff was trading anything.
FTX operated in a regulatory vacuum. Although SEC Chairman Gary Gensler claims the Commission has the authority to regulate Crypto exchanges, it doesn’t.
Lax internal controls: Madoff was audited by a two-person accounting firm and did not hold assets at a third-party custodian.
At FTX, nobody seems to know exactly what happened to all the money.
In the end, Madoff’s $64 billion scheme consisted of $19 billion of deposits and $45 billion of make-believe “profits.” About $15 billion of the $19 billion was recovered by clawing back money from investors who took out more than they put in. FTX victims may count themselves lucky if they recover as much.
Jeffrey Scharf welcomes your comments. To contact him, email jeffreyrscharf@gmail.com.
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