The Madoff Files: A Chronicle of SEC Failure

Over and Over, Agency Skipped 'Basic' Steps to Find Fraud, Report Says

Washington's top cop for Wall Street, hamstrung by bureaucracy and inexperienced investigators, failed to thoroughly pursue multiple warnings about Bernard L. Madoff's multibillion-dollar Ponzi scheme, according to a scathing new critique of the Securities and Exchange Commission by its internal watchdog.

The report, issued Wednesday by the commission's inspector general, offers the first detailed examination of one of the agency's most public embarrassments.

It says the SEC received repeated allegations that Madoff was probably cheating investors, including detailed road maps provided by outside businessmen, only to fail to discover the fraud.

The SEC opened inquiries five times in a 16-year period. But in each instance, inexperienced officials, at times ignorant of other agency probes into Madoff, took his explanations at face value and did little to verify them.

Madoff himself told the inspector general that he was "astonished" that the SEC did not verify whether he was carrying out the billions of dollars of trades he claimed to be making after he supplied the agency with account details.

"The SEC never properly examined or investigated Madoff's trading and never took the necessary, but basic, steps to determine if Madoff was operating a Ponzi scheme," the inspector general, H. David Kotz, concludes in the report.

The extensive number of contacts between the SEC and Madoff raises questions about whether the agency is capable of spotting and stopping other financial frauds. The SEC has said it doesn't have the resources necessary to oversee the exploding number of financial firms and can review many of them only once every few years. It became aware of Madoff's fraud only when he confessed to it in December.

The financial crisis has exposed many breakdowns in regulation, but none has involved such a large fraud by a single person. The inspector general's report "makes clear that the agency missed numerous opportunities to discover the fraud," SEC Chairman Mary L. Schapiro said. "It is a failure that we continue to regret, and one that has led us to reform in many ways how we regulate markets and protect investors."

Federal prosecutors say Madoff may have stolen up to $65 billion from his clients. He claimed that he engaged in a highly specialized trading strategy that persistently beat the market, but in fact, he did little trading and instead used proceeds from some investors to pay others.

His fraud left thousands of clients, including charities, retirees and celebrities, devastated. Madoff is serving a 150-year sentence in a federal prison in North Carolina.

The inspector general's report concludes that the agency's failings were the result of misjudgments but not improprieties. It says that no SEC officials who worked on the review of Madoff's firm had "any financial or other inappropriate connection with Bernard Madoff or the Madoff family that influenced the conduct of their examination or investigative work."

The report, in particular, exonerates Eric Swanson, a former SEC official who worked on a Madoff probe and later married Madoff's niece Shana, who was a compliance officer at his firm.