Seventh Journal Summary for Upcoming Publication of ASU Law Journal

LESSONS LEARNED FROM BERNARD MADOFF: Why We Should Partially Privatize the Barney Fife’s at the SEC

Mark Klock

Mark Klock is a Professor of Finance at George Washington University. A summary of, including excerpts from, his forthcoming Article in the Arizona State Law Journal is provided below.


Klock likens Barney Fife, the comically inept character on “The Andy Griffith Show,” to the personnel in the SEC’s Office of Compliance Inspections and Examinations, whom were responsible for multiple U.S. Securities and Exchange Commission (SEC) investigations of Bernard Madoff beginning in 1992. Klock argues that two lessons should be learned from the Madoff scandal. First, the SEC is simply not capable of providing adequate protection for the integrity of our public financial markets without assistance from private attorney generals. Securities laws must be amended to make it easier for private plaintiffs to recover from culpable parties to fraud in contrast with the increasingly constrictive approach the U.S. Supreme Court has taken. Second, law schools must provide more in the way of basic education about the functioning of financial markets, because law schools provide the pool of talent from which most of the staff of financial regulatory agencies are drawn. The attorneys at regulatory agencies need not know the intimate details of option markets, but they must know when consultation with experts is necessary, and when to rely on expert advice rather than allow a con-artist, like Madoff, to intimidate them with non-responsive answers to questions about suspicious activity.

Klock’s Article begins by providing a brief overview of Madoff’s criminal activity, and then describes what is publicly known about multiple SEC investigations of Bernard L. Madoff Investment Securities, LLC (BMIS) that were all closed without action. The Article explains why the SEC should have known Madoff’s Ponzi scheme was afloat years earlier. For example, in 1992, the SEC was not surprised to find that Madoff was able to return a $440 million investment the very next day after requested by his clients. The SEC was apparently unaware of two of the most important finance principles: (1) returns can only be increased by taking on risk, contrary to the 13.5 to 20% riskless returns guaranteed by Madoff, and (2) conversion of a large position to cash takes several days to avoid an adverse price impact, something Madoff was not concerned with when he supplied $440 million on demand. Klock calls the 1992 investigation a missed opportunity in the style of Barney Fife.

After establishing that the SEC staff did not competently handle their investigations, Klock reviews the argument for expanding private litigant access to the courts for redress against secondary participants in financial market fraud.  The article also discusses the effects of private enforcement on market integrity in the context of Ponzi schemes. Klock concludes by arguing that law schools should provide a better education about the functioning of financial markets and that government attorneys should be more open to the involvement of financial experts in making decisions and less engaged in turf protection.

Be sure to read Klock’s entire Article in the upcoming Arizona State Law Journal Fall Issue.