Ponzi Nation
businessweek.com
Wall Street trader Bernard Madoff allegedly defrauds the rich and famous out of tens of billions of dollars. Minnesota businessman Tom Petters allegedly fleeces hedge funds out of $3.5 billion. And socialite New York lawyer Marc Dreier may have duped some hedge funds into giving him hundreds of millions of dollars for an apparently bogus real estate scheme.
All of these scams are big and all appear to be some kind of Ponzi scheme, designed to take in money from new investors to pay-off earlier investors. A Ponzi scheme is one of the oldest financial frauds around. And many are referring to the Madoff caper as the biggest Wall Street fraud ever.
But derivatives consultant Janet Tavakoli may be onto something. In a note to her clients, she says the biggest Ponzi scheme of all may be the one that brought the world financial markets to its knees. And that’s the scheme that united Wall Street bankers with mortgage lenders in a bid to funnel more and more money into the market for supbrime homes loans. She says the packaging of iffy home loans into securitized bonds that could be sold to insitutional investors—many of them relying on borrowed money—was a system born to fail.
“The largest Ponzi scheme in the history of the capital markets is the relationship between failed mortgage lenders and investment banks that securitized the risky overpriced loans and sold these packages to other investors—a Ponzi scheme by every definition applied to Madoff,” says Tavakoli. “These and other related deeds led to the largest global credit meltdown in the history of the world.”
About a year ago, BusinessWeek made a similar point in an article about the two Bear Stearns hedge funds that collapsed in June 2007 and helped spark the credit crisis. The story focused on a novel type of collateralized debt obligation that the managers of the Bear funds used to tap funding from money-market funds. The CDOs which were widely copied on Wall Street helped fuel the market for these esoteric securities, along with the underlying housing boom.
In that article, BusinessWeek likened the new market that the Bear funds helped inspire a pyramid scheme. Or, as Tavakoli says, a Ponzi scheme.
One of the hallmarks of a Ponzi scheme is an investment vehicle that generates consistent, steady returns. That’s what discourages investors from pulling too much money out of the fund—the event that ulimately causes a Ponzi scheme to collapse. One reason so many wealthy people showered money on Madoff is that his fund generated predictable returns—rain or shine.
The Bear funds similiarly generated steady and stable returns before the bottom fell out of the subprime mortgage market. In the final months before the Bear funds collapses, Ralph Cioffi and Matthew Tannin scrambled to find new investor money and other sources of funding. This past summer, federal prosecutors charged Cioffi and Tannin with deceiving investors about the health of the funds and actively discouraging investors from pulling their money out.
Cioffi and Tannin were the first Wall Street executives charged in the financial meltdown. Now you can add Madoff’s name to that list and more are sure to follow. One thing the credit crunch is unearthing are lots of long running scams. Just as money has dried up for legitimate businesses, there’s no money to keep the Ponzi machine going.
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Reader Comments
Karl
December 14, 2008 02:06 PM
Maybe the biggest Ponzi Scheme in the world is simply the United States of America!!!! Look at our stock market, as an example! One year ago today the Dow closed at 13,340. It's now at about 8,650, but that's with OVER $200 BILLION that the FED injected into the Banking System earlier this year BEFORE the $700 BILLION was even a reality!!!! Now, the $700 BILLION grows another $100 BILLION to equal $800 BILLION! And don't forget about China's $500 BILLION that they have/HAD in Treasury bonds! Is it still there? Did they take it out? What about China's other $1 TRILLION that they had invested in the USA, besides the $500 BILLION in Treasury bonds? Did they take it out of the USA? Perhaps the entire U.S. economy is, and HAS BEEN, the biggest PONZI SCHEME in the WORLD? We'll soon find out when '4th QUARTER RESULTS' are posted in January! That's when the TRUTH should all come out!!! Go Harvard!!!!! Go BusinessWeek!!!!! P.S. If investors go to "cash-in" their stocks, 401K's, IRA's......in January & it's NOT there, then the U.S. economy WAS nothing but a PONZI SCHEME, correct? I hope I'm wrong & all is well in the USA, but I'd hate to have money invested in the stock market right now. 90% of all those 401k's & IRA's are invested in the stock market!!!! Say a PRAYER that all is well. Happy Holidays!
Vince
December 14, 2008 02:30 PM
Yes Karl, the us economy is a ponzi scheme. It's also refered to as the Capatlist, boom and bust theory. Some people get rich, most are left eventualy to defend for themselves. Then the process starts all over again, after you have a recession or depression like we are now entering.
Chuck Gaffney
December 14, 2008 02:40 PM
Let's not forget to add Social Security and College Tuition to the list of Ponzi schemes
Carl P
December 14, 2008 02:45 PM
....And many are referring to the Madoff caper as the biggest Wall Street fraud ever.
Are you sure?
One could argue the CDS driven financial crisis resulting in the $1 trillion government bailout, is a bigger Ponzi scheme. Taxpayers (new investors) are funding the exit of old investors - except Goldman Sachs - they are doing just fine.
Anybody out there still want to privatize Social Security?
Its not a Masonic, Illuminati or Skull and Bones conspiracy, lets not be silly. As my father's Godfather would say; Its just business.
Michael
December 14, 2008 02:51 PM
One thing that should be done to prevent these ponzi schemes is to enable individual investors to buy and sell stocks directly; and to declare most of these "investment funds" illegal.
c
December 14, 2008 02:57 PM
us dollar = ponzi scheme no doubt about it.
dollar bills = just worth their recyclable value in my opinion. poj
Ace
December 14, 2008 03:45 PM
The Mark Mitchell article posted here is a hack conspiracy drivel SPAM shtick ran by a group in Utah funded by a rich loon.
Mark is a paid "reporter" lapdog for the wild eyed "Worst CEO Ever" nominee Patrick Byrne of Overstock.com
Tread lightly at that link, they have a bad habit of cyberstalkng folks.
Ching Fu
December 14, 2008 03:58 PM
I agree with Kari that the whole USA is a ponzi scheme. It's surprising that the US institutions and government has managed to 'censor' these info away from the public. Since 1970s when USA stopped backing the US Dollar with gold, they started the biggest ponzi scheme ever - printing money without limit by forcing oil to be traded in US dollar. Getting countries of the world to invest in the US by both carrots and sticks. Who are the investors? Countries like Japan, China, Singapore, etc who invest in US Treasury bills who will one day find them to be worthless. In 2006 the Fed decided to stop revealing M3 data abt the economy - I assume they are printing even more dollars now! The US dollar is not backed by gold. It is backed by the US military hence you have Iraq and possibly Iran as they have all threatened to trade oil in other currencies. But how long can you go on defending the dollar this way? It is a matter of time. Right now the United States is already bankrupt. Its investors (Japan, China, etc) are in a catch 22 situation cos if they decide to pull out their Treasure bills, the value will plummet like no tomorrow and the whole world, including their own economies, will be in a mess. NO ONE HAS A CLUE WHAT TO DO.
Now do you agree that that is the biggest ponzi scheme ever?
Viking
December 14, 2008 04:03 PM
This is not that complicated!!We simply need to go back to the controls of the financial system that were put in place after the Great Depression.These control systems were gradually removed starting in the 1980ies and we see the results now!!The new system should retain FDIC insurance on unlimited deposits in banks to prevent a run on the banks,but otherwise no government backing or subsidies of mortgages or other market activities.Money supply should only be allowed to grow at the rate of the real growth of the economy after inflation and we should have real and transparent reporting and oversight of all financial companies,including hedgefunds.This would probably mean slower growth in the future,but I will take that in exchange for greater stability.Also,can someone please tell me what other countries subsidizes housing the way we do?We must find a way to privatize FANNIE and FREDDIE as we cannot afford to live beyond our means anymore!!
maggie lee
December 14, 2008 04:17 PM
All pension schemes are Ponzi schemes,too.
thebob.bob
December 14, 2008 04:55 PM
The blame lays squarely on the runaway de-regulation ideology of the Republicans. Now we see what happens when Government "gets out of the way" of business.they come up with clever and creative ways to steal.
Peter
December 14, 2008 04:59 PM
Great article. Tavakoli is right.
BTW I am amazed at the number of wacko and yahoo comments about this article.
It was INDEED!
December 14, 2008 05:06 PM
Unfortunately indeed. Manipulated stock markets by hedge funds, investment banks, day traders and shorties. And many IT and DOT.COM companies, hosuing, derivatives, ... Just name a few!
Celia Kent
December 14, 2008 05:51 PM
Great story. This is right on the money.
Alban
December 14, 2008 05:54 PM
If American business and the financial services industry in particular has deteriorated to the level of being one huge Ponzi scheme, perhaps the rest of the world will see our financial centers in New York, Philadelphia, Boston, Chicago, and San Francisco as willing partners in these crimes.
That being the case, I can just hear that great sucking sound as international investments in America go flying out the window.
The question is, who will bail out the Federal Reserve as it comes to their aid? You got it. We the people will. Creating inflation on a scale we thought only Turkey could achieve.
Formyx
December 14, 2008 05:56 PM
As some readers mentioned, social security was designed to be a Ponzi scheme. If that were not enough in comes the PBGC to guarantee private pension Ponzi schemes which assumes that corporations will grow and thrive forever. In fact no such enterprise exists in history which implies that the PBGC will come into play in some form or another to bail them out. Some people may argue about the "Chinese Wall" between the pension fund of a company and the company itself. Go argue that with UAW pensioners.
Bill
December 14, 2008 06:28 PM
We should be grateful that things were not worse. We enacted Sarbanes-Oxley, which I think prevented much worse from happening. The financial companies could value their intangibles, and create products whose value could not be measured; but for most of corporate America, there is not a Ponzi scheme, precisely because of Sarbox.
Watch your pocketbook whenever a Wall Street type says we can't regulate, or our accounting standards have to be losened, in order to compete with other financial centers. To the contrary, insist on more transparency and greater accountability.
Lert
December 14, 2008 06:33 PM
The US dollar (FRN) is the mother of all Ponzi Schemes. The 1950 dollar was worth $.04 in 2006 dollars. Think about that for a minute, 96% purchasing power vaporized in a little over 50 years. Now add in the $7 Trillion bailouts, and I'm sure we are approaching $.00. The end of the US dollar Ponzi Scheme is nearing an end. By a minimum of 2017 in my estimation. All IMO, and FWIW.
Magic Dragon
December 14, 2008 06:36 PM
Capitalism... It brings out the worse in people, not the best!
Aware
December 14, 2008 07:11 PM
Sorry: all wrong. The biggest Ponzi of all is the idea of state-run pensions where today's pensioners are paid from today's contributors who hope to become tomorrow's pensioners. It's precisely the same principle.
And all over the world, they schemes are preparing to unravel because the baby-boomer generation didn't breed fast enough to make sure their kids were paying enough taxes - and now with a depression on our doorsteps, the taxes that should pay those pensions are being used to prop up ailing businesses.
Oops.
Ski
December 14, 2008 07:17 PM
Good article.
The comments being made about China/Japan/Singapore etc rapidly ditching the US$ because it's "worthless" are forgetting the most important issue with respect to fiat currencies: they're all "worthless" in absolute terms but have relative value compared to other currencies. The communist-led Chinese Yuan is NOT a more stable currency than the US$, nor does it have 300 years of pro-capitalist experience on its resume.
If the US$ becomes very inflationary, then so will go all other major currencies, and your only good trade will be into physical assets (leveraged).
GloomBoom.com
December 14, 2008 07:33 PM
I agree that MBS were a Ponzi scheme par excellence. How could they have rated sub-prime based securities AAA? That is fraud, plain and simple. Check out GloomBoom.com - it will make your day!
williambanzai7
December 14, 2008 07:44 PM
HEDGE FUND'S ROASTING ON AN OPEN FIRE
(The Christmas Song)
WilliamBanzai7
Hedgefunds roasting on an open fire
Investors sure to get the hose
Alpha carols being sung by a wealthy choir of the dumb
And regulators dressed up like Eskimos
Everybody knows the hedge hog turkeys and
Madoff's ponzi scheme help to make the seasons blight
SEC examiners with their eyes all aglow
Will find it hard to sleep tonight
They know that billions of losses are on the way
The markets are loaded with cash cows for slaughter
Its the Wall Street way
And ev'ry wealthy grandmother's
Child is gonna spy to see if
Quants, traders and pinstriped conmen really know how to fly
And so, I'm offering this
Simple phrase to investors from
One to ninety-two
Altho' it's been said many times
Many ways
Merry Redemptions to you
Joe
December 14, 2008 07:50 PM
Madoff should oversee the Tarp program. If he can mishandle $50 billion, let's see what he would do with $700 billion1!!
b
December 14, 2008 08:35 PM
Madoff
No body need to worry about this one. oney that is lost was made using such ponzi scheme any way.
These vehicle are not used by individuals only, government is the biggest fraud. Social Security, Fed budget, dollar value, War on Terror, are the monther of all Ponzi scheme that should be brought to light.
Jay
December 14, 2008 09:10 PM
The Universe is a Ponzi scheme too! There, I think we covered everything.
PC
December 14, 2008 10:34 PM
United We Ponzi
billythekid
December 14, 2008 10:58 PM
the vast majority of you posting on this board have lost a lot of money. you're gloomy and scared. Everyone is moving to cash. T-Bills are at 0% as a result. It seems the world is hoarding US Treasuries or the yield would not be so low. It doesn't look like they are dumping them. Gold is lower than it was 6 months ago. Stocks are 50% cheaper. The time to have been scared was when the S&P was 35% higher. In Greenwich, you can buy 4 acres for a little over $2 million. This is dirt cheap compared to any other suburb of any major city in the world. Try buying 4 acres outside Paris or Mumbai for $2 million. Same thing with Beverly Hills. All of those Chinese and Japanese dollars, if they can't spend it on American goods, will be spent on La Jolla, Santa Barbara, and Pacific Heights real estate. You watch.
joe
December 15, 2008 12:10 AM
Madoff ran a multi-billion dollar Bonzi scheme by paying old investors with money from new investors. Our government is doing almost the same scheme by paying old foreign debtors with money from new foreign debtors. The only difference is the scale. It's multi-trillion scheme.
Bunchy Carter
December 15, 2008 12:30 AM
What about the DOW?
MSFT/Microsoft peaked in 2000 at about 60.
Now it's 19. All during this time the insiders sold off hundreds of millions of shares while promoting "Vista/Longhorn" as an OS that would redefine the computer.
Instead it killed the desktop PC market entirely. Again, check the insider trading roster on Yahoo and you'll see that 100s of millions of cash were transferred out of the market for 8 long years.
It's ok to focus on the loose cannons like Maddow -- but how about the crooks that rob us daily inside and out?
adilmkassim
December 15, 2008 12:31 AM
To all those fellows who wrote and agreed about Ponzis,
I fully concur!!!
The question however is... do ANY of you bright sparks have an idea for an alternative??
and if you do... do you have the gumption to pull it off??
If you do plese step up cos the world sure need you now!!
Docto Genius
December 15, 2008 12:53 AM
I just have one question for you sheeple out there:
Who did the borrowing that started this Ponzi scheme?
A: the average American SHEEP!
He is the cattle that walked into the bank during the housing boom days and DEMANDED A LOAN in order to get rich quick! The blame lies solely on the sheeple and thus the SUFFERING shall affect solely the sheeple.
Roy
December 15, 2008 01:14 AM
America where it is admirable to make money off other people's money and or
other people.
Ponzi's last interview he said with ever so slight humility "Even if they never got anything for it, it was cheap at that price."
Sam
December 15, 2008 01:18 AM
It is interesting that banks are above the investigation, while they've bought and sold the highest volume of junk-mortgage-packages, especially to foreign banks - to accept real money, while selling fake or wealth that was created off of thin air! Clever!
I guess it is easy to find a few individual scapegoats, that are less powerful than banks, and have lesser number of congressmen supporting them.
IvanTheLessTerribleFed
December 15, 2008 01:27 AM
All banks are Ponzi schemes with the same fate.
Rob
December 15, 2008 07:45 AM
Bill, you are absolutely correct with your Sarbanes-Oxley comment. The article is also correct as are many comments, there's no shortage of Ponzi schemes out there. The solution isn't difficult - the government just needs to do it's job and ensure regulations exist and are enforced (laws - isn't that why we have governments?) to ensure TRANSPARENCY in financial reporting. If financial reporting is REQUIRED to be transparent there's no room for Ponzi schemes.
jamesinflorida
December 15, 2008 08:23 AM
Based upon the new revelations about the Madoff affair, the regulators, by in large, can't catch anyone until the fresh money to fund the ponzi runs out. The collapse of the investment banking cesspool will flush out the con men, no fresh fools to con... this is actually quite fun to watch. As a small businessman who, over the past twenty years, has attempted to fund real businesses that make real profits, the competition from the likes of 'petfoods.com' and other crazy 'concepts' drove real businesses out of the fund raising markets because they were promoted by, yes, the big investment houses. I love to see their pain now. The only question is how big will they build the jails to house them, oh, no, we have secretary Paulson to bail them out again.
Jason Usborne
December 15, 2008 09:22 AM
For all the doom and gloom, there is a ray of light-like a forest fire, it clears the dead wood to make room for new life. We as a people have a GOLDEN opportunity to redefine and retool and transform this nation.
Yes, it is production that generates true wealth, not loans. So if we can fork over $700 B to fraudsters, certainly we can afford a mass of FAB labs at $50k per unit. Here is a link to a video that describes them:
principalvoices.com
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Businessweek’s Lauren Young, Aaron Pressman, Matthew Goldstein, Emily Thornton, Amy Feldman, Ben Levisohn, and Ben Steverman focus on matters great and small for investors, from the views of a hot fund manager to an explanation of the latest products devised by Wall Street’s rocket scientists. Exploring trends in any area, from bonds and stocks to closed-end funds and futures, always with an eye towards giving investors a better understanding of the sometimes confusing and often chaotic world of finance. Standard & Poor’s senior index analyst Howard Silverblatt will also provide his take on companies’ finances and the markets. Voted one of the “Top 100 Finance Blogs” in 2007.
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