Retirement Lessons to Learn From Madoff’s Ponzi Scheme

by Marc Bastow | September 18, 2012 7:15 am

I just finished up reading a fascinating — and in many ways, disconcerting — book by Diana B. Henriques titled The Wizard of Lies: Bernie Madoff and the Death of Trust that details the rise, fall and fallout of the biggest Ponzi scheme in history.

And in case you need some framework for that last sentence, consider the amount of money involved in this scheme: $62 billion. Yes, that’s right: $62 billion.

The scheme was monetary globalization writ large, with investors small, large and enormous located in virtually every corner of the financial world getting caught up in big returns, glossy names and the hubris of a born conman.

However, what investors in general and retirees or near-retirees can learn is invaluable, and summed up dramatically by Henriques:

“What went wrong (in the scandal) was their (investor) rejection of bedrock principles of investing — that high returns are leg-shackled to high risks; that you should never put all your eggs in one basket; that you should never invest in something you cannot understand. They failed to see that no one should hand all their money over to someone simply because they trust him, or because someone they admire trusts him.”

Simple, eloquent and true, and each worth a deeper look:

High returns are leg-shackled to high risk: If anyone thinks there is no correlation between risk and return, they need to do some serious research. If you want big rewards, you generally need to take on high risks. It’s just that simple. The consistent payouts of nearly 8% that Madoff investors expected (and got) year in and year out regardless of market performance is just not possible over an extended (15-year) period of time, particularly when the market strategy is based on options pricing models. If anyone tells you that big returns are “guaranteed” and there is little to no risk on your end, walk away!

You should never put all your eggs in one basket: That advice is relevant virtually no matter when you start or what stage of the process you find yourself in today. A close relative of mine is a fairly shrewd investor, having put himself in Apple (NASDAQ:AAPL[1]) some time ago. He’s already getting a call from his (very wise) broker to look at his investment in terms of overweighting in his portfolio. Scare tactic? Heck no! Prudent discussion! Keep an eye on your portfolio, and do what everyone in legitimate business suggests by balancing your needs[2] as required to avoid the significant risks of a one-stock wonder. The same advice goes for bonds, options, real estate … in fact, virtually any asset. The point is not the asset; it is diversification.

Never invest in something you don’t understand: I’ve taken this stand on so many occasions that people are sick of me when I get up on the soapbox[3]. I suspect many of Madoff’s investors, including some of his original feeder-fund hot-shots, truly did not understand (or did not want to understand) his strategies. If you can’t sketch out on the back of an envelope what it is you are investing, how much it costs and what the risk to your capital is, you should not be in that investment vehicle. Think that doesn’t apply to the big corporations, too? It’s plausible to suggest that the risk and credit managers at JPMorgan Chase (NYSE:JPM[4]), and even CEO Jamie Dimon, really didn’t understand the depth and level of risk they were under through the “London Whale” trading desk[5]. If JPM isn’t a “sophisticated” investor, neither are most of us, and we should learn that lesson well.

No one should hand all their money over to one person on trust: After my dad passed, my mother decided to consolidate what seemed to me to be way too many accounts. However, she still maintains enough accounts to be diversified across brokers and mutual funds, with no one account representing too much of her hard-earned money. You don’t need to have myriad advisers, but what you do need is at least more than one voice — and in particular, more than one vehicle — for your investments. It’s pretty much the same advice as “all your eggs in one basket.” It’s nice that you trust someone, but in so many cases that trust can lead your portfolio down a rabbit hole.

So no matter what your age or investment status, take heed of the lessons learned along the way.

Marc Bastow is an Assistant Editor at As of this writing, he was long AAPL.

  1. AAPL:
  2. balancing your needs:
  3. get up on the soapbox:
  4. JPM:
  5. “London Whale” trading desk:

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