Madoff, the SEC, hedge funds & the IC
After reading the testimony of Harry Markopolos, the whistleblower in the Madoff Ponzi scheme who crafted such a compelling reconstruction of events he deserves a Nobel Prize in Literature simply for the writing itself, I thought, “Don’t hate the player, hate the game.” Markopolos’ 58-page confessional and call to arms illustrates a process so painstakingly onerous, it invoked an image straight out of Kafka’s A Message from the Emperor:
Markopolos began investigating Bernie Madoff in 1999, but due to consistent inadequacies and roadblocks, he was unable to elicit any action that could stop Madoff from his carrying out his odyssey of deceit. As easy as it would be to burn Madoff at the stakes and line up all the individuals guilty of inaction and ignorance for the firing squad, I’m more interested in the future of hedge funds.
For over a decade I have been fascinated by hedge funds – mainly due to the lack of transparency and oversight they have enjoyed since their inception in 1949. In reading Mr. Markopolos’ testimony, I couldn’t help but draw parallels to the Intelligence Community, who after 9/11, has been accused of “failing to connect the dots” (even though the dots in many ways were connected). Like the Intelligence Community, hedge funds are a dark market in that:
My greatest curiosity concerning hedge funds revolves around who benefits from them (and how greatly) and how have they continued to operate in such opaque circumstances after bombastic failures such as Long-Term Capital Management which required bailout supervision by the Federal Reserve. Whenever staggering amounts of money are involved, as is the case with hedge funds and the intelligence community and national security/defense, I sometimes wonder if the breadth and reach of the implications of who benefits and how becomes such a quagmire that any effort to address them with transparency seems disastrous and humiliating at the level of The Emperor’s New Clothes.
In his 30-page course of action to address securities fraud, Mr. Markapolos offers insightful, well-defined, and reasonable solutions; however, he omits two important components: 1) hedge fund transparency/regulation (which is currently being tackled by the Grassley/Levin Hedge Fund Transparency Act and 2) information technology.
If the SEC can learn one thing from the IC, it is the benefit of an integrated information technology system. The SEC, with its twelve offices across the country, along with agencies such as the IRS and DoJ, needs a better way to “talk to each other” (akin to an Intelink) – so the organizations can fluidly share information and utilize communal services to detect fraud. Markopolus’ idea of providing all employees access to a Bloomberg machine (a top-of-the-line financial, regulatory, and market database) is a plainly obvious one, noting that “most SEC offices are lucky to have even one Bloomberg machine for the entire region’s use.” The IC, via the DNI‘s Intelligence Community Enterprise Services (ICES), is provided a set of solutions that include enterprise search, a commnunity-wide wiki, blogs, instant messaging, social bookmarking, document sharing, video sharing, image sharing, and more. Our regulatory agencies need a common suite of tools, the same ones used by private/commericial financial institutions, that allow for greater analytic and data access capabilities.
If the IC can learn one thing from Markopolos and the SEC, it’s that if speaking truth to power is tough, bringing action against power is damn near impossible. Markopolos notes factors such as fear, lack of competence and vested interests as contributors to the abject failure of the regulatory system. His recommendation of creating an Office of the Whistleblower to “centralize the handling and investigation of whistleblower tips” is something the IC could implement to solicit and centralize anti-collaboration activities that would allow all IC members to contribute encountered instances of hoarding and/or resistance to knowledge-sharing in a systemic, protected manner. This would be in line with ICD 501 that strengthens the “sharing, integration, and management of information within the Intelligence Community (IC), and establishes policies for: (1) discovery; and (2) dissemination or retrieval of intelligence and intelligence-related information collected or analysis produced by the IC.”
If the IC and SEC can learn one thing from each other, it’s that while black markets will exist, there needs to be mechanisms to shed light on them.