The second item supplied to the SEC was a brief no-nonsense letter that Lola Kurland, the office manager at Avellino & Bienes, had sent out in response to an investor’s query in August 1991. It stated that the firm provided financial services only to “relatives, friends and former clients . . . a very private group.” The letter’s arch style was pure Avellino. “We do not encourage new accounts and therefore we do not solicit same,” it said. “Summarily, this is a very private group and no financial statements, prospectuses or brochures have been printed or are available.”
Both documents made it clear that the participants’ money would be treated as a loan to the firm, which would use it to invest in its own accounts with the unidentified New York broker.
The documents also made it clear—at least to the lawyers in the SEC’s New York office—that there was something very fishy about the King Arthur Account.
One of those lawyers got in touch with Frank Avellino.
Avellino could not have been shocked to hear from the SEC. A short time earlier, he had received a call from his friend Richard Glantz, an attorney in California. Glantz’s father had been an officemate at the old Alpern firm and was one of the earliest subcontractors to raise money for the Madoff accounts. The younger Glantz had shared in that business and steered others to it.
Avellino bantered a bit and then listened in growing horror as Glantz explained why he had rung. He said that an investment adviser he introduced to Avellino in 1989 had just gotten a letter from the SEC with a warning about the King Arthur fact sheet that the adviser had been distributing. Avellino might hear from the regulators himself, Glantz said.
Then the predicted call from the SEC came in. Avellino promptly phoned Michael Bienes, who recalled the conversation years later: “I gotta tell you something. We got a call from the SEC, and they’re asking questions,” Avellino said.
The questions were about “some guy out in California” who was funnelling money to Avellino & Bienes through Glantz. This California guy “was printing up brochures with our name on it,” Avellino continued. Of course, this violated the pair’s long-standing prohibition on providing any written sales material to customers.
“Oh my God, no. What is he, insane? He knows the rule,” Bienes responded. “Anyone who deals with us knows the rules. What happened?”
“Well, they’re coming over to see us.”
Avellino clearly took the lead in dealing with the SEC’s interest in the firm. So, most likely, he was the one who called and broke the news to Bernie Madoff.
Madoff did two things. First, he called his friend and longtime investor Howard Squadron and asked if his law firm would take on the case. Squadron steered the call to his partner Ira Lee “Ike” Sorkin, a stocky man with an expressive face and thick greying hair who had joined the firm in 1976 after three years as a staff attorney in the SEC’s New York office and a busy five-year stint as a federal prosecutor.
In 1992, Ike Sorkin knew Bernie Madoff only slightly—a few quick chats at benefit dinners for the Jewish philanthropies they both supported, nothing more. But he knew almost every A-list securities defence lawyer in Manhattan and had worked with or tried cases against many of them. He spoke the SEC’s language fluently. In 1984 he had briefly left the Squadron firm to return to the SEC, whose New York office was in disarray as the agency wrestled with the changes John Shad was implementing. For the next two years, he ran the New York office as its administrator; then he happily returned to the Squadron firm.
After lining up an effective lawyer for the two accountants, Madoff also began a frantic effort to create phoney records that would back up their claims about how much money was in their Madoff accounts. The effort left a paper trail that would be reconstructed by the bankruptcy trustee more than fifteen years later—a trail that provides some of the most persuasive evidence available that Madoff’s fraud was up and running well before this encounter with the SEC.
When the SEC staffers first contacted Frank Avellino in June 1992, the conversation only increased their suspicions. One of them noted in a subsequent memo: “When asked what he does with the money borrowed, Avellino stated that he invests money in real estate and ‘some securities’. ”
But Kurland’s August 1991 letter had been emphatic: “We do not deal in real estate [property] or anything other than securities.” And the fact sheet from the California investment adviser did not mention real estate.
Avellino’s credibility was already crumbling.
Shortly thereafter, someone from the SEC team got a call from Ike Sorkin saying he represented the partners at Avellino & Bienes. He assured the investigators that “nothing inappropriate” was going on and offered to bring in the two men to talk voluntarily, without a subpoena. His clients’ story was that they borrowed money through a word-of-mouth network and made interest payments to the lenders from the profits they made by investing the borrowed money. Whatever profits were left over, they kept.
At 1:30 PM on July 7, 1992, Frank Avellino and Michael Bienes arrived at the SEC’s downtown offices at 75 Park Place, an undistinguished building two blocks west of the famous Woolworth Building. With them were Sorkin, one of his partners, and a summer intern from the firm. Flushed from the July heat, they were shown to a fourteenth-floor conference room, where three SEC lawyers and another summer intern were seated across the table. For the next four hours, Sorkin would do his job, sparring repeatedly with the SEC lawyers. They listened patiently and directed more questions at Frank Avellino, who responded alternately with windy lectures or terse roadblocks.
“Mr Avellino,” one of the SEC lawyers asked, “what type of business is Avellino & Bienes in?”
“Private investing,” Avellino responded.
“Could you elaborate on that?”
“Yes. Michael Bienes and Frank Avellino have private investments,” Avellino answered, falling into his habit of avoiding the pronoun “I”.
Eventually, he explained how the “very private group” served by his partnership had grown by word of mouth, without the partners soliciting any business.
“If Lola Kurland gets a call—it’s usually my Uncle Lou who would call up Lola, because he’s been there since Day One with me—he would say that Joe, John, Tom, ‘will be calling you and he is somebody related to me, so if they call, you can accept the call,’ ” Avellino said.
And just how many people had loaned money to Avellino & Bienes through this folksy tag-team process?
“Approximate guess?” Avellino asked.
“Yes,” the government lawyer answered.
“About a thousand.”
It’s not clear if the SEC staff already knew how big this case was. If not, this must have been a heavy moment.
And how much did Avellino & Bienes owe to those one thousand lenders?
Sorkin broke in to quibble about how much money had flowed in and when it had come, but Avellino’s answer made it into the transcript: “$400 million.”
Roughly a thousand people had about $400 million tied up in this little firm that operated out of the Wall Street equivalent of a broom closet. According to Avellino, all that cash—plus a “cushion” of cash that brought the total to roughly $440 million—was invested in securities held in various partnership accounts with a Wall Street broker named Bernard L. Madoff.
The SEC lawyer did not seem to recognize the name.
When the accounts were finally analysed, it turned out that a “very private group” of more than 3,200 people were listed as lenders to Avellino & Bienes, receiving interest payments ranging from 13.5 to 20 percent.
Two days later, a team from the SEC showed up at the Avellino & Bienes offices on the eighth floor of the soaring new Heron Tower on East Fifty-fifth Street. (Apparently concerned about rumours, Sorkin asked the investigators not to “badge” the building’s reception desk in the lobby—just to give their names, without showing their government credentials or disclosing their employer.) They gathered records and started piecing toget
her the universe of creditors.
One of those creditors was Telfran Associates, whose founding partners included the father of Avellino’s friend Richard Glantz. Regulators told Avellino & Bienes and Telfran to stop accepting fresh “loans” and began to frame a civil lawsuit accusing them of selling unregistered securities through what amounted to an illicit mutual fund. Regulators anxiously sought assurances that the money was all still there, safely invested with Bernie Madoff.
Was it?
Madoff would insist later that he had not yet begun his Ponzi scheme when the SEC came after Avellino & Bienes—that the money was all there, all invested in arbitrage trading—but that does not seem credible. Even his faithful lieutenant Frank DiPascali acknowledged as much in an off-the-cuff remark to a federal judge years later, saying that he first realized he was engaged in a fraud “in the late ’80s or early ’90s.”
A civil lawsuit in the Madoff bankruptcy case would later assert that Avellino and Bienes had lied to the SEC about how much money was supposed to be in their Madoff accounts. According to that lawsuit, the balance actually shown on their account statements did not include the promised “cushion” of cash; rather, it was almost $30 million short of the total the two accountants owed their investors.
The lawsuit claimed that this shortfall was a result of the fraudulent use of the investors’ money for the accountants’ own benefit—an allegation their lawyers denied—and that Madoff covered for them. He did this, the lawsuit contended, by creating a phoney account on June 23, 1992, and falsifying enough backdated trading profits in the new account to magically close the gap and forestall regulatory suspicion.
The entire episode was a gruelling test for Madoff. A subsequent lawsuit would claim that the ordeal wound up costing him nearly $60 million in elaborately concealed hush money in the years to come. It also bore down on Frank DiPascali, the secondary school graduate who had made himself useful in so many ways since he was hired in 1975. He had been generating the account statements that were sent out regularly to customers, assisted by other close associates on the small staff devoted to Madoff’s investment clients. Even after Madoff launched his fraud, these statements continued to look sufficiently convincing to deflect any sceptical inquiry from investors, largely thanks to DiPascali.
But constructing those records was nursery room fraud compared with the task posed by the SEC investigation in the summer of 1992. If the Ponzi scheme was already up and running, as seems likely, Madoff had to produce trading records for seven Avellino & Bienes accounts that would show the necessary volume of consistently profitable trades, going back at least several years. These records had to be convincing enough for federal regulators, not just for customers and private accountants. And they were needed immediately—before the SEC showed up to look at the documents on file at the accounting firm.
DiPascali, a small terrier-like man with the unpolished speech of his native Queens, came through for Madoff. Using self-taught computer skills and the historical stock and options prices available to any brokerage firm, he created a convincing paper trail covering several years of complex trading activity that almost certainly had never occurred. Based on those phoney records, an SEC lawyer later reported that his staff had “analyzed” the Avellino & Bienes trading accounts at the Madoff firm, “verifying the equity value in these accounts.” A footnote showed that Madoff had fluently explained it all to them, as he would for years to come, with calm confidence and trading terminology that was most likely over their heads.
Still, DiPascali’s fabricated records and Madoff’s deft conversations with regulators unschooled in current trading jargon were just delaying tactics—necessary but nowhere near sufficient to keep the trap from snapping shut. Within months, the SEC would get a court order requiring Madoff to return the $400 million to Avellino & Bienes’s customers by the end of November 1992.
Madoff later acknowledged that this cash demand posed difficulties for him, although he denied it was because he was already running a Ponzi scheme. Rather, he claimed it was because the “bona fide arbitrage” positions in the Avellino & Bienes accounts, like the arcane “synthetic” trades in the accounts of his other big clients, could not be easily or rapidly liquidated. “I was actually doing the trades,” he insisted. But most likely, there were no convertible bonds or preferred stocks in the Avellino & Bienes accounts.
Still, even Madoff conceded that he urgently needed about $400 million, and there were a limited number of ways he could get it. According to him, he raised the cash from three of his biggest clients: Carl Shapiro, Jeffry Picower, and Norman Levy. The three men simply agreed to “take over the positions” in the Avellino & Bienes accounts and put in fresh cash to do so, Madoff claimed. “Shapiro, Picower, and Levy all sent in actual money, new money,” he said.
Records unearthed in subsequent investigations confirm that Madoff got a lot of the cash he needed from the accounts of Norman Levy. They do not show if he did so with Levy’s permission, or even his knowledge.
It is possible that Levy really did think he was “taking over” the investments that supposedly had been in the Avellino & Bienes accounts, without knowing they were fictional. Or it is possible that Madoff, who had discretion over Levy’s accounts, simply moved the fake positions into his account to explain where the money had gone. After all, DiPascali could doctor the account statements as necessary.
What seems hugely unlikely to everyone who knew Norman Levy is that he knowingly helped Bernie Madoff preserve his Ponzi scheme. After all, Levy later named Madoff as an executor of his estate and let his two children entrust their foundation endowments and some of their personal wealth to him, an inexplicable expression of faith if he believed Madoff to be a crook.
Whatever stratagem Madoff used to get cash from Levy would have worked just as well with Picower and Shapiro. By late November, Madoff had scraped together the money he needed to placate the SEC regulators, who did not inquire where he got it or pursue any of the intriguing loose ends that dangled around the case.
In the meantime, Frank Avellino, a millionaire many times over, haggled for months over the $429,000 in fees charged by the auditor the SEC had forced him to hire. “I am not a cash cow and I will not be milked,” he said in a memorable affidavit filed in that dispute. “I personally oversaw Avellino & Bienes’ books and records,” he told the court. “In all the years that we ran our business prior to the intervention of the Securities and Exchange Commission, we did not receive any unresolved complaints from our lenders. We were never sued by a lender. We did not miss our interest payments.”
The problem, he said, was that the accountants were demanding all sorts of sophisticated records that simply did not exist, that had never existed. All the firm had was a few sheets of paper for each lender, so that was all it could turn over to the accountants.
By the time the dispute dragged to a close in the spring of 1993, not even the federal judge handling the case had much faith in Frank Avellino. “I don’t believe your client,” the judge bluntly told Ike Sorkin in court. “I heard his testimony, I saw his demeanour, I heard his inconsistencies. . . . I don’t believe him. So to the extent there are credibility issues to resolve, I resolve them against your client.”
The case, which began and ended with doubts about Frank Avellino’s honesty, was a parade of red flags. And the Wall Street Journal hung some of those flags out in the open with a modest article on December 17, 1992, detailing the SEC’s investigation of a money trail that ended at Madoff’s door. But the warnings were not pursued, to Madoff’s intense relief; paradoxically, some investors were actually reassured by the Journal article about Madoff. It accused him of nothing, after all.
The SEC lawyers breathed a sigh of relief, too, thinking they had returned $400 million to thousands of investors who had innocently wandered into a flimsy, unregistered, and unregulated mutual fund. On top of the disputed audit expenses, the $350,000 fine imposed on Avellino & Bienes was large by the standards of the
day. The unregistered investment operation and its Telfran subsidiary were shut down.
The SEC was satisfied and moved on to other issues. One of the sad quirks of the Madoff case is that, of his thousands of investors, the only ones who could have recovered all the fictional wealth shown on their account statements and kept any money they had withdrawn in the past were those clients of Avellino & Bienes who took the money the SEC returned to them in 1992 and walked away.
Most of them didn’t do that. They didn’t realize that they had been rescued. They thought instead that they had been banished from Eden, shut out of a wonderful low-risk investment that still paid good interest rates. So they were delighted when Madoff invited them all to open new accounts directly with him, even if the rates were lower than they had been getting from Avellino & Bienes. Most of the money Madoff had paid out was put right back into his hands.
What role did Avellino and Bienes play in restoring that cash to Madoff’s Ponzi scheme? They denied that they were involved at all, with Bienes publicly insisting they were both just glad to get out of their inadvertent SEC difficulties and walk away from their Madoff business relatively unscathed.
Bernie Madoff, The Wizard of Lies Page 14