From the February 2009 issue of Boomer Market Advisor • Subscribe!

What Madoff means to independent advisors

Bernard Madoff. Once a name revered on Wall Street now reviled. For decades, access to his firm was a prize for advisors and registered reps. Imagine, the status attendant to the privilege of investing with a luminary of the securities industry. Two digits to the left of "million under management" would not even be a ticket to a returned telephone call. For more than 30 years, the footsteps of Bernard Madoff were perceived as the path to gold.

The world is watching how quickly - in an instant - a reputation can disintegrate. For years, the wish was to show clients that some funds were under Madoff management. The Madoff imprimatur could portend a larger portfolio to manage and access to more prestigious clients. Now, the greatest relief for anyone managing funds is the ability to say there was no Madoff rolodex card. If that's the case, why not just sit back and watch the spectacle and be grateful that your name is not on the made-off-with funds list?

In short, the magnitude and breadth of the Bernard Madoff scandal, albeit yet unknown with specificity, nevertheless will bring widespread regulatory change to all managers of funds. But, even before the regulation spigot opens, the watchful eyes of the maligned financial regulators will wreak vengeance on the advisors and reps of the world.

The Madoff debacle has many lessons. A focus right now should be the immediate impact on those who have managed funds and advised clients successfully. The logical starting point is what triggered the Madoff confession to his sons and the FBI. The answer is not some inspiration to come clean in his advancing years. In fact, around December 1, Madoff pilfered $250 million from a 95-year-old philanthropist and entrepreneur, his mentor and valued client for nearly half a century, in a last-ditch effort to prevent the house of cards from falling. Redemption, not of a spiritual ilk, but what a fund investor might demand when in need of increasing personal liquidity or an abandonment of fund manager loyalty for the next great manager, is what triggered the Madoff demise. Redemption demands certainly follow close examinations and reevaluations by clients of asset management success. True, economic conditions have precipitated a marked and unprecedented change in the appetite for maintaining investments in equity and debt instruments. But the lesson du jour is scrutiny; the medicine is transparency. Fund managers will benefit from communicating with clients - accredited and un-accredited investors, sophisticated and unsophisticated investors, individuals and institutions - about the portfolio is strategy and components.

So too will the watchdogs be interested in the level of transparency. Is the fund manager following the published, advertised or promised strategy? Are the investments suitable? When the investigators or examiners pay their courtesy calls, does the advisor have all client account documentation in order and required compliance procedures in place? The circle comes back around to reputation. A direct and immediate impact of the Madoff-driven inquiry of "where were the watchdogs?" will be the fanning out across the country to inspect more closely. Enforcement cases are the currency of principal value for regulators; injunctions, cease-and-desist orders and, in the more egregious scenarios, criminal prosecutions, are the statistics that regulators parade before Congress. Before they hit the doorstep, the first Madoff lesson is to ensure that the house is in order for the guests you hope will not arrive.

Jacob S. Frenkel is a partner in the law firm Shulman, Rogers, Gandal, Pordy & Ecker, P.A. in Rockville, Maryland. He is a former SEC Enforcement lawyer and former federal prosecutor who chairs his law firm's Securities Enforcement and White-Collar Criminal Practice Group.

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