Inside history’s biggest financial crime 

Madoff’s Beginnings 

In 1960Madoff was a legitimate market maker—matching potential buyers with stocks. Then he opened a side business where clients gave him money to invest on their behalfwhat’s called an investment advisory business. His father-in-lawa successful accountantrecommended clients to him. These referrals were a boon for the young Madoff up until he made a bad trade and lost a significant amount of money.

“He didn’t want to own up to the fact that he lost all this money for his father-in-law’s friends. So he started covering it up with all these other fake trades,” said Supervisory Special Agent Paul Roberts. “It just snowballed from there.” Each lie begat another lieand the Ponzi scheme began.

A year after being hiredKugel opened a personal account with the firm’s investment advisory business. When he received his first monthly statementhe noticed the details of the trades were eerily familiar. They were exactly the same as the arbitrage trades he had conducted for Madoff’s legitimate businessbut with different volumes.

“He knows that it’s all historical data,” Roberts explained. Arbitrage finds are time sensitive. In the 1970san arbitrage trade would only be available on the market for a few minutes (in today’s marketthey’re available for as little as a few seconds). Kugel’s expertise was in finding and buying these arbitrage opportunities before other traders did. Once a trade was conductedthe opportunity was gone. There were no extra profits to be had because Kugel had already obtained them all. Nowas Kugel saw those same trades he had personally made with different figures and for different accountshe knew it was impossible.

“Immediatelyhe’s like ‘This whole thing is a fraud. These are fake trades,’” Roberts said.

This was the bread and butter of Madoff’s scheme. The trades and profits were indeed fake but the financial strategies behind them were not. Kugel had unwittingly given Madoff and Bongiorno an air of legitimacy.

Kugel did not object when he discovered the truth and continued to share his tradesprofiting from the results. Madoff allowed him to set his own salary. He withdrew enough money through the scheme to become a multi-millionaire and owned houses in gated communities in Florida and on Long Island. “Bernie knew he had to take care of these people because they knew what was going on,” said Special Agent Shannon Fishone of the FBI’s investigators.

Bernard L. Madoff Investment Securitieswith Kugel now in towdeployed several other strategies to keep up the appearance of high profits for its Ponzi scheme account. In addition to Bongiorno manipulating Kugel’s tradesshe deployed another strategy that was extremely unsophisticated but effective: reading The Wall Street Journal.

Bongiorno researched old editions of the newspaper to identify the best performing stocks in the past month. She’d then pick the most profitablemake up a number for how many shares the investor had “bought,” and record the gain at the end of the month in the client’s statement. “Everybody’s a financial genius with 20/20 hindsightright?” said Fish.

Brazen as the lies werethe firm set up internal rules for handling the Ponzi account. Only a few people had access to itand it never communicated with the accounts from Madoff’s legitimate business. To ensure clients didn’t get suspiciouseach account had to be monitored. If clients knew each other and ever compared statementsthe numbers had to generally add up.

Despite building a portfolio of hundreds of millions of dollarsMadoff had only a few accounts in the Ponzi scheme. The client list was short enough for Madoff’s firm to manage these accounts with strategies like Kugel’s and Bongiorno’s. The firm also instituted minimum account balances. To join Madoff’s investment advisory businessan investor generally deposited at least $1 million and needed to keep a million dollars as a minimum balance. These rules allowed Madoff to have a steady amount of cash andironicallycreated a sense of exclusivity in the financial community. To have an account with Madoff meant you were special. But it was also self-serving.

“He’s a market makerand he’s not supposed to be doing this investment advisory business,” said Fish. Anyone operating an investment advisory business must register it with the Securities and Exchange Commission (SEC). Madoff had originally opened the investment advisory business on the side. He never registered it. If he hadit would have opened up the possibility he could be auditedrisking the scheme. InsteadMadoff masked his investment advisory business as part of his legitimate work.

“It’s this open secret on Wall Street among the in-the-know,” Fish said. As Madoff’s investments grewhis status grew with him.

Over the years Madoff’s firm grew to include his brotherPeterwho became the firm’s compliance officerand other personnel who were hired throughout the 1960s and 1970s. Each of these employees participated in the Ponzi scheme and stayed with the firm until the end.

The Firm Grows and So Do the Lies 

The referrals Madoff received from his father-in-law kept coming and soon they made up a large portion of the Ponzi scheme account. His father-in-law had since retired and the accounting firmrenamed Avellino & Bienesinvested exclusively with Madoff. Business boomed for both firms until 1992.

That’s when the SEC contacted Avellino & Bienes on a suspicion that it was operating as an unregistered investment advisory business. The firm alerted Madoff about the pending investigationrevealing a deeper problem—Avellino & Bienes was essentially running its own Ponzi scheme on top of Madoff’s. Worsethe monthly statements it created for its clients didn’t match the statements Madoff had on file.

“Basicallytheir lies are different than Bernie’s lies,” said Roberts.

Madoff became extremely worried. He knew that when Avellino & Bienes told the SEC that all of its funds were invested with his firminvestigators would want to compare the statements. That would reveal everything was fake. The discrepancies were too significant to explain otherwise; the paperwork Avellino & Bienes had on file indicated a completely different financial strategy than what Madoff had. And the account balances were off—by more than $100 million.

Madoff ordered his staffincluding Bongiornoto redo three years of financial statements and strategies to match what Avellino & Bienes had on file. “This is a massive fire drill,” said Roberts. The statements were totally fakebut everything had to seem real enough to SEC investigators.

The SEC was pleased with the matching paperwork but ordered Avellino & Bienes to shut down. That meant all of its clients had to be issued checks for their full account balances. According to the newly created fake paperworkthat money was in the possession of Bernard L. Madoff Investment Securities.

There was just one problem—Madoff didn’t have enough money in the bank to issue the checkswhich totaled roughly $440 million. And if he didn’t send the moneythe SEC was likely to take a closer look at his books.

Madoff borrowed stock from a rich client that he used as collateral to secure a loan. Madoff didn’t reveal the true reason why his firm needed the loanbut his lie succeeded in getting the money. Madoff issued the checks. But since all of the Avellino & Bienes clients were invested with him to start“95 to 98 percent of the clients give the money back to Bernie and open direct accounts with him,” said Roberts.

Madoff survived the crisisbut he still didn’t register his investment advisory business. So how did he skirt by when that same issue is what tripped up Avellino & Bienes?

“It’s because he’s Bernie Madoff,” said Roberts. In facta Wall Street Journal article credited him as the savior of the Avellino & Bienes crisis. His face was even printed in the iconic dot-matrix sketch the newspaper is famous for. (“He loved that,” said Fish.)

Madoff’s Wall Street profile soaredand he was named chairman of the Nasdaq composite in 1990.

After the Avellino & Bienes crisisMadoff took on roughly 2,000 additional clients. This presented new challenges. With so many new accounts to fakeKugel’s and Bongiorno’s techniques weren’t enough. They needed a new strategy.

The solution came from an unlikely source. Originally hired in 1975 at age 18 to be an errand boyFrank DiPascali rose through the ranks of Bernie L. Madoff Investments and eventually devised a complicated strategy called split-strike conversion.

What is split-strike conversion? Using split-strike conversion allows people essentially to buy stocks and then hedges the purchase by buying and selling options. An option is a separate transaction that allows someone to buy or sell a stock at a specific price at a specific time.

The strategy is legitimate but “doesn’t make money in the long term,” said Roberts. Regardlessit can turn a profit—and a hefty one when using fake numbers. To avoid any reporting with the SEC because the firm was not registered as an investment advisory businessthe firm “reinvested” the stocks at the end of the month in treasury billswhich are not susceptible to an audit.

The Growing Scheme Draws Greater Scrutiny 

In 2001two financial trade publications wrote articles that questioned Madoff’s investment advisory businesswhich wasn’t supposed to exist yet had the best returns on Wall Street with a portfolio of nearly $7 billion. In an interview for the article from Barron’sMadoff brushed off questions about his strategycalling it proprietary.

“The articles are basically alleging that his investment advisory business—the worst-kept secret on Wall Street—might be a giant fraud,” said Roberts. The articles caught the SEC’s attention.

“Bernie starts getting scared,” said Roberts. He deployed the firm to create a massive supply of fake documentation so there are records to show the trades are legitimate.

DiPascali tapped two computer programmers he used to automate his split-strike strategy. Dubbed “the Computer Boys” by investigatorsGeorge Perez and Jerome O’Hara created the false records. To demonstrate just how far Madoff took this schemethe firm created fake documents for all of its “trades.” The Depository Trust Company (DTC) maintains records of every stock that is bought and sold. Perez and O’Hara obtained real DTC statements and copied them en masseeven hiring another programmer to create a custom code that duplicated the statement’s unique font.

The team held the fake statements against windows facing the suncomparing them to the actual statement. The fake statements were not perfect but good enough to fool an unsuspecting eye. “This is what they spent their time on. Hours and hours of doing this,” said Fish. Then it happened; in 2004the SEC contacted Madoff to audit his firm.

Madoff believed that since the SEC was a government agencyit had a limited budget. He thought that if he listed foreign counter partiesthe auditors would not get approval to make international phone calls to verify them because it would be too expensive.

A Madoff employee researched a list of European counter partiesand the Computer Boys then randomly assigned them to each stock under audit. None of the foreign counter parties were ever contacted. The firm passed the audit.

A year laterthe SEC returned to Madoff’s offices to conduct another audit. The firm again inundated the auditors with reams of papereffectively overwhelming them with information. One eveningas the auditors left for the dayone of them accidentally left a briefcase behind. Madoff and DiPascali went through it.

The briefcase contained a list of questions the auditors planned to ask Madoff’s staff the following day. The firm didn’t have any paperwork for one of the questions—so Madoff ordered his staff to work through the night to create the necessary documents.

In the span of two yearsMadoff’s firm was audited five different times. Through deception and luckit passed each one.

The Market Crashes; It All Falls Down 

Madoff and his employees were living the high life. Several staff members had withdrawn millions of dollars over the years to purchase luxury cars and homes. DiPascali owned two boats. Bongiorno owned two houses and was building a condo. Madoff himself owned four homesincluding a Manhattan penthouse and a home in the French Riviera. He also owned three yachts. But as the fall of 2008 drew closerthis life of riches would become difficult to sustain.

Wall Street was collapsing. Firms were either merging or going bankrupt. The government intervened in several instances to guarantee loans or bail out companiesspending billions of dollars. The stock market dropped lower each day. The financial sky was fallingexcept at Bernard L. Madoff Investment Securities. Gains were still being recorded with an average return of one percent a month. Worried investors were reassured in knowing their Madoff accounts were doing wellbut many still wanted to withdraw their money.

“That is the death knell for any Ponzi schemewhen everybody wants their money out at once,” said Fish.

Madoff’s investment advisory business—the Ponzi scheme—didn’t have enough money to cover the withdrawals. While the paper value of the accounts was in the billions and his investors had requested a combined $1.5 billion withdrawalonly $300 million was in the bank.

Madoff frantically looked for an investor to give him an infusion of cash to cover the difference but couldn’t find anyone willing to invest.

On December 32008Madoff pulled Frank DiPascali aside. “I’m out of money,” he told him.

Madoff Confesses to the Scheme 

A week lateron December 102008Madoff held the firm’s annual Christmas partywhere he handed out early bonuses. His two sonsMark and Andrewwho had worked for the firm for several years and had grown concernedfinally confronted him. “Let’s go to the house and talk,” Madoff said.

When the Madoff family arrived homeMadoff apparently told his sons and wife—for the first time—that his firm was a fraud. “I’m running a Ponzi schemeand we’re out of money,” he said. The sons cut off all ties with Madoff and their motherleft the houseand called an attorney. That attorney called the SECwhich then called the FBI’s New York Office.

The next dayFBI special agents visited Madoff at his home. They confronted him about the accusation. “We’re here to see if there’s an innocent explanation,” the agents said.

“There is no innocent explanation. I’ve been running a massive Ponzi scheme,” Madoff replied.

After a short discussionthe agents called the assistant United States attorneywho agreed that Madoff should be arrested.

Madoff insisted that he was the only person with knowledge of the Ponzi scheme and that he operated it alone. While he confessed to running the schemehe started lying about the mechanics of it and said he would not testify against anyone.

Madoff pleaded guilty and was convicted on March 122009. On June 29he was sentenced to 150 years in prison and transferred to a Federal Correctional Complex in North Carolina. He died in April 2021 at the prison’s medical center. He was 82.

Investigating Madoff’s Team 

Without Madoff’s cooperationinvestigators turned to members of his staff. They all claimed to be innocentbut investigators dismissed the idea that anyone could pull off a multi-billion-dollar fraud all on their own.

DiPascalithe firm’s chief operating officerfaced charges that could end in life imprisonment. He contacted prosecutors in April 2009—five months after Madoff’s arrest—and offered to cooperate in exchange for immunity. Prosecutors rejected his offer but assured him that cooperating was in his best interest. DiPascali agreed.

For the next three yearsthe FBI examined every document in Madoff’s office and interviewed hundreds of victims to determine who helped Madoff in the scheme. Dozens of subjects were identifiedand 14 were ultimately charged. Several of the 14 pleaded guilty or cooperated with the government.

Peter Madoff—Bernie’s brother and the firm’s chief compliance officer—pleaded guilty but did not cooperate with the FBI. He was sentenced to 10 years in prison. He had taken $15.7 million over the life of the fraud. He forfeited all his and his family’s assetsincluding their homes and more than $10 million in savings.

Only five employees insisted on their innocenceincluding bookkeeper Annette Bongiorno and the Computer BoysGeorge Perez and Jerome O’Hara. Their cases went to trial with DiPascali as the lead government witness. The trial ended in guilty verdicts for all five employees. The Computer Boys got two-and-a-half year sentences each; Bongiorno received six years.

DiPascali spent six weeks on the standand his testimony proved essential for the government’s cases against Madoff’s staff.

DiPascali was never sentenced himselfthough. In March 2015he called Fish to tell him that he had been diagnosed with lung cancerand he died two months later.

Working to Recoup Victims’ Funds 

Not all of Madoff’s victims were even aware they invested with him. Some hedge funds and feeder funds opened accounts with Madoff without telling their clients. Those clients were individualscharitiesand companies that created retirement accounts for their staffs. The funding companies had some financial protectionbut its individual clients did not. They lost everything.

The safety net that protected some client investments was complicated. The premise is that clients who invest directly with a broker or company that becomes insolvent are entitled to $500,000 worth of coverage. That is covered by the Securities Investor Protection Corporation (SIPC). But not every person who invested directly with Madoff received that windfall.

A SIPC trustee analyzed every Madoff account and calculated how much money was invested and how much money was withdrawn over the life of that account. If more money was withdrawn than investedthe account holder had to pay it back or be sued. And if clients simply lived off the interest from their Madoff accounts—or left an inheritance or opened accounts for family—those individuals could be in a situation where their accounts not only went bustbut they now owed money despite having never invested with Madoff themselves.

As mentionedthose second-level investors—the retirement accounts or other funds people gave to financial professionals to invest for them—were entitled to nothing.

Or so it seemed. As the FBI continued to seize assets from Madoff and his associatesthe value of those items was distributed to a victim compensation fund managed by the Department of Justice. Those investors can submit a claim to get some of the money backbut they’ll never be fully compensated.

Lawsuits are still ongoing as the SIPC trustee claws back funds from the direct investors and claims are made against forfeited assetsbut investigators and the trustee have combined forces to recoup billions for the victims.

The Legacy of Madoff 

The FBI continues to rank securities fraud as a high priority threat. While some changes have been implemented since Madoff’s pleathe main difference has been the growing awareness that this type of fraud exists.

“Even the term Ponzi scheme became more popular after this case. People will call with a suspicion of fraud and they’ll say‘I think it’s a Ponzi scheme,’” Roberts said. They aren't always rightRoberts saidbut the term is now well known.

If you have any information about this type of fraudor think you may be a victimcontact your local FBI field office or tips.fbi.gov.