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

Which structural feature of Madoff's operation most directly allowed the fraud to avoid independent verification of trades and assets?

Madoff's firm combined advisory, execution and custody functions in one entity and was audited by a tiny, little-known firm. This concentration removed independent third-party verification of trades and assets, so fabricated statements could go undetected.

  1. AThe use of multiple independent prime brokers to custody all assets
  2. BHaving Madoff's own broker-dealer arm act as executing broker, custodian and adviser, with a tiny unknown auditorCorrect
  3. CReliance on a large Big Four auditor to sign off on the trading records
  4. DPublication of daily audited net asset values by an independent administrator

Explanation

Madoff Securities served as investment adviser, broker and custodian, removing independent checks, and was audited by a very small, unknown firm. Independent custodians, administrators and major auditors would have provided verification, so those options describe controls that were absent.

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