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

Harry Markopolos submitted detailed analyses to the SEC over several years showing that Madoff's reported returns were mathematically implausible. Which factor best explains why the SEC did not act effectively on these submissions?

The SEC staff lacked the specialized derivatives expertise and did not pursue the red flags aggressively. Examiners treated the tips and anomalies in isolation instead of testing the claimed options strategy and verifying trades with third parties, so the quantitative evidence supplied was never turned into a real investigation.

  1. AThe submissions lacked any quantitative evidence, so staff could not evaluate them
  2. BMadoff was exempt from registration as an investment adviser, so the SEC lacked jurisdiction
  3. CExaminers lacked the specialized derivatives expertise and tended to treat the tips as isolated items rather than building an investigation around themCorrect
  4. DThe SEC had already concluded the fund was a Ponzi scheme but lacked authority to seek an injunction

Explanation

The SEC's own Inspector General report found that staff lacked the specialized experience to test the claimed options strategy and did not follow up on the red flags thoroughly. The first option is wrong since the submissions were highly quantitative. Jurisdiction existed, as Madoff's firm was registered and had been examined.

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