By James Quinn in New York and Amy Wilson in London
Last Updated: 8:16PM GMT 15 Dec 2008
Bernard Madoff: at the centre of the alleged $50bn fraud Photo: AP
At least, it should have done had they known. As the Madoff case reveals yet more victims, questions about who knew what and when, and how such an alleged fraud could have been allowed to be perpetrated are only now being asked.
The majority of investors – most of whom never met the man, and yet were willing to hand over their life-savings due to the allure of his fund – accessed the Madoff machine through so-called "fixers" who then gave access to one of seven feeder funds, each of which had recognised auditors, giving the fund an air of respectability.
But unfortunately for those investors, the bulk of the assets were held in Madoff Securities, which was audited by Friehling & Horowitz, which now finds itself under investigation by the Rockland County District Attorney's office.
There is also a small army of investigators from the Securities and Exchange Commission (SEC) combing the 17th floor offices in Manhattan's Lipstick building, from where Madoff ran his investment fund business.
The contents of the floor – which remained off-limits to employees of Madoff's market-making business and is said to have been home to just Madoff and a man known only as Frank – could provide many of the answers about when the business started to go wrong, and when exactly he began using new investors funds to satisfy existing clients. as has been alleged.
Although Madoff registered his investment advisory business with the SEC in 2006, it was not inspected by the regulator, until now. One of the reasons for this is due to the growth in the number of registered advisers, which has increased by 50pc since 2001. As a result, roughly 10pc of the 11,000-plus cabal of advisers are inspected each year.
But the SEC did not totally ignore Madoff. In 2005 and in 2007, the regulator conducted separate inquiries into his market-making business. In 2005, it found three rule violations relating to getting the best possible price for customers. In 2007, after suggestions that the market-maker might be front-running – where traders buy shares before they buy them for their customers – but it found nothing untoward.
It is now understood, however, that even if the SEC had inspected the investment advisory arm, it might not have found anything untoward, given Madoff appeared to have used an unregistered money management business to invest his client's funds.
Can investors blame the SEC? "One of the biggest factors that make this situation very difficult is I think it was an unregulated pool of money," former SEC Commissioner Laura Unger said yesterday, adding that as a result the SEC appeared to have "no clear jurisdiction."
Mark Berman, a former SEC lawyer who now runs compliance and regulation consultancy CompliGlobe, argues the SEC couldn't have stopped it even if it had known.
"It doesn't appear to be a case of regulatory failure. No amount of regulation will stop a fraudster, if he is a clever individual who is intent on deception," says Mr Berman.
But what if the SEC did know, and hadn't done anything about it?
Rival market-maker Harry Markopolos claimed in a letter to the regulator in 1999 that "Madoff Securities is the world's largest Ponzi scheme" and has spent much of the nine years since then trying to get the SEC to investigate.
Eighteen months ago, advisory firm Aksia carried out due diligence on Madoff's fund on behalf of clients, which it told not to invest
It is likely to take months of detailed forensic accounting before the SEC will be able to give a clear picture on what actually happened within Bernie Madoff's house of cards – until which time, now penniless investors will only be able to sit and wonder how it all went so badly wrong.
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