The Confidence Game: Of Ropers and Roping

Abstract

This is the fourth in a series of five articles on the Bernard Madoff con game. This essay is about the arrangements between some ropers, those that solicited money for Madoff and his investment company, Bernard L. Madoff Investment Securities (BLMIS). Ropers lure victims/marks/clients/investors into a con game. The focus of this essay is on, what began as an accounting firm, Avellino and Bienes (A & B), Madoff’s own roping operation, Cohmad Securities, and Robert M. Jaffe, a well-connected competitive golfer. Madoff’s ropers were generously rewarded for their efforts at bringing in money to keep his con game going.

Appendices

Appendix 1

Excerpts from the Testimony of Frank Avellino and Michael Bienes before the Securities and Exchange Commission,July 7, 1992

Q: You say you make money investing; is that correct?

A: [Avellino] Yes.

Q: How do you do that?

A: A & B primarily invests in securities through a brokerage house on behalf of A & B, and the securities, like all other securities, are bought and sold and create profits and losses, and at the end of a given year we were fortunate enough to have profits.

Q: There’s a lot there. Let me try to break it down and understand it.

First of all, who do you invest through, what brokerage firm?

A: Bernard Madoff.

Q: Is that an individual or the name of a broker-dealer?

Attorney: Bernard L. Madoff & Co. It may be a corporation.

…

Q: Who do you primarily deal with at this entity?

A: Bernard L. Madoff.

Q: Does A & B have one account at Bernard L. Madoff or more than one account?

A: More than one account.

Q: What are the names of the accounts?

A: A & B account number one, number two, number three, et cetera.

Q: How many accounts do you have there, at this firm?

A: As of now, five.

Q: Why do you have five accounts?

A: It had nothing to do with me. It had to do with Bernard L. Madoff’s internal control of my securities.

Attorney: When you say your securities, you mean A & B’s securities?

A: Yes, I’m sorry.

Q: These five accounts are all entitled “A & B”?

A: Yes.

Q: Do you personally have a brokerage account?

A: With Bernard L. Madoff?

Q: With any entity?

A: No.

Q: So A & B does solely invest money in Bernard L. Madoff, through Bernard L. Madoff, buying securities through them?

A: Yes.

Q: There’s no other broker-dealer?

A: No.

Q: Mr. Avellino, who determines how the monies will be invested?

A: Mr. Madoff.

Q: Is this a discretionary account…with all five accounts?

A: Yes.

…

Q: Do you ever make a decision on what securities to purchase?

A: Never.

…

Q: Are you aware of the strategy that Mr. Madoff utilizes?

A: Oh, yes….. What [A & B] basically has are, of course, long positions. He buys securities for the accounts of A & B, and the strategies that have been highly successful over the years, which Mr. Madoff, by the way, happens to be an expert in, all of the derivative hedges that the market affords. [A & B] sells short against the box, we use the hedges of the Standard & Poor’s [Index], Fortune 500. Mr. Madoff uses the hedges basically as Standard & Poor’s, puts and calls. Every security that we have in the long position has a hedge, every single one of them. We use what we call the hedge of the buying and selling, the buying of convertibles and the selling of the underlying common stock short…. It used to be called a bona fide arbitrage, if you will. But every single derivative hedge that we are aware of over all the years has been instituted and is being instituted.

Q: Do you have any input into how to employ these strategies at all?

A: None at all.

Q: So it’s at the sole discretion of Mr. Madoff?

A: Totally.

…

Q: Is there anyone that does have an input into the strategies employed?

A: No.

…

Q: Do you recall the date that A & B started investing with Mr. Madoff?

…

A: 1963, [19]64 [sic].

…

Q: Since 1983–84, that time period, do you know how A & B has done investing with Mr. Madoff? … Financially, has A & B made money each year?

A: Yes…. But from an economic point of view, every single year has a profit…, as far back as 1962 [sic].

Q: Mr. Avellino, when you started investing with Mr. Madoff, where did these monies come from?

A: Loans.

Q: Loans from whom?

A: Individuals.

Q: Could you tell us how these loans work?

A: Yes.

To take a hypothetical, Mr. Smith, if you will, I borrow money from a Mr. Smith for which I pay interest. The proceeds of the loan are put into my checking account. I now write a check from my checking account, send it to Bernard L. Madoff on behalf of A & B. Like any other brokerage account, he takes the cash, gives me credit for it, and goes out and executes whatever positions he has to do.

Attorney: It doesn’t quite work that way. It’s not check-for-check, dollar-amount-for-dollar-amount…. Why don’t you explain the operation, step-by-step?

A: We, A & B, borrow money. We put it—as we receive the checks—we put it in one checking account at Chemical Bank, which reads “A & B”, and it sits there.

Q Why does it sit there?

A: Because we have an operation that we conduct. The operation is a very simple loan operation. We borrow money and we also return money on the loans. So I will give you a hypothetical case if it makes it easier.

Let’s assume that we have $100,000 in a checking account. We have requests for returns of loans and it’s a periodic thing, it’s a revolving thing, it’s in and out, in and out. We know that at any certain time that if I take $100,000 on Monday, should I send it to the broker, that invariably somebody will call us up within a week and say: “We need money back. We want some money back.” So rather than send it to the broker and treat him as my bank—which is not what he likes; we are the bank—we absorb whatever interest we pay out because it’s a non-interest-bearing account, by the way.

But the operation is such that as we get requests to return money, we have the money in the checking account. So we invariably make up lists from day-to-day of the monies that we have to return; so at any given day I know what the requests are. I have a procedure, and the procedure, again, has evolved over all these years. Every Wednesday of every single week we make up the returns-list of checks for the loans that have been requested for return. We know how much the amounts are; we make up those checks; we always have capital in our accounts. A & B has a capital account, so the monies sitting there at any one time is capital that A & B has. It could be $1 million; it could be $4 million. We don’t bother the broker with that. We have a revolving cash-checking fund balance at all times.

Now, when 2 weeks go by, and I have $10 million in the account, and I know from experience I’ve never sent back more than $2 million in any high week, I look at the balance and I say: “Well, this money is not going to sit here; I have to put it to work for myself, ourselves.” I make out a check to Bernard L. Madoff for the excess of what I don’t think I’m going to need, and he now takes the check and goes out and does this security [buying] and selling, et cetera, et cetera.

Q: Do you have a cushion in this account?

A: Yes.

Q: How much do you usually have in this account?

A: Depending on the season; it depends on the time of year. Come April 15th, that cushion has to be very big because we have clients that call us up between April 5th and April 15 that need money tomorrow because their tax returns are due. So the cushion could be $5 million. The smallest amount in the bank could be $800,000. The most I’ve ever had at any given period is probably $6 million. That’s the average on a yearly, month-to-month basis.

…

Q: Mr. Bienes, do you recall the time, the date, when A & B borrowed money from Chemical Bank on an unsecured basis to do investing?

…

A: It was over a period of years. It would have to go back to 1980 or 1979, 1980.

Q: That was initially when it started?

A: I think. I can only say: “I think.” I remember meeting with the gentlemen from the bank around 1980. It could have been a little sooner, but let me give you a rough estimate…. I can give you the end of it. We repaid the final loan in October of 1988.

…

Q: When did A & B start borrowing money from individuals?

A: [Avellino] Probably in 1962.

Q: At some point in time, did borrowing from individuals increase?

…

A: Yes.

Q: When?

A: Since 1962.

…

Q: How did you come about to borrow these funds?

A: [Avellino] Let’s go back to 1962. This was something that was only done on my behalf—whatever the company was at that time—by word of mouth, and it was a nucleus of, and still is, friends, relatives, ex-clients, if you will, of A & B, cousins of my friends and relatives, nephews of my friends and relatives, and it evolved and evolved. So it’s all by word of mouth and reputation, by integrity, by performance, by paying interest, never ever skipping an interest payment to anyone. Our word was our bond and it’s basically the same thing today. It has not changed.

…

Q: Can you describe what would happen if someone called to lend money?

A: If somebody would call my office … [he or she would be asked]: “Who are you,” of course, if they haven’t identified themselves already. They would say they are Mr. So and So, who was told by their brother, cousin, whatever, to call up because they have a loan that they are receiving X amount of interest on and it sounds good and they have been with this loan for about 20 years plus, which is the average, and could they, in turn, lend us some money and would we take it.

We don’t stop at that. We follow it through. We make sure this person is telling the truth, number one. Number two, every party that is in there is related to someone that started this thing or lent money originally, and the phone call that would come in would say: “I am Mr. Jones and I hear you have a good thing going,” or “program,” or whatever, and is immediately answered with: “We don’t tell you anything. We will tell you nothing. We are a private company; we invest for ourselves, so wherever you got this information from, please go back and check your sources again.”

And basically, this is the response you get at all times and will get at all times. This is probably, and I’m anticipating what precipitated this call, that somebody called, and we invariably say: “We are not going to give you anything,” because the questions—when I answer the questions: “Do you have a brochure?” or: “Do you have a prospectus?” or: “Do you have a financial?” And my answer is: “We have none of those things because we are not in that business. We don’t do any of those things that you are anticipating. We don’t advertise; we don’t solicit; we don’t promote. We are a private investment company, and we only deal with relatives, friends, clients, and people who are associated with friends, relatives, and clients.”

…

Q: Is that also the case that people write in to inquire about A & B?

…

A: There are times when we get a check with a letter that says: “We are aware of your” whatever they call it “enclosed, please find a check…. [P]lease open up an account, a loan account.” And in every instance, if there is no [personal] relationship to that letter and that check, it immediately goes back. There’s no “ands, ifs, or buts.” [We respond]: “We are sorry that we are not able to accommodate you. We will not take your check.” That is also part of this process.

Q: Does [the office manager] tell them what they are going to get in return for their money?

A: Yes, she would have to.

Q: What does she tell them?

A: If the person is a legitimate person, et cetera, et cetera, et cetera, she’ll say: “You will get.” Most of the time, by the way, they call and say: “We know you pay X amount,” and most of the time they are wrong because if we paid X amount to Mr. Smith, it doesn’t mean I’m going to pay the same amount to Mr. Jones. It depends on the economic conditions of our times, [on the prime interest rate]. We have old-timers sitting there for many years and we don’t disturb them [by changing the interest rate]. They are our loyal lenders.

…

Q: Are there investors that you have that are getting 13 % or 13.1 %?

A: The lowest that we had ever was getting 13.5 %, and that’s, by the way, the Copperman group.

…

Q: Do you ever mention arbitrages…?

A: …The only riskless arbitrage I know with the integrity of the United States going out, that’s a risk, the only one I know is the convertible purchase and short selling of common stock; it is the only one I know over all of these 30 years that I have done, and I have never had a problem in saying that it was riskless, because to me it was. I’m talking only for A & B, not for the person who thinks he’s giving me money to invest on his behalf.

I could honestly say, and you could check any record that you want with me from 1962 to today, in thousands of transactions, of what I call arbitrage, which is bona fide convertible buying and selling, there has never been a loss.

Q: A & B?

A: A & B.

…

Attorney: Could you explain what you mean by “hedge” and what impact that hedge would have on the approximately $400 million that was loaned to A & B in investments?

A: If you look at the $400 million that we owe to lenders and you looked at my portfolio and, by the way, all of the $400 million plus are with Bernard L. Madoff, every single dollar, it is invested in long-term Fortune 500 securities. It is, to use the word, “protected” with hedges of Standard & Poor’s Index…. We look at our fair market value of all of these securities that are being held at Bernard L. Madoff on behalf of A & B. We determine the fair market value at the end of each month and we make sure, and this is where we are very positive, we make sure that that value is always in excess of the loans payable…. Every hedge that we consider a derivative hedge is used by Bernard L. Madoff on behalf of every account that A & B has, and that’s why we are so confident, that’s why we are so prudent, that’s why we pay the rate we pay and have continued to have paid. It’s not a thing that evolved just 10 days ago or even 10 years ago, but 30 years ago, and that’s the difference between what we do and maybe what other people do.

Appendix 2

Comments by Oren J. Warshavsky, a counsel to the SIPC trustee, (International Law Practicum, [Spring 2012]), regarding Robert M. Jaffe (“one of the people that marketed Madoff”) and Cohmad Securities

We would start to see the people who marketed Madoff from the very beginning. For some of them, we couldn’t figure out how they got paid—what was happening.

The first person we started to look into was a guy from Boston, Robert Jaffe. You may have heard the name. His father-in-law—just for some background—was Bernard Madoff’s first big customer. …

Then we have this fellow Robert Jaffe. Different people are writing to us: “Hey, Robert Jaffe put my money into Madoff.” We didn’t see any record. We couldn’t figure out how this guy got paid. Where was all the money going? And the accounts led up to close to $1 billion of money funneled in by just this one individual. With Robert Jaffe, we then found out that he had set up a company—and we pled this in our case—that he would actually write to Bernie every quarter and say: “Bernie, my number for this period is…”—and then he’d pick a number, say, $500,000—and he would take it as a long-term capital gain. He would take it by telling Bernie the number. A few days after Bernie received the letter showing the number, there would be a securities transaction showing up on Mr. Jaffe’s statement; there would be a purchase of securities from a year [sic] or two earlier, and then a sale of securities. And that would somehow always come to the exact number, which would be the referral fee.

So Robert Jaffe: We looked at him and we asked ourselves: “What else could he be involved in? Where was he?” It turned out that he was an officer in a company called Cohmad. Cohmad, as it turns out, was a broker-dealer that was housed inside BLMIS…. So we started to take a look at who Cohmad was. Cohmad actually referred over fourteen hundred of Madoff’s accounts.

…So we wanted to figure out: Who is Cohmad? How did they get paid? Where did that money go? We found out that Cohmad actually kept something that we call the Cohmad cash database, which tracked the principal in everybody’s account…. Cohmad knew the precise amount of principal that was invested, and it knew it for every customer. It also knew when the customers actually took out more than their principal. And Cohmad had that running total; that’s how it calculated its cash and commissions….

…We plugged these numbers into the database; we would look through it and run the database, and, sure enough, we could pretty closely correlate to the amount of commissions we saw being paid out.

…Ultimately, we had thousands of cases and there were about a hundred cases where there are what we call bad faith cases and dozens of feeder funds that we are suing. Each one had a story just like that, where it started out looking like one unusual person in Boston, and it turned into a loose network of people who are affiliated with each other who were all somehow profiting on the back end of Madoff….