How Madoff Did It

As details emerged about investment strategy used by Bernie Madoff, seen "skulking" out of his apartment today by New York Post photographers, players on Wall Street said it "raised red flags which should have been obvious to the banks and investment firms that promoted Mr. Madoff." The Wall Street Journal reports that Madoff's strategy involved buying stocks and at the same time trading options contracts designed to limit his losses. But several traders "concluded that while Mr. Madoff's stated strategy was valid it would have been impossible to execute with the amount of money he was managing." A client statement made available to The Journal, showing a typical transaction from November 12, makes this glaringly obvious. That day Mr. Madoff bought his client $500,000 worth of stock and purchased 11 options contracts. To make his strategy work across the wide range of clients he represented, Mr. Madoff would have had to purchase 22,000 options contracts to protect just $1 billion, although he claimed to be representing $17 billion. When Madoff's firm was questioned about this by potential investors they always said that they traded contracts "over-the-counter", meaning off the recorded exchange, leaving open the possibility that his strategy might be possible.