Emotion Key in Madoff Scandal

If people had invested rationally and not with their emotions, they might have avoided the Bernard Madoff scheme, a local investment manager told the Millburn-Short Hills Chamber of Commerce luncheon Wednesday.

Ken Majmudar, managing partner for the Ridgewood Group, spoke to the group about the multi-billion dollar scandal and investing in today's economic climate.

Madoff ran the Ponzi scheme, which sucked in several prominent investors, for more than 20 years, Majmudar noted. Madoff would take money from an expanding group of new investors to pay attractive rates of return to his existing investors, in what investigators say was a classic Ponzi scheme.

Over the years of the scheme, Madoff did not invest in any stocks, Majmuder said, but people thought they were getting high returns in what was believed to be an exclusive club. The two factors made Madoff popular among investors.

The scheme was only uncovered when investors collectively asked for $7 billion last fall and only about $300 million was available.

"He knew he was days away from the scheme being uncovered," Majmudar said at the luncheon at Enzzo's Restaurant.

The problem was many investors were lulled into complacency because times were good with Madoff, he said, but they should have been asking why they were doing well while others were losing money. "No one scrutinized his strategy," he said. "The fraud was that his returns were not possible."

If anyone had done the math on Madoff's strategy, he said, they would have found they would never get the steady returns he was providing.

The Securities Exchange Commission also is in trouble, Majmudar said, because they had been warned several times about Madoff. Now, he said, it's likely the SEC will review every letter and raid companies.

"They basically blew it," he said, while saying the SEC has a hard job to do. "They should have caught it."

Madoff also was the custodian of his investors' assets, which most financial planners do not do. Don't let an adviser be the custodian of the assets, Majmudar warned. "If they had done that, the Madoff thing would have never happened."

Majmudar listed five mistakes investors should avoid:

• making investment decisions that are based on emotion rather than rational thinking
• borrowing money to make investments
• ignoring value
• following the crowd
• not thinking long-term

"They all came into play with the Madoff scandal," he said.

Some investors thought Madoff was so great they borrowed money to invest with him.

"A lot of what you see in the market today is because of emotion," Majmudar said. The continual drop is "a reflection of people operating out of panic and not reason."