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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Another day, another fraud - Mr. Pippin's search for Ponzi fulfillment

Stuart J. Pippin of Kerrville, Texas, USA today was to be sentenced today for defrauding 35 investors of over $2 million dollars. Mr. Pippin, who is 60 years old and in a twist of irony, is named after a famous Broadway musical in which, “The Leading Player invites the audience to join them in a story about a boy prince searching for fulfillment.” Perhaps that’s what Mr. Pippin’s investors were looking for when they wrote checks without apparently performing any due diligence whatsoever.


Mr. supposedly told investors he would be running a commodity trading pool. The problem was that no trading actually occurred. Even worse, Mr. Pippin never even had bothered to set up a trading account for his CTA, Pippin Investments. In classic Ponzi fashion, Mr. Pippin even went so far as to manufacture false account statements and pay false dividends to some investors with other people’s money.

As if it was any consolation, at least the good Mr. Pippin wasn’t discriminating in selecting his victims which including his brother Fred, his former dentist brother-in-law Randall Voigt and other friends and relatives.

The CFTC caught on and sued Mr. Pippin who in 2006 was forced to pay $1.68 million in restitution and $106,500 fine. More recently the FBI came in and pursued a criminal indictment for wire fraud which is the crime he was being sentenced for today.

While this amount of money lost in this case may seem paltry when compared to the large scale sums of hundreds of millions of dollars in play in fraud cases such as Madoff, these cases highlight an important point. Often times it is the ultra-high net worth individual rather than the large institution that needs to be overly cautious in the hedge fund due diligence process.

This is particularly true for operational due diligence when an investor may have little to no concept of the additional types of operational risk they are signing up for when investing in a hedge fund manager. Perhaps a new good rule of thumb for hedge fund investing harkens back to an old classic: if a manager cannot explain, either operationally or from an investment perspective, what they are doing and it seems too good to be true – don’t invest. There are plenty of other people who will provide transparency in an effort to secure your investment.

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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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Ponzi Schemes With Affinity: Due Diligence Kryptonite

APRIL 14, 2009

Weizhen Tang, a hedge fund manager who called himself the "Chinese Warren Buffet," has been accused by the SEC with raising $75 million for a Ponzi scheme.

The SEC claimed in a statement that Mr. Tang admitted in February that he misappropriated new client money to pay existing clients to cover trading losses since 2006 in a classic Ponzi. The SEC claim follow claims by the Ontario Securities Commission ("OSC") last month. Apparently, Mr. Tang was the cause of his own undoing when he was unable to replicate his hedge fund strategy to investors via a public demonstration.

The OSC complaint claimed it couldn't trace $15 million in losses Mr. Tang's Oversea Chinese Fund Limited Partnership. Mr. Tang is being represented by Dallas attorney Edwin Tomko.

The interesting thing about this case is the affinity element. Adding an affinity scheme element to his Ponzi scheme, Tang, who in addition to managing a Plano, Texas investment advisory firm called WinWin Capital Management, had focused on the Chinese-American community in Dallas and California. Similar to Madoff, Mr. Tang sought to target an community based on his ethnic background and hertiage.

Here is a video of Mr. Tang (in Chinese) with a nice slideshow of all the investors (replete with pictures of Warren Buffett and pictures of CNN and CNBC playing in the background) he allegedly ripped off: Chinese Warren Buffet Video Presentation

The SEC put out a guide to avoiding affinity schemes in 2006 which includes such helpful tips as "check out everything" and "be skeptical." Sounds like they are trying to sell something. Gee... thanks, is that everything or everything and anything. How can I possibly check everything? Thanks again, SEC.

DUE DILIGENCE KRYPTONITE

As a general rule, people in general (and hedge fund investors in particular it seems) often let their guard down when dealing with people like themselves. Unfortunately, it seems that this affinity is kryptonite to the red flag sensors which are supposed to go off during the due diligence process - and few if any hedge fund investors exposed to these affinity Ponzi schemes recognize too late the wolf in sheeps clothing. But can investors really practice such professional skepticism all the time?

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A Due Diligence Quagmire: Merkin's Day in Court

APRIL 6, 2009

Andrew Cuomo (New York's attorney general) and son of Mario Cuomo (former NY governor who is now on the Willkie Farr & Gallagher payroll) filed a complaint today charging J. Ezra Merkin (a Harvard Law School graduate) and his Gabriel Capital Corporation (the Ascot, Gabriel and Ariel funds) with civil fraud charges alleging, in part, that:

1) Merkin concealed his links to Madoff
2) Lied about where investor's money was actually going
3) Used company's funds for personal purchases (including approximately $91 million of artwork for his apartment at the famous 740 Park Avenue, New York, NY)
4) Collected more than $470 million in management and incentive fees
5) Was responsible for investor losses of approximately $2.4 billion



The statement from Cuomo's office can be read here and the full complaint can be read here.

The complaint's more interesting quote highlights include:

1) "J. Ezra Merkin betrayed hundreds of investors who entrusted him with their savings by recklessly feeding their funds into the largest Ponzi scheme in history,..."
2) "Merkin was just a 'glorified mailbox.'"
3) “Merkin admitted that his 'monitoring' of Ascot consisted of, at best, general conversations with Madoff approximately once per month"
4) “Merkin was 'at best a charlatan.'"

Mr. Merkin's lawyer (Dechert's Andrew Levander) claims that the suit is "hasty" and "without merit." Mr. Levander further elaborated that:
1) clients knew that money was going to Madoff
2) some of them even met with Madoff personally
3) Merkin analyzed Madoff's strategy before investing
4) “Contrary to Mr. Zuckerman’s allegations, Mr. Merkin performed extensive due diligence on Madoff and his trading strategy,” Levander said. “Unfortunately, Mr. Merkin’s due diligence, just like the detailed investigations performed by countless others, including regulators, was thwarted by the intricate, fraudulent scheme perpetrated by Madoff.”

Schulte Roth & Zabel represents the Ascot Partners fund.

Merkin reportedly lost millions of his own money in the Madoff fraud.

Adding to Mr. Merkin's woes was another suit filed by Mort Zukerman. Mr. Zukerman is the chairman of chairman of Boston Properties Inc. and publisher of the New York Daily News.



According to Bloomberg the case is CRT Investments Ltd. v. J. Ezra Merkin, 601052/2009, filed in New York State Supreme Court (Manhattan).

The Cuomo complaint raises a number of operational due diligence red flags:

1) Misstatements regarding the roles of Madoff:

Merkin misstated Madoff's role in offering memorandum for the Ascot funds. The offering memorandum suggested that Madoff was one of many prime brokers utilized when quite the opposite was in place.

In 2006, for example, approximately 98% of Ascot’s transactions were both effected and cleared by Madoff, and Madoff had custody of over 99% of Ascot’s purported securities holdings.

The role, diversity and independent oversight of third-parties is an essential element to proper operational due diligence. All of which were apparently missing in this case.

2) Lack of reporting transparency:
Ascot’s quarterly statements to investors disclosed only the value of each investor’s account and the purported appreciation during the prior quarter.

3) A smoke screen was created regarding the roles of traders:

If investors asked who carried out Ascot’s trading activity, Merkin would sometimes deceive them by explicitly indicating that he and his employees at the 450 Park Avenue office did so.

Merkin's traders however, were involved only in managing Ariel’s and Gabriel’s assets, not Ascot’s, and Ascot’s trading was almost entirely carried out by Madoff.

4) Unclear investment strategy:

Merkin at times concealed the fact that Ascot engaged in the “split strike conversion” strategy by misrepresenting Ascot’s investment strategy as well as its management.

5) Counterparty risk:
Merkin made false and misleading statements to investors to foster the impression that Ascot’s funds were held with a sound, creditworthy broker (Morgan Stanley) when in fact the majority of assets were held with Madoff.

6) Misstatements about the role of BDO (the Ascot fund's auditor):
The complaint alleges that Merkin told an investor that he required Ascot’s auditor, BDO Seidman LP, to visit Madoff’s offices two or three times a year to perform standard operational due diligence. This representation was false. BDO did not perform standard operational due diligence, or any other kind of examination, on Madoff’s operation, and Merkin had no reason to believe otherwise.

Interestingly, the complaint also claims that Mr. Merkin himself "failed to conduct adequate due diligence in the face of clear warning signals for fraud."

• I am curious how many investors picked up the phone and called Morgan Stanley, BDO or anyone else to check on the nature of Merkin's claims?

• Or a better question could be what kind of due diligence was being conducted by the financial advisors of the hundred of investors who most likely funneled their client's money to Merkin?

• With all of these red flags seemingly overlooked, how did so many get it so wrong?

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If you can't beat 'em: Folsom Ponzi Victim's Join Bailout

APRIL 4, 2009

A Folsom, California based hedge fund manager named Anthony Vassallo is alleged to perpetrated a Ponzi scheme on approximately 150 investors.

Unfortunately, in the current environment of Ponzimonium news of another hedge fund fraud is nothing new.
After all, the 29-year old Vasallo (along with his 66 year old partner Kenneth Kenitzer) was only promising a modest 36% return with absolutely no risk. Certainly reasonable....

Last month, Mr. Vassallo was charged with $40 million in fraud, money laundering and securities law violations according to FINalternatives. Vassallo met the majority of the investors in his Folsom, California based Vassallo Equity Investment Management and Trading via his affiliation with the Mormon church. Vasallo allegedly put money into high-risk ventures and luxuries including $103,000 Lexus for his wife. The SEC has since frozen $1.2 million of Vasallo's assets. The original complaint can be seen here.

Vassallo's story has two interesting twists:

1) Mr. Vasallo's former bodyguard was also arrested and accused of trying to shake down investors for money -

Question: Why does a hedge fund manager need a bodyguard and who paid for it - the same investors he ripped off?

2) Three former Vasallo investors bailed him out -
The three former investors were:
a) Sheila Watford of El Dorado Hills, California: the mother-in-law of Vasallo's sister (Alicia Watford)
b) Dr. Roy Harris
c) Cynthia Harris

Ms. Watford, the Harris' and Mr. Vassallo's father (whose is also named Anthony) pledged the equity in their homes to assist with the younger Vasallo's release.

From a purely due diligence perspective, I will go out on a limb and say that if a hedge fund manager has a bodyguard - do not invest. I would also hazard an educated guess that pledging all this property is not a sound investment, that is of course Mr. Vassallo can offer the same risk-free guarantee he was for his hedge fund....

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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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