Down and Out in Beverly Hills : Mr. Ruderman’s Ponzi Ways

Bradley Ruderman, a hedge fund manager from Beverly Hills, California has pled guilty to running a Ponzi scheme. Mr. Ruderman is facing up to 51 years in prison. He will learn his fate on December 7, 2009.

Appearing before U.S. District Judge John F. Walter heard Mr. Ruderman’s admission that he took approximately $44 million from approximately 22 investors while claiming returns of approximately 60% annually. Specifically, he pled guilty to two counts each of wire fraud and investment fraud. Here is the SEC press release announcing their formal complaint in which they froze Ruderman's assets.

Mr. Ruderman orchestrated his scheme via his firm, Ruderman Capital Partners. He surrendered to federal agents in May. In April Mr. Ruderman sent a letter to investors claiming that the firm’s funds were almost entirely gone. Mr. Ruderman had spent $8.7 million on a myriad of personal expenses. The list includes two Porches. He also had over $5 million in Poker losses.

Adding to the laundry list of problems, Bloomberg is reporting that Mr. Ruderman lied about the identity of his investors claiming that Lowell Milken (chairman of the Milken Family Foundation) and Larry Ellison (Chief Executive Officer of Oracle Corp.).

While a famous investor may not always take a call if a hedge fund manager is touting their relationship with a particularly dazzling or well respected investor it would behoove any investor to pick up the phone or send an email to at least attempt to confirm the relationship If the prestigious investor picks up the phone you may be able to garner more color on the details of their relationship with a particular manager. Should you not be able to confirm the relationship, at the very least as an investor you will sleep better at night knowing that you tried. Further, the hedge fund manager should be able to explain why their highly respected investors won’t return your call – and it should be a good indicator or a yellow flag at the least which would add another data point to your operational due diligence process.

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Butler and Tzolov face the music - for now....

Eric Butler, a former Credit Suisse Group AG broker, was convicted today of three counts fraud. Specifically, Mr. Butler pled guilty to conspiracy to commit securities fraud, securities fraud and conspiracy to commit wire fraud.


Mr. Butler's conviction relates to fraudulently selling millions in subprime securities and reaping huge commissions in the process. Mr. Butler's co-defendant Julian Tzolov also plead guilty to conspiracy, wire fraud and securities fraud. He turned on his former colleague and became a prosecution witness against Mr. Butler. Mr. Tzolov, he was originally thought to have fled to Bulgaria but actually fled to Spain for three months to avoid persecution but returned to testify. Mr. Tzolov even went so far to hire a bodyguard and carry false documents while on the lamb. Mr. Butler faces a maximum sentence of up to 45 years.

It looks like the judge will go easy on them since he believed they operated in a so-called "culture of corruption." Adding insult to injury Bloomberg is reporting that the judge told lawyers for both the defense and the government to put Mr. Butler and Mr. Tzolov's deeds in the context of, "how pernicious and pervasive was the culture of corruption, lack of regulation” and “serious negligence in the financial services industry in supervising people like this.” I'm sure this will be a big condolence to Butler's and Tzolov's victims who include GlaxoSmithKline Plc, Roche Holding AG and Potash Corp. of Saskatchewan.

Butler and Tzolov's scheme involved selling securities which they told people were backed by federally-guaranteed student loans. They further told their clients that they were a safe alternative to bank deposits or money market funds. In fact, the subprime securities were linked to auction rate securities. It is expected that Mr. Butler will appeal.... stay tuned.

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Madoff feeder fund trouble continues - Tremont and Fairfield's Slow Death

It is being reported that William Galvin, the Massachusetts Secretary of State, has rejected a settlement offer by Fairfield Greenwich Group to repay $6 millon to Massachusetts investors who were victims of fraud in the Madoff scandal.



Galvin's civil complaint, in part, claims that Fairfield executives were coached by Madoff on how to answer federal investigators questions. The complain further alleges that Fairfield misrepresented how much they knew. With the settlement offer reject a hearing is scheduled for September 9.

Fairfield spokesman Thomas Mulligan was quoted as saying, "It would be irresponsible for Fairfield to devote any more time or resources to a case involving at most a dozen people with losses of $6 million, when Fairfield is facing litigation involving thousands of investors and hundreds of millions of dollars elsewhere."

In other Madoff feeder fund news, Tremont Group, has been forced to auction off its hedge fund assets.

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"It was all fake" - Madoff's Frank DiPascali Jr.'s Begins Talking...

Frank DiPascali Jr., Bernard Madoff’s former “chief lieutenant” and chief financial officer formally entered his guilty plea yesterday. Mr. DiPascali pled guilty to 10 felony counts of conspiracy, fraud, money laundering and perjury. DiPascali was hired by Madoff straight from Archbishop Molloy High School. He went onto work for Madoff for 33 years. Some notable quotes from Mr. DiPascali’s appearance include:


-"I ended up being loyal to a terrible, terrible fault."

-"I apologize to every victim of this catastrophe, and to my family and to the government. I'm very, very sorry."

-“It was all fake”

-“It was all fictitious. I knew no trades were happening.”

-“I knew I was participating in a fraudulent scheme, I knew everything I did was wrong, and it was criminal, and I did it knowingly and willfully. I accept complete responsibility."

Despite these statements and both the prosecution and defense arguing for bail, U.S. District Judge Richard Sullivan denied his $2.5 million bail.

In making this decision the Judge Sullivan cited a presumption that a convict should be denied bail in the absence of "clear and convincing" evidence that he isn't a flight risk.

Here is a video discussing Mr. DiPascali's appearance:


With Mr. DiPascali remaining behind bars perhaps it will continue his continued cooperation and the additional parties who participated in the Madoff fraud he is expected to name.

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Frank DiPascali Jr.'s Secret Fee Arrangments - Don't Ask Don't Tell

Frank DiPascali Jr. is scheduled to plead guilty today. Mr. DiPascali was reportedly Madoff’s top aide who sometimes referred to himself as the Chief Financial Officer of Madoff’s firm. While the specific charges to which he will be pleading guilty to are unclear (although it is likely to include multiple counts of fraud) it is suspected that his sentence will be lessened by the fact that he is reportedly cooperating with investigators. This cooperation is also supposed to assist investigators in strengthening their case against certain feeder firms. These supposed deals guaranteed certain feeder funds (and perhaps even funds of hedge funds) with higher rates of return, albeit fraudulent ones, than other Madoff clients were receiving.


I find these supposed deals quite interesting. While pre-Madoff it may have been unheard of to think that investors with the same terms might all be generally receiving the same performance returns for investment in the same hedge funds it is now becoming more apparent that all investors are not competing on a level playing field. Please note I said above, investors with the same terms. That’s just the problem, not everyone has the same terms for each hedge fund investment. While, today many hedge funds seem to be resisting the temptations they may have succumbed to a few years ago to enter into side letters with investors spelling out a myriad of different nuances such as capacity agreements, most favored nations clauses and the like, such agreements are still prevalent, if not only for legacy reasons.

Here is a video from Fox Business News about the planned guilty plea:


During the course of the operational due diligence process, it is often useful to inquire about not only the so-called standard fund terms listed in the fund’s offering documents and marketing materials but about what “special deals” other investors may have bartered. Sometimes a hedge fund may clam up and simply state they don’t disclose the details of other investors. This curt response should be viewed as a stumbling block, not a brick wall. When faced with such a dilemma, the role of the operational due diligence analyst should be to try to utilize their red flag social network, to locate other investors and gather some general market intelligence. This may not yield any results, but at least it’s worth asking. Additionally, if the same request is sent to the hedge fund for this information several times they may eventually crack. Uncovering such information is no guarantee that a hedge fund manager may give you the same preferential terms as it may have given to a day one or extremely large investor, but it will give you the peace of mind to know that you are making an informed decision.

In Mr. DiPascali’s case, any unwillingness to talk, even generally, about such deals should have certainly been a red flag. Bloomberg even reported that Madoff didn’t want any notes taken during meetings, no less discussing such sensitive issues about fee arrangements. Now it looks like those investors which were swindled by Madoff will have to learn about them via court documents rather than during the due diligence process.

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Has Rigor Mortis Set In On Your Due Diligence?

Corgentum Consulting has released a new piece entitled, "Has Rigor Mortis Set In On Your Due Diligence? - The dangers of inflexible operational risk methodologies."
This paper outlines the benefits of adding an element of flexibility to operational due diligence approaches and cautions against overly rigid operational risk methodologies.
The piece can be found in the Research section of the www.corgentum.com website or via direct link here.
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The Importance of Cash Controls: Chief Operating Officer Charged With Fraud

In what is an interesting twist on the continued stream of frauds and Ponzi schemes, it seems that rather than an alleged fraud being perpetrated by an investment professional an alleged fraud was undertaken by a hedge fund's chief operating officer.



It is being reported that Manhattan District Attorney Robert Morgenthau's office has charged the chief operating officer of 3V Capital Management LLC, a Mark A. Focht of Suffern, NY, with stealing $250,000. Allegedly, Mr. Focht utilized a forged authorization form in April 2007 to transfer money from a bank account belonging to Pierce Diversified Strategy Master Fund. It has also been reported that Mr. Focht then utilized the money for personal investment. The specific charges include, Grand Larceny in the Second Degree, Forgery in the Second Degree, Falsifying Business Records in the First Degree.

This case highlights the importance of cash control and transfer procedures within hedge funds, particularly in an operational risk context. Fraudulent cash movements can be extremely dangerous to the health and well being of hedge funds and their investors.

Here are some operational best practices which would likely have prevented such a scenario from occurring:

• Multiple signatories required to transfer cash - this takes the power away from one single person being able to potentially steal cash

• There should be limits on the amount of cash that can be transferred at any one time

• Cash should only be able to transferred to certain parties (i.e. - approved vendors etc.)

• Certain types of cash transfers should not be allowed to be originated by the fund (like personal payments to the COO)

But its not surprising that such an alleged event occurred if the Chief Operating Officer, the person who is generally responsible for enforcing such cash transfer policies, was the one allegedly orchestrating the fraud.

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Impact of European hedge fund regulation in the US

In the article entitled, "Europe's Hedge Fund Regulation Efforts Have US Implications", Jason Scharfman, Corgentum Managing Partner, discusses the potential consequences of European hedge fund regulation in the US with the Wall Street Journal. Mr. Scharfman outlines that new regulations are actually "going to hurt a lot of pension funds and other large hedge fund investors because it will be giving them a false sense of security."


He further goes on to clarify that "hedge funds aren't trying to avoid tough regulation so they can commit fraud. Rather, they are trying to avoid the bureaucratic red tape that can cost managers lots of time and money, and ultimately dent investors' returns." The full article can be read on the Wall Street Journal website (subscription required).

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Hedge Fund Manhunt! - With Love from Bulgaria...

Lest we think we were entering the hedge fund fraud doldrums of the summer, when news was released ofthe manhunt for Bulgarian national Julian Tzolov.
[caption id="" align="alignleft" width="214" caption="Mr. Tzolov in cuffs"][/caption]
Mr. Tzolov, an ex-credut suisse trader who was charged with fraud along with another Eric Butler in September 2008, was declared a fugitive last Friday by the U.S. government. By complete coincidence, this was exactly three weeks before Mr. Tzolov's trial for fraud was to begin.
He was under house arrest while pending trial for fraud related to subprime mortgages. He left his houseon May 9 and never returned.
Guess Mr. Tzolov didn't hear about the new extradition treaty between the US and Bulgaria.
The hedge fund industry loves a good manhunt - the most memorable being Sam Israel's dramatic stint on the lamb.
[caption id="" align="alignright" width="166" caption="Bayou's Sam Israel Captured"][/caption]
Let the hunt begin!
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The Lawyer, the Professor and the hedge fund fraud

Another day, another scandal. The SEC yesterday froze the assets of a Texas based PrivateFX Global One Ltd. after charging the firm with fraud. Specifically, the charges state that Robert D. Watson and Daniel J. Petroski, allegedly forged bank statements to inflate returns. The strategy managed by the firm was ironically called “Alpha One” and claimed to generate profits through their proprietary foreign-currency trading software program that they called “Alpha One.” The CFTC has filed similar charges.

Mr. Watson resigned last month from Texas A&M, where he had been an Executive Professor of Finance at the Mays Business School. Looks like he submitted his resignation a bit too soon. Mr. Petroski is both a lawyer and a certified public accountant. It is reported that the firm had raised approximately $19 million from investors.

Echoing signs of Madoff the firm allegedly told investors that it never had a losing month and returned an annual 23%. Interestingly Watson and Petroski are also accused of creating phony account statements and records for SEC investigators. Obviously, they were not phony enough to fool the SEC.

This is a classic case where basic due diligence, asset verification and independent custody would have been key elements in preventing a fraud. There is nothing inherently wrong with black box FX trading models run by professors with snazzy names but investors need to look past the smoke and mirrors. Here’s a simple rule that has gained acceptance in recent months - if a hedge fund manager cannot break down their strategy in plan simple terms to explain how they are making money don’t invest – period.

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Another day, another Ponzi - Kramer's $40 Million Forex Fraud

MARCH 26, 2009

The U.S. Commodity Futures and Trading Commission ("CFTC") has charged a foreign exchange trading firm (Barki, LLC) and its principle Bruce Kramer with running a Ponzi scheme. The charges include:

*Solicitation of at least $40 million to trade leveraged foreign currency contracts

*Misappropriating of at least $30 million to pay false profits and for personal expenses

The court filing can be read here.

The CFTC said the beginning in June 2004 and up until last month, Mr. Kramer solicited approximately $40 million from 79 investors (mostly from the Charlotte, NC area) to trade leveraged foreign currency contracts with the promise of returning at least 3% to 4% per month. The charges further allege that Mr. Kramer sustained trading losses of at least $10 million and used $20 million to fuel his Ponzi scheme payouts.

Some of the personal expenses used by Kramer included the purchase of a million dollar 48-acre horse farm in Midland, North Carolina, a race horse, a Maserati, a 6,000 square foot home, other luxury cars, artwork and on throwing extravagant parties. Only $575,000 remains.

Mr. Kramer committed suicide on February 25, 2009 and his fraud only came to light after his death. This seems quite similar to the way the Madoff scandal played out - only instead of killing himself Madoff turned himself in. The Kramer situation is also similar to the Madoff scandal in that recovery of assets are being sought from Mr. Kramer's wife (Rhonda).

Rhonda Kramer's attorney, James Wyatt, said Ms. Kramer has cooperated fully with authorities and had nothing to do with the alleged fraud.

In the same way that questions were raised as to how the SEC failed to detect Madoff's fraud during prior audits, similar questions can be raised over the CFTC's oversight of situations such as Kramer. In light of these regulatory shortcomings across multiple agencies, the new hedge fund regulatory structure should include liability and responsibility requirements not just for hedge funds and investors but for regulatory agencies as well.

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