Risk Management Lessons from Madoff Fraud
AbstractIn December 2008, as the nancial and economic crisis continued on its devastating course, a new scandal erupted. After the 1998's failure of Long-Term Capital Management, Madoff's fraud once again discredits the hedge funds industry. This scandal is however of a dierent kind. Indeed, Madoff's rm is not a standard hedge fund but a developed Ponzi scheme. By explaining Madoff's system and exploring the reasons for its collapse, this paper draws risk management lessons from this fraud, especially for operational risk management. Present day risk management processes have partially failed to prevent the Madoff scandal. This paper presents the issues for risk capital requirements raised by the collapse of the Madoff scheme. Implications for due diligence processes, including the use of quantitative replication to assess the credibility of the performance of a hedge fund, are also considered. Finally, consideration is given to the regulatory and standardizing approaches of the hedge fund industry as a response to frauds similar to that of Madoff.
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 36754.
Date of creation: 02 Mar 2009
Date of revision:
Madoff fraud; Ponzi scheme; operational risk; due diligence; supervision; hedge funds; bull spread strategy; split strike conversion;
Find related papers by JEL classification:
- G1 - Financial Economics - - General Financial Markets
- G2 - Financial Economics - - Financial Institutions and Services
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