No One Would Listen: A True Financial Thriller by Harry Markopolos (rainbow fish read aloud .txt) 📗

a typed list of the documents and records they wished to examine. They handed this list to our compliance officer, who escorted the examiners to a conference room where they could diligently inspect the piles of documents and records we provided to them. If we were corrupt—if any firm is corrupt—we easily could have kept a second set of falsified but pristine records, committing the equivalent of mass financial murder, and gotten away with it, just as long as the documents and records shown to the inspection team were in compliance.

Yes, it is that simple.

That particular inspection team wouldn’t have been able to find a batter in the batter’s box. First, it interacted only with the firm’s compliance team, not the traders, not the portfolio managers, and not the client service officers; they didn’t even speak to the people who ran the place, top management. The examiners sat there looking at papers, rather than taking advantage of the tremendous human intelligence—gathering opportunities who happened to be sitting a few feet away. They’re called people, and you can’t make a good pile of them, but they have a lot of information about those papers. The SEC examination teams should send their so-called experts onto the trading floors and into the portfolio manager’s office to ask leading, probing questions. Here’s an example of one of those questions: Is there anything going on here that is suspicious, unethical, or even illegal that I should know about? Are you personally aware of any suspicious, unethical, or even illegal activity at any competing firms that we should know about?

The SEC examiner should point out that it is a felony to lie to an official of the federal government—even without taking an oath—and then hand them a business card, making it easy to call an examiner if they should see any illegal activity. This isn’t rocket science, it isn’t brain surgery, and it isn’t even supermarket bagging; these are basic internal auditing techniques. But the SEC staff is so untrained that for them it is rocket science, because these examiners are so inexperienced and unfamiliar with financial concepts that they clearly are either afraid or embarrassed to interact with industry professionals; instead, they choose to remain isolated in conference rooms looking at paperwork.

The current examination process is an insult to common sense—as well as a waste of taxpayer dollars. It is essential that examiners interact with industry professionals and talk to them about what’s going on inside their firm and what they know about their competitors.

The examination teams should be made up of people with various types of expertise. You certainly need a subject matter expert on each team, at least one person who is familiar with the area being investigated. Then you need an investment professional, someone from the industry who knows precisely what to look for. And you also need an accountant on the team capable of combing financial statements until every flea shakes out.

Currently the SEC measures the performance of a regional office by the number of exams it conducts annually, a totally worthless statistic. The SEC’s stated mission is to protect investors and to find or prevent fraud. As David Kotz’s report has shown, conducting poorly planned and executed exams and then promoting staff based on the completion of those exams is not a deterrent to fraud. Incredibly, people involved in the Madoff examination were promoted. The goal should never be how many pieces of paper were inspected, but rather how much fraud was caught or prevented.

The success metrics the SEC should use to determine the value of its examination teams are income from fines, dollar damages recovered for investors, dollar damages prevented, and the number of complaints received from Congress complaining about the severity of those fines or the thoroughness of the agency’s investigation. The way exams are currently conducted, they catch so little major fraud as to be worthless, unless someone actually believes that compiling minor technical violations stops fraud.

Until the SEC puts professionals on these examination teams and allows them to conduct thorough examinations, the odds of uncovering the next Bernie Madoff—and Bernie was not out there alone—are minuscule at best.

Fourth, money talks business. The only way the SEC is going to attract those qualified industry professionals it needs is to increase its pay scale and offer incentive compensation tied to how much in enforcement revenue each office collects. Make it financially worthwhile to do this job right. The SEC pays peanuts and then wonders how it ended up with so many monkeys. Firms in the financial industry pay a salary plus a bonus and to attract the best talent; the SEC needs to be competitive. Obviously SEC Commissioners would be setting the levels of fines for enforcement actions, but each SEC regional office should keep some percentage—I recommend 10 percent to start—which would form an office bonus pool.

If you want to motivate enforcement officers, a pile of bonus money will light that fire. Staff members should be given a proper incentive; believe me, if there is a bonus at stake and someone tries to stop a staff member from bringing a big case, the staffer will roll over the obstacle with a bulldozer to get that case in the door.

Regional enforcement teams that uncover a $100 million case should be compensated for that. And to prevent taxpayers from having to pay these multimillion-dollar bonuses, I would insist that the fines be triple the amount of actual damages and that the guilty firms pay the cost of the government investigation—so the SEC staff bonuses given out for uncovering fraud are paid by the people and companies committing those frauds.

In the financial centers like New York and Boston, where the cost of living is high, I believe base compensation should be $200,000. That’s a salary level sufficient to attract the brightest and most experienced industry professionals. Compensation above that would need to come from each regional office’s bonus pool and be tied directly to revenues from fines each office generates.