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FRM Part II · FRM Exam Part II · Madoff: A Riot of Red Flags

After the Madoff scandal, a firm redesigns its operational due diligence. Which change best reflects a lesson about relying on regulatory registration as comfort?

Registration or a past examination should be treated as only one input, not proof that assets and trades exist. Madoff's firm had been examined and the fraud continued, so investors must verify independently. Waiving visits, trusting long track records, or relying on feeder funds each increase dependence on others' comfort signals.

  1. ATreat the manager's registration or past regulatory examination as one input, not as evidence that assets and trades existCorrect
  2. BWaive on-site visits for any manager registered with a regulator
  3. CReduce due diligence depth for managers with long track records
  4. DRely on the feeder fund's due diligence in place of the firm's own work

Explanation

Madoff's firm had been examined by regulators yet the fraud persisted, so registration or examination does not confirm that assets exist. Investors must perform independent verification. The other options each increase reliance on others' comfort signals.

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