The Trouble With Bernie: Nine Ways to Avoid a Madoff When You Meet Him

By Richard MillerAuthor, "In Words and Deeds: Battle Speeches in History"

1. Don't hire a money manager to get "new ideas" for your money. Most investment scams are timeless in structure, (e.g., Ponzi), ancient in motivation (e.g., greed), but usually appear to offer something that looks "new": the promise of sure bucks in places where no man has gone before. In my day, I've seen tax shelters that guaranteed riches from big losses (1970s); junk bonds with double-digit returns and "virtually" no risk (1980s); dot-coms that promised value without cash flow (1990s); and after I left the business (2000) it was sub- primes, credit swaps and hedge funds. As Murphy said, everybody has at least one new idea that will not work.

[caption id="attachment_5249" align="aligncenter" width="257" caption="Bernard Madoff on January 5 (AP file photo)"][/caption]

2. Bespoke suits, a gold Rolex, fancy degrees and a Harvard vocabulary should not be confused with fiduciary duty, sound judgment, prudence, personal integrity or skill. Sartorial standards in the investment business are notoriously upscale, hearkening back to the days when the business was genuinely upscale. And indeed, there was a time (1959 and earlier) when the stock exchange was a rich WASP and German-Jewish enclave, a club (actually, two clubs, one for each group), but which tended to share Ivy League colleges and good tailors. Of courses, those days are gone, together with ideas of noblesse oblige, shame, and personal responsibility. But what remains the same is the upper class affect in dress and manner. Trust me, the suits were never emptier than today. Remember, these days the Ivy League openly disdains the old values. And that certainly showed in what their alums contributed to the meltdown of 2008.

3. If the investment theory can't be summarized on the back of a business card, (3" x 2") go elsewhere. I'll make this easy. Ask your money manager or stockbroker to explain your investments or her investment philosophy. If the first sentence exceeds ten words and you still don't get it, move on.

4. Start from the premise that you're far more likely to be stupid and unlucky than smart and lucky. This sort of humility is bound to save you considerable heartache and dollars. It will also help if you assume the same thing about the people who promise to manage your money. Even if they are honest (and most are) there is no reason whatsoever to believe that they are any luckier or smarter than you. Translation: they're just as likely to blow market calls, misread market timing, or not really understand the investments that they're recommending.

5. Always separate the physical custody of your securities from the guy who manages them. Had Madoff's investors adhered to this one simple rule, few would have faced the total loss of their investments. If you're going to hire a money manager, keep the actual securities with some stockbroker who works at a different firm. That way, you always know--really know--what your account is worth. And when the manager doesn't have custody of the securities, he can't simply make up trades, returns and valuations the way Madoff allegedly did.

6. The idea of investments is not to make money. I don't know who started the rumor that the purpose of the stock (or any other securities' market) was to make money. Investments are supposed to be a store of value, that is, preserve and conserve purchasing power with a reasonable return and a slight kick for inflation. There are guys who do make money in markets. They're called stockbrokers, investment bankers, professional traders and guys going public. But the money they make started out belonging to you. If you're looking to make some real dough, get a job, save, invent things or start chains of something. Remember: the idea isn't to make money, it's to avoid losing money.

7. Never give complete trading discretion over your assets.Even where you're turning over a sum of money to some other guy to manage, make sure you have a written investment agreement with some upfront restrictions. It ought to specify things like investment goals, how much of the account is to be invested in bonds versus stocks, and perhaps the things you don't wish to be in--like stocks that pay no dividends, bonds with less than investment grade ratings, or any security whose purpose has to be explained more than twice. Remember, agreements can always be changed or updated.

8. Insist on frequent and personal contact.One of the more (less) amusing aspects of Madoff was how he created an aura of exclusivity by "inviting" investors to join him and by intentionally remaining aloof; he had the world believing that a personal meeting with him was privilege. Here's a better rule: if your phone calls aren't promptly returned, if requests for a meeting are deferred or postponed, if you're constantly being shuffled off to some assistant, it's time to move on, period. Investment professionals may be good, but they aren't world- renowned heart surgeons who will save your life if only you can book an operation.

9. It's you and not the investment professional that ought to be licensed. Our "transparent" regulatory system will never be transparent enough to screen for really smart crooks. And when you read the Wall Street Journal's recent list (published on January 7) of those allegedly scammed by Madoff, the striking thing is how smart they were: captains of industry, finance, media, and oil; some of the soundest banking names in the business together with charities who had access to the best investment advice in the world. And I guess that's the problem. No regulatory system can ever screen for complacency, greed, stupidity, credulity, and social climbing. So the next time you're listening to an investment pitch or reading your account statements, look into your heart and pretend that if you're guilty of any of these things, you'll lose your license to invest. Just remember: with good luck, money lost in market declines just might return. But money lost to scammers is never, ever, ever coming back.