Thursday, April 02, 2009

I Was Wondering When This Would Come Down

by Tom Bozzo

A fund of fund(s) that funneled money — including a portion of the late Madison Cultural Arts District trust fund — into the Madoff scam is in Big Trouble:
Massachusetts regulators have sued the Fairfield Greenwich Group, one of the earliest of these so-called feeder fund managers, for fraud, saying it had repeatedly misled investors about how diligently it checked out Mr. Madoff’s operations over the years.

“Fairfield’s complete disregard of its fiduciary duties to its investors and its flagrant and recurring misrepresentations to its investors rises to the level of fraud,” [said the complaint].
Henry Blodget had nicely ripped Fairfield Greenwich's marketing claims a while back (Fairfield Greenwich also apparently forgets that the Internets remember all). If the rap can be beaten with a claim that those were mere puffery rather than outright fraud, then the law surely is an ass: performing rigorous analysis of investment managers' strategies is one of the (few) ways a fund-of-funds can justify its fees-on-fees [*]. An interesting question is why this is being handled as a state matter; maybe now that the Ted Stevens debacle is over, some Justice Department resources can be liberated.

One thing this points to is that the "accredited investor" concept — the "safe harbor" that allows hedge funds to escape much regulation by limiting their services to high-income, high-net-worth investors — deserves a place, however minor, on John Quiggin's growing rubbish heap of refuted ideas. Merely being rich (or at least upper-middle class) didn't make the Madoff suckers and suckers-of-suckers sophisticated. [**] There's really little more (if not much less) reason to think the well-to-do can evaluate complicated investment strategies than that they can reliably complete their own taxes. The MCAD trust's case shows that moderately rich institutions with very rich benefactors are not exceptions. Ultimately there's a reliance, possibly at a couple degrees of separation (part of the Madoff fraud that I leave to the sociologists), on actual expertise. As we've seen, when that's faked, bad things happen.

(Cross-posted at Angry Bear.)


[*] That is, substantively justify, as opposed to charging what convention and apparent market failure allows the market to bear.

[**] In U.S. securities regulation, "sophisticated investors" is a more restrictive category such that few funds apparently use it, presumably to avoid too narrow an appeal for funds.

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