How Madoff's scam worked

CBS:

It's easy, when you're inventing investment account statements out of whole cloth, to make yourself look like a financial wizard.

Or maybe it isn't. Bernard Madoff put quite a bit of work into it.

What's clear from the evidence against him is that Madoff never really invested a penny of the $65 billion investors trusted to him. It's not like the guy was skimming a little off the top of his transactons. He didn't buy or sell a share of anything on his investors' behalf. He just took the money and sent back made-up statements.

But like any good con artist, Madoff had to give his marks something to believe in. And he did.

According to charging documents, Madoff pitched investors a strategy he called "split strike conversion" that involved investing in a basket of 35-50 stocks from the S&P 100 (the 100 largest publicly-traded companies in the United States). He promised to "opportunistically time" his purchases and he said he was pulling out of the market occasionally and rolling the money into Treasury notes.

And he said he was using option contracts, particularly "put" options that allow the holder to sell stocks at a certain price, to "[limit] potential losses caused by unpredictable changes in stock prices."

Naturally, the Madoff firm had an office and a staff. No matter that the employees had "little or no prior pertinent training or experience in the securities industry," according to the charging documents. They sent out the statements showing that Madoff had delivered on his promise of 12, 20 or even 46 percent gains, month after month.

Madoff also moved money from his New York-based business to a London-based business in his name, helping him, in turn, "give the appearance that he was conducting securities transactions in Europe on behalf of the investors, when, in fact, he was not conducting such transactions."

As for the occasional investor who asked to withdraw their money, Madoff simply paid them with someone else's, drawing from the vast operating account he was sitting on.

Ironically, these people who withdrew - for whatever reason - from Madoff's firm are the only ones who really did receive the imaginary gains.

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An audit should have revealed this scam. The auditor is supposed to verify the transactions. A review by regulators should have also revealed the scam. While Madoff has not implicated others in this fraud, it will be interesting to see who else is pursued by the prosecutors in this case.