Construction of a Trustworthy Investment: Insights from Madoff Fraud

The Construction of a Trustworthy Investment Opportunity:
Insights from the Madoff Fraud*
HERV�E STOLOWY, HEC Paris
MARTIN MESSNER, University of Innsbruck
THOMAS JEANJEAN, ESSEC Business School
C. RICHARD BAKER, Adelphi University and Neoma Business
School
1. Introduction
Economic exchanges rely to a great extent on information
provided to and obtained by
investors from different sources and channels. Economic
theories of financial markets have
long recognized the central role of information in animating
markets (e.g., Arrow 1963;
Ball and Brown 1968; Arrow 1984). Information is at the heart
of any contractual rela-
tionship. It allows investors to make “informed” investment
decisions and to verify
whether other contracting parties fulfill their obligations.
At the same time, engaging in a contractual relationship
requires a certain level of
trust. Trust is needed because the available information usually
reduces only part of the
uncertainty involved in a relationship. As Olsen (2008, 2189)

puts it, “investors’ trust in
the expertise and intentions of corporate managers, financial
advisors and regulators is the
‘will of the wisp’ that creates and animates what we call the
financial marketplace.”
Recent literature in finance and economics has started to
address the role of trust in finan-
cial markets (Guiso, Sapienza, and Zingales 2008; Carlin,
Dorobantu, and Viswanathan
2009; Bohnet, Herrmann, and Zeckhauser 2010; Sapienza and
Zingales 2012). Some
authors have considered the consequences that trust has for
investors’ behavior. Guiso
et al. (2008), for example, find that individuals who exhibit a
high level of trust are more
likely than others to invest in risky financial assets and tend to
invest larger shares of their
wealth in such assets. Holding constant the legal origin, Guiso
et al. furthermore find that
countries with a high level of trust exhibit higher stock market
participation.
Other authors have examined the determinants of trust in
financial markets and have
pointed both to the characteristics of the financial system and
characteristics of investors
as factors that explain the level of trust. At the country level,
the quality of institutions,
such as regulatory bodies or the courts, has an important
influence on the level of inves-
tors’ trust (Zingales 2009). At the individual level, Alesina and
La Ferrara (2002, 231) find
* Accepted by Yves Gendron. The authors express their
gratitude to all their interview partners and, espe-

cially, to Madoff’s investors who accepted, despite their pain
and often financially distressed situation, to be
interviewed for this research. The authors gratefully
acknowledge comments by Diane-Laure Arjali�es, Thi-
erry Foucault, Yves Gendron, Chris Humphrey, Lambert
Jerman, Nancy Leo, Sabina du Rietz, two anony-
mous reviewers, participants at the EAA Annual Meeting
(Rome, April 2011) and AFC Annual Meeting
(Montpellier, May 2011), and workshop participants at York
University (October 2010), Paris Dauphine
University (February 2011), the University of Manchester
(February 2011) and the University of Bristol
(March 2011). Responsibility for the ideas expressed, or for any
errors, remains entirely with the authors.
Thomas Jeanjean and Herv�e Stolowy acknowledge the
financial support of the European Commission
(INTACCT project, contract No. MRTN-CT-2006-035850).
Herv�e Stolowy is a member of the GREGHEC,
CNRS Unit, UMR 2959.
Contemporary Accounting Research Vol. 31 No. 2 (Summer
2014) pp. 354–397 © CAAA
doi:10.1111/1911-3846.12039
that trust is a function of individual characteristics (such as

education, gender, or income)
as well as of the characteristics of the community from which
the investor comes (such as
the level of income inequality).
This literature has advanced our understanding of the role of
trust in important
ways. Yet, in focusing on individual- and country-level factors,
prior studies have not
paid much attention to the particular “objects of trust.” What
are the mechanisms
through which a particular investment opportunity is made to
appear trustworthy? What
is needed to convince investors that a given financial product
can be trusted? Existing lit-
erature does not provide a detailed analysis of the process
through which trustworthiness
is established in financial markets. In our paper, we therefore
seek to address this gap in
the literature. We inquire into the production of trust in the
context of financial markets
by examining the process through which trustworthiness is
constructed in the eyes of
investors.
The role that trust plays in social and economic life may easily
be overlooked, due to
its implicit nature (Giddens 1990; Sztompka 1999). Somewhat
paradoxically, the influence
of trust on our decisions and actions is perhaps most visible in
those cases where trust
turns out to be unwarranted. In the particular context of
financial markets, this may be
the case when expectations regarding the functioning and
regulation of such markets or
regarding the potential return on a certain investment

opportunity are not confirmed by
reality. Investors then face negative consequences from their
trusting behavior and, with
the benefit of hindsight, they realize that “they should not have
trusted” to the extent they
did.
Our paper draws upon empirical evidence from one such
incident in which the fragile
nature of trust was revealed in a rather dramatic way. We
analyze the role of trust in the
spectacular investment fraud of Bernard Madoff, which was
exposed at the end of 2008.
Madoff had for many decades run a wealth management
business, Bernard L. Madoff
Investment Securities LLC (BMIS), without investing his
clients’ money in securities. He
created a so-called Ponzi scheme
1
, where money from new investors is used to pay interest
and dividends to existing ones. The “success” of such a scheme
depends on the trust that
investors have in the particular investment opportunity and/or
its propagators. In order to
understand the mechanisms behind the development of such
trust, we conducted inter-
views with individual U.S. investors who lost money in the
Madoff fraud. We complement
the interview material through the analysis of letters written by
investors (victim-impact
statements) and through other publicly available information
about Madoff and his activi-
ties. What emerges from our analysis of this “extreme case”
(Flyvbjerg 2001) is an interest-

ing set of insights into how the investment opportunity proposed
by Bernard Madoff
came to be seen as a trustworthy one. To organize these
insights, we draw upon estab-
lished concepts and arguments regarding the production of trust.
In particular, we rely on
the distinction between process-based, characteristic-based, and
institution-based trust
(Zucker 1986; Neu 1991b, 1991a),
2
which we enrich by incorporating other important
ideas from the sociology and accounting literatures (Sztompka
1999; Tomkins 2001;
Barrett and Gendron 2006).
We see the main contribution of our paper in the way in which
it illuminates the
mechanisms behind the production of trust in the context of
financial markets. To our
knowledge, our paper is the first to analyze in rich empirical
detail how different forms
of trust help to construct an investment opportunity as
trustworthy. Our analysis
1. In a Ponzi scheme, existing investors are paid purported
returns out of the funds that new investors contrib-
ute. “Ponzi schemes tend to collapse when it becomes difficult
to recruit new investors or when a large num-
ber of investors ask to cash out” (U.S. Securities and Exchange
Commission 2010).
2. Zucker (1986) and Neu (1991b, 1991a) speak of

“institutional-based” trust. We prefer to use the more com-
mon wording “institution-based.”
Construction of a Trustworthy Investment 355
CAR Vol. 31 No. 2 (Summer 2014)
demonstrates not only the role of the intensity of the
relationship between Madoff and his
investors, but also that of the consistency of the signals
obtained by the investors through
more impersonal channels: consistency in time (through the
impressive track record that
Madoff claimed) and in space (through the association with
many different prestigious
institutions). This consistency, we argue, created an illusion of
trustworthiness that inves-
tors were apparently unable to see through. Reflecting more
generally on the nature of the
“reality” of financial markets, we suggest that some element of
illusion is inherent to the
functioning of such markets, which might explain part of the
difficulty of detecting a
financial scam. Our paper therefore contributes also to the
discussion about “hyperreal”
financial markets (McGoun 1997; Macintosh, Shearer,
Thornton, and Welker 2000) by
highlighting the link between mechanisms of trust creation, on
the one hand, and concerns
with self-referential representations, on the other hand. In
particular, we identify similari-
ties between the trust dynamics in the Madoff case with those
observed in the literature

on speculative bubbles. More generally, our examination of the
construction of trust in
financial markets resonates with recent calls for, and examples
of, a sociology of finance
and financial markets (e.g., Callon 2009; MacKenzie 2009;
Vollmer, Mennicken, and
Preda 2009).
The remainder of the paper is organized as follows. In the next
section, we elaborate
on the theoretical concepts that guide our analysis. The third
section describes our
research approach and methods. After providing some
background information on the
empirical context of our study in the fourth section, we analyze
the various mechanisms
that contributed to the production of trustworthiness in the
Madoff case. The discussion
that follows draws together our findings and the conclusions
that may be drawn from
them. The final section concludes with some avenues for future
research.
2. Theoretical background
Sources of trust
Economic decisions are based on various types of information,
but rarely is such informa-
tion “complete.” Usually, information reduces only part of the
uncertainty in the environ-
ment. The remaining gap is frequently filled through trust. As
Tomkins (2001, 165) says,
“trust implies adopting a belief without full information.” For
example, when making
financial investments, investors may choose not to obtain

additional information about
the firms in which their investment advisor places their money,
because they trust that the
advisor will make the right decisions. While trust is thus “an
alternative uncertainty
absorption mechanism to increased information” (Tomkins
2001, 165–66), trust also relies
on information. There must be some reason for trust to develop,
and this reason is linked
to available information about the particular target of trust.
Trust may be oriented toward different targets: we can have
trust in individual per-
sons, in groups of people, in organizations, in technologies, in
state institutions, etc. The
basic logic of trust at work here is in principle always the same
(Sztompka 1999, 46): trust
implicitly means trust in people and their actions. For example,
if we “trust an organiza-
tion,” we implicitly trust the people who manage or are
employed in that organization. If
we “trust a technology,” we implicitly
3
trust the people who have designed and con-
structed this technology or perhaps also those who have tested
and certified it or even
those who testify having successfully used it, for example.
What are the types of information that turn potential targets of
trust into trustwor-
thy ones? What are, in other words, the sources of our trust?
Zucker (1986) suggests that
3. We say “implicitly” here to account for the existence of trust

in systems (Giddens 1990). When people invest
trust in systems, they do not necessarily think about the people
who have designed the systems or who
operate them, although they implicitly trust such people when
they trust the system.
356 Contemporary Accounting Research
trust in the actions of another person may be based on three
types of information: infor-
mation about past exchanges with that person, such as her
reputation; information about
the characteristics of the person, such as her family background,
age, or ethnicity; or
information about certain institutions and their functioning,
such as certificates, profes-
sional bodies, or educational degrees. Accordingly, Zucker
distinguishes between process-
based trust, characteristic-based trust, and institution-based
trust. Although these sources
of trust may often overlap in practice, their distinction seems
helpful for analytical
purposes.
In the case of process-based trust, the key source of information
about the trustwor-
thiness of the person is information about past exchanges with
that person. There exists,
in other words, a history of past actions from which we
extrapolate into the future. Some-

times, we can resort to our personal observations and memories
in order to construct such
a history, such as when we have had prior dealings with a
business partner or when we
can look back at a long-term personal relationship. In other
cases, we need to use
“secondhand testimonies” about the conduct of others, which we
may obtain, for example,
from the media or from relatives and friends (Sztompka 1999,
72). Whatever the source of
our knowledge, trustworthiness is constructed on the basis of
some information about the
history of a person’s achievements and behavior.
Characteristic-based trust is different insofar as it relates to
more general characteris-
tics of a person, such as nationality, gender, or occupation
(Zucker 1986). Such character-
istics can create trustworthiness both within and across groups,
as pointed out by Neu
(1991a). If people share the same characteristics, this creates a
common background within
the group, which reduces the perceived need to negotiate the
terms of exchange or to
inquire into the other person’s credibility (Zucker 1986, 61).
Across groups, such common
background does not exist, but knowledge about the
characteristics of the other person
also creates certain expectations about their behavior, as is the
case when we “stereotype”
other people’s behavior on the basis of gender or nationality
(Neu 1991a).
The third type of trust that Zucker (1986) distinguishes is
institution-based trust.
Here, people rely on the work of institutions, such as laws and

regulations, certificates,
professions, or educational systems, to ensure the proper
functioning of social or economic
exchanges. The existence of such institutions produces comfort
and reduces the perceived
need to monitor personally or control a given exchange process.
Neu (1991a, 1991b) suggests distinguishing between three
classes of institution-based
trust. The first class relates to individual and firm-specific
actions that involve the acquisi-
tion or adoption of certain institutional forms such as
educational degrees, certificates, or
“best practice” tools. In acquiring or adopting these forms, a
person or organization can
signal expertise or legitimacy and, thus, trustworthiness (see
also Meyer and Rowan 1977).
A second class comprises intermediaries that provide some sort
of warranty or guarantee
for the functioning of the relationship even when the
exchanging parties have had no prior
exposure to each other. Auditors are a case in point. Auditing
firms are supposed to verify
the accounting information provided by firms and, in so doing,
enhance trust in the partic-
ular relationship (Neu 1991a). Regulation constitutes a third
class of institution-based
trust. Regulatory bodies, such as the Securities and Exchange
Commission (SEC) or the
European Commission, seek to make the behavior of actors
more predictable through a
set of prescriptions that ought to be followed and by instituting
monitoring and control
mechanisms through which rule-following purports to be
enforced (ibid.). The trustworthi-
ness that these bodies generate is, to an important extent, based

on accountability require-
ments that they create.
The different sources of trust outlined in this section imply that
people form certain
expectations about the future. The exact strength of these
expectations may vary, however,
as discussed next.
Strength of expectations
When a person invests trust in another person or organization,
she expects this other party
to behave in a certain way. Expectations can vary in terms of
their strength (Neu 1991a,
1991b). At one end of the continuum, perceived trustworthiness
is very low, such that one
hardly expects the other party to meet the agreed-on obligations
and perhaps already
expects some level of wrongdoing. Nevertheless, one has
sufficient trust so as to engage in
the relationship, or perhaps one needs to engage in it because of
a lack of alternatives. At
the other extreme, trust is so high that one can hardly imagine
any wrongdoing and there-
fore expects instead that the other person will exercise
particular care and benevolence.
Process-based, characteristic-based, and institution-based trust
can, in principle, all

create strong expectations. Yet, there are some factors that
make it more likely that strong
expectations will in fact develop. In the elaborations that
follow, we combine insights from
different authors (Neu 1991a, 1991b; Sztompka 1999; Tomkins
2001; Barrett and Gendron
2006) who have all discussed this point at some length.
Generally speaking, the more reasons one has to trust someone
else, the stronger one’s
expectations regarding that person or institution will be. “More”
can therefore mean dif-
ferent things. We suggest that these reasons can be categorized
into a question of time; a
question of space; and a question of intensity.
Time is strongly associated with consistency of conduct: “the
better and longer we are
acquainted with somebody, and the more consistent the record
of trustworthy conduct,
the greater our readiness to trust” (Sztompka 1999, 72). This is
particularly apparent for
process-based trust that is obtained firsthand (i.e., through a
personal history of
exchange). However, even if process-based trust is obtained
secondhand (i.e., by relying
on the testimony of others), the time dimension plays a role. For
instance, repeated
reports about the good performance of a firm are likely to
increase our trust in the firm as
an investment object. Time is also relevant for the strength of
institution-based trust.
Expectations will be higher when there are more positive
firsthand experiences with a par-
ticular institution. Trust will also increase if we learn
secondhand about the lengthy exis-

tence and positive track record of an institution. A well-
established MBA degree, for
example, creates higher expectations regarding the abilities of
its graduates than a recently
created one.
The idea that trust can increase over time has an important
implication for our under-
standing of the relationship between trust and information, as
illustrated by Tomkins
(2001) in the case of business relationships. Depending on how
well established a relation-
ship is, the amount of trust that exists and the amount of
information that is required will
differ. At the beginning of a relationship, the level of trust will
be relatively low, especially
if there is also little secondhand information available. As the
relationship matures, one
accumulates more information about the other party’s behavior,
and the level of trust is
therefore likely to increase. In the later stages of the
relationship, less information will be
needed to sustain the trust that has been built up because there
is already a sufficiently
large stock of positive experiences (Tomkins 2001, 170). As a
result there is an inverse
U-shaped relationship between the perceived need for additional
information (or control
mechanisms) and the level of trustworthiness of the other party.
Not only does consistency in conduct over time increase
trustworthiness; consistency
in space also increases trust. If a potential business partner does
not have a long-term
track record, we may still have stronger expectations regarding
his behavior if we know

that he is currently also dealing with other reputable firms
(Sztompka 1999, 73). The more
we perceive someone to be part of a legitimate network, the
more this person will benefit
from the trustworthiness of the other network members.
Similarly, we are more likely to
associate particular characteristics, such as religion or gender,
with benevolent behavior if
we know many (rather than few) people with such
characteristics who also demonstrate
trustworthy conduct. Furthermore, in the case of institution-
based trust, consistency in
space can make a difference regarding the level of expectations.
A particular institution
will gain in trustworthiness if it is associated with many other
trustworthy institutions or
persons that can lend it legitimacy. For example, we are more
likely to trust the quality of
a particular university degree if that degree is offered by more
(rather than fewer) presti-
gious universities. In each of these cases, there is a sort of
“bandwagon effect” at work
(Sztompka 1999, 73) in the sense that “the fate of an object of
trust … is tightly related to
trust vested in other objects” (Barrett and Gendron 2006, 634).
Finally, the strength of one’s expectations vis-�a-vis others is
also a function of the
intensity of one’s experiences. This point is particularly

stressed by Neu (1991a, 1991b) in
his discussion of trust-generating mechanisms in the stock
market. Neu suggests that the
more personal or intense a relationship is, the stronger one’s
expectations toward the other
person will be. This is especially the case when trust is
established firsthand, such as in a
close business partnership or in family bonds. In a very close
relationship, one expects the
other party not only to fulfill their contractual or legitimate
obligations but also to
“honor” the relationship; that is, to enact a certain sense of
personal obligation that goes
beyond purely self-interested behavior (Neu 1991a, 187). In the
case of a business relation-
ship, strong expectations introduce a “social override” into what
would otherwise be a
purely economic relationship. Neu (1991a) suggests that
process-based experiences that are
generated firsthand tend to be more intense in this respect than
secondhand ones, which is
why trust is likely to be stronger in the first case. They are also
likely to be more intense
than characteristic-based or institution-based mechanisms,
which are more impersonal by
definition. Institutions may not evoke feelings of social
closeness or intimacy, even if they
are well-established (Neu 1991a). In fact, intermediaries and
regulators usually try to
delineate what can and cannot be expected of them. They
establish particular forms of
control and accountability that “determine the strength of the
expectations along with the
situations in which the expectations should and should not
apply” (Neu 1991a, 189).

4
Hence, to sum up the idea of intensity as a determinant of the
strength of expectations,
we can say that intimate relationships produce a stronger
expectation that the other party
will do more than merely meet their legitimate obligations.
Conversely, in less intimate
relationships, trust is (at best) restricted to the comparatively
weaker expectation that the
other party will fulfill its legitimate obligations.
So far, we have established that trust emerges in the form of
process-based, character-
istic-based, and institution-based trust and that the level of
expectations in each case will
vary with the quantity and quality of the available cues
regarding trustworthiness, as
defined through the dimensions of time, space, and intensity.
We will use this conceptual
framework to examine the production of trustworthiness in the
Madoff fraud. Before
doing so, we now discuss our research methodology.
3. Research approach and methods
Our inquiry into the dynamics of trust in financial markets is
based on a case study of
one particular incident that created a great deal of attention in
the media and among the
general public: the investment fraud of Bernard Madoff that was
eventually revealed in
2008. While this case arguably constitutes an “exceptional”
event in many respects, we
would like to avoid viewing this case only or even primarily in
terms of its exceptional

nature. Rather, we believe that a notorious case like the Madoff
case can provide
4. This does not mean, of course, that people’s trust is always
restricted in this way. It may well be the case
that people expect institutions to do more than they actually
claim to do. This is not a question of the
intensity of the relationship, but rather of the social
construction of expectations.
important insights into the functioning of financial markets
more generally. Indeed, it is
often with the help of “extreme cases” (Flyvbjerg 2001) that we
can better understand
some basic mechanisms that are of general relevance but are
difficult to discern in “aver-
age” cases, where they appear in less visible forms. Cooper and
Morgan (2008) emphasize
the potential of extreme cases to further our understanding of
accounting phenomena, and
they provide several examples of studies that have pursued such
a research strategy.
In our investigation of the Madoff fraud, we adopt a qualitative
research approach.
This involves the use of qualitative data (text) as well as the
analysis of such data in a
qualitative (interpretive) manner (Silverman 2004). Our data

come from two sources: inter-
views with individuals who invested with Bernard Madoff and
letters written by investors
in support of Madoff’s judicial sentencing. A qualitative
approach seems appropriate for
our research interest for at least two reasons. First, in order to
understand the dynamics
of investment decisions, it is important to consider actors’ own
beliefs and perceptions
about the situation and its context, rather than an outsider’s
description. For example, in
order to understand why an investor does or does not invest
money in a fund, it is not rel-
evant whether the fund is or is not well managed according to
some objective standards.
What counts is whether the investor believes the fund is well-
managed or not. Qualitative
methods are helpful in uncovering such beliefs; that is, “for
understanding the world from
the perspective of those studied” (Pratt 2009, 856). Previous
accounting researchers have
used qualitative methods in similar empirical settings (e.g.,
Gendron and Spira 2009). Sec-
ond, the particular case of investment fraud constitutes a
“delicate” topic to investigate.
Given the enormous financial losses and personal setbacks that
many of the investors suf-
fered, it was important to relate to them with empathy, which is
arguably easier in a per-
sonal conversation even if “only” by telephone or voice over the
Internet than through
impersonal means such as questionnaires.
In order to identify persons who invested with Madoff, we
consulted several sources.
In February 2009, the U.S. federal bankruptcy court released a

full list of Madoff’s clients
(available through the Internet).
5
This list is 162 pages long and lists approximately 14,000
investors. Some of the investors are mentioned multiple times,
presumably because they
had more than one account with Madoff. According to Sander
(2009, 229), the actual
number of individuals who invested with Madoff was 11,374,
across 44 U.S. states and 44
countries, with the majority concentrated in the New York and
Florida areas.
More detailed information regarding some of the investors was
obtained from letters
sent by the investors in support of Madoff’s sentencing. In June
2009, federal prosecutors
in New York City filed statements from 113 alleged victims of
Bernard Madoff’s fraud
with the U.S. district court judge.
6
The filing was made prior to Madoff’s sentencing on
June 29, 2009. These letters, or “victim-impact statements,”
ranged from one paragraph to
several pages, and they contain personal stories of the investors
and their losses. The 113
statements can be subdivided into two categories: 65 “direct”
investors (including eight
“direct” investors who request to speak at the sentencing) and
48 “indirect” investors
7

who ask for the right to be considered in the same way as direct
investors.
5. Sources: http://www.businessinsider.com/2009/2/bernie-
madoffs-clients-the-official-list (last retrieved: Febru-
ary 1, 2013);
http://s.wsj.net/public/resources/documents/st_madoff_victims_
20081215.html (last retrieved:
February 1, 2013; http://richard-
wilson.blogspot.com/2009/01/bernard-madoff-fraud-victims-
list-2008.html
(last retrieved: February 1, 2013). See also Sander (2009, 249,
Appendix D) for a list which shows the inves-
tor type (e.g., feeder fund, hedge fund, bank, charity, family
office, individual).
6. These statements are available from many sources (e.g.,
http://www.cnbc.com/id/31375911/
Read_Them_Here_Madoff_Case_Victim_Statements) (last
retrieved: February 1, 2013). A few of these state-
ments have been written by former employees of Madoff’s
legitimate activity.
7. Indirect investors are thus called because they invested
indirectly: “through a bank, a mutual fund, or an
arm’s length ‘feeder’ fund set up specifically to direct money to
Madoff without investors’ knowledge”

(Arvedlund 2010, ii).
We decided to examine these 113 statements for two reasons.
First, we thought that
the investors who narrated personal stories in written form
would be the ones most willing
to be interviewed. Second, reading the letters provided us with
some background informa-
tion regarding the investors, such as whether they had invested
directly or indirectly in the
Madoff funds. This information proved helpful in preparing our
interviews.
Among the 113 statements, 45 included an email address while
12 included only a
postal address or telephone number. Accordingly, we sent out
45 emails and 12 letters ask-
ing for an interview: 55 contacts were made with direct
investors (out of 65), and two
emails were sent to indirect investors: one who represented 46
other indirect investors in a
“Ponzi victims coalition” and one who contacted the judge
directly. Eleven investors (10
following emails and one after having received a letter)
accepted an invitation to have a
conversation with us. Given that the investors who agreed to be
interviewed were located
throughout the United States, we decided to conduct each
interview by telephone or voice
over Internet by the same author for consistency purposes. We

followed the interview
guide shown in Appendix 1. We asked the same questions in all
interviews, but we also
allowed for additional questions that would make it possible to
delve deeper into our
respondents’ answers. The interviews were recorded with the
approval of the interviewees
and were subsequently transcribed.
Given the stressful situation for most of our interviewees, we
considered it important
to try to establish a trustworthy relationship with them. Lincoln
and Guba (1985, 303)
suggest that trustworthiness needs time to develop and that
researchers should therefore
strive for a “prolonged engagement” with their informants. Such
prolonged engagement is
obviously difficult to achieve when talking to someone for the
first time. In order to miti-
gate this problem, we devoted the first few minutes of each
conversation to introducing
ourselves and laying out our research interest. We carefully
explained the objective of our
research, indicated that the research team included only
academics and emphasized that
we intended to publish an academic article rather than a press
article. The immediate feed-
back we received from our interviewees was positive and made
us rather confident that
the interviewees would provide us with truthful accounts of
their experiences. Indeed, dur-
ing the interviews, we had no reason to believe that the
interviewees manipulated their
answers so as to manage impressions or gain legitimacy
(Alvesson 2003).

Among the 11 investors interviewed, nine were direct investors
in Madoff’s funds and
two (Investors 6 and 7) invested indirectly through a feeder
fund. Two main questions
guided our interviews: What led people to invest with Madoff,
and how did this impact
their behavior prior to the investment decision? What kind of
information did investors
receive during the investment period, and how did this influence
their behavior along the
way?
In addition to the interviews, we analyzed in detail the
statements written by the 65
direct investors and found, in 26 instances, some textual
material related to our research
topic and corresponding to our interview guide.
8
Among these 26 statements, eight were
written by investors that we interviewed. Consequently, to
avoid double counting, we
removed these statements from our dataset. Our resulting
sample includes 29 investors: 11
interviews and 18 statements from noninterviewed investors.
9
Data analysis was carried out by reading through the interview
transcripts and the
impact statements and by moving back and forth between data
and theory until we were
8. The 39 other statements have been discarded because they did
not contain any information regarding the

investment process as such and thus not address the
construction of trust. These statements typically pro-
vided only an account of the losses incurred by the investor and
of the negative impact that these losses
had on their personal lives.
9. Interviewed investors are referred to as “Investor 1 to 11”
and the other investors are referred to as “Inves-
tor 12 to 29.”
able to identify patterns that we thought provided interesting
theoretical insights
(Ahrens and Chapman 2006). In interpretive research, the
validity or trustworthiness of a
study’s findings can be operationalized through the concepts of
authenticity and plausibil-
ity (Lukka and Modell 2010). We sought to achieve authenticity
by taking the views of
our respondents seriously and by letting our respondents speak,
with the help of direct
quotations, throughout the resulting narrative. We thereby
sought to balance the “telling”
and “showing” elements of our empirical analysis (Golden-
Biddle and Locke 2007). As far
as plausibility is concerned, we discussed the potential of
alternative theoretical concepts

to explain our empirical material, which was facilitated by the
diversity (in terms of
disciplinary background) within the team of researchers as well
as by the feedback
received from the editor, the two reviewers, and other academic
colleagues.
10
One risk of using retrospective interview reports is that
interviewees may rationalize
their behavior and experiences after the fact. Such post hoc
rationalization can have
cognitive reasons, such as when interviewees cannot recall each
and every detail of what
they have done (Ericsson and Simon 1980), or it may be due to
motivational reasons,
such as when they report in a self-serving manner (Heider
1958). Although the existence
of post hoc rationalization cannot be completely eliminated in
retrospective interview
studies, we have tried to limit its magnitude and influence in
different ways. First, we
sought to reduce the influence of individual recall biases by
interviewing several different
investors and by working with the patterns that we identified
across their responses (i.e.,
triangulation between interviews). Second, we followed Huber
and Power’s (1985) sugges-
tion to focus on very factual questions and to avoid eliciting
judgments with our ques-
tions. Arguably, this is especially important when interviewees
have a high emotional
involvement in what happened, as they may then be prone to
frame their narratives in
light of their emotions (Huber and Power 1985, 175). Finally,

we avoided wording our
questions in a way such that interviewees would be tempted to
answer in the positive.
For example, we never directly asked our interviewees to
comment on the relevance of
trust in their decision making but merely requested them to
recount the motivation for
their investment decision.
We complemented the interviews and statements with several
other sources of data
that allowed us to obtain a better understanding of the fraud and
of the relationship
between Madoff’s company and the investors. First, we
conducted two further interviews:
one with the chief financial officer (CFO) of an organization
that is close to the Jewish
community and was mentioned in the media because it chose not
to invest with Madoff
(Strober and Strober 2009, 42)
11
and one with the chief executive officer (CEO) of a com-
pany specializing in defending the interests of minority
shareholders, who represents sev-
eral of Madoff’s investors.
In addition to our interviews, we also consulted publicly
available primary mate-
rials. In order to see how Bernard Madoff was constructed as a
trustworthy invest-
ment manager in the media, we retrieved press articles through
the Factiva
database.

12
We searched the period from January 1, 1960 (when Madoff
started his
10. As noted by one of our reviewers, the production of a
scientific work involves the production of trustwor-
thiness with the help of mechanisms similar to the ones
described in our paper for the case of financial
investments. Here and there, it is up to the readers (investors) to
judge whether the output is sufficiently
trustworthy. The production of trustworthiness in the scientific
realm has been particularly discussed by
Latour (1987).
11. In the remainder of the paper, quotations from this interview
will be made by reference to
“noninvestor 1.”
12. Factiva is a nonacademic database of international news
containing 20,000 worldwide full-text publications
including the Financial Times, and the Wall Street Journal, as
well as the continuous information from
Reuters, Dow Jones, and the Associated Press (see
http://www.dowjones.com/factiva) (last retrieved:
February 1, 2013).

activity) to November 30, 2008 (a few days before the
announcement of the fraud,
see Table 1).
14
As we were interested in the potential impact that such press
articles
could have on the views of investors, including the
nonsophisticated ones, we decided to
exclude specialized professional journals and magazines and to
use the general press
instead. More specifically, we searched the 25 newspapers in
the United States with the
highest circulation (i.e., Wall Street Journal, USA Today, New
York Times, etc.).
15
We
conducted a search on the keywords “Bernard Madoff” and
“Bernie Madoff.”
16
This
search resulted in 47 articles, each of which we carefully read
to identify instances of the
construction of trustworthiness.
TABLE 1
Chronology

1938, April 29 Bernard Madoff born in New York City.
1960 Madoff graduates from Hofstra College, Hempstead, New
York, with a degree
in political science. He qualifies as a general securities
representative
(salesperson) and general securities principal (allowing him to
establish a
securities sales and trading firm). The securities firm of Bernard
L. Madoff
Investment Securities is founded and registered with the SEC as
a broker-dealer.
1962 Accountants Frank Avellino and Michael Bienes begin to
raise investments for
Madoff, promising returns of 12 to 20 percent.
1967 Bernard Madoff’s brother, Peter, graduates from Fordham
Law School and
joins his brother’s firm as a partner.
1971 The NASDAQ over-the-counter securities trading market
is created.
1983 Madoff Securities International opens in London.
1984 Madoff becomes a member of the Board of Governors of
National Association
of Securities Dealers (securities self regulatory organization).
1985 Cohmad Securities is founded (the legitimate part of
Madoff’s securities trading
business).
1990 Madoff becomes Chairman of NASDAQ.

1992 Avellino and Bienes are accused of illegally selling
securities to thousands of
investors over three decades. Madoff refunds the money.
1993 Avellino and Bienes are forced to shut down and pay a
fine.
2000 Harry Markopolos submits his first allegations concerning
the Madoff fraud to
the SEC in Boston.
2001 Stories about Madoff appear in the financial press
questioning Madoff’s success
(see Arvedlund 2001; Ocrant 2001).
2005 “The World’s Largest Hedge Fund Is a Fraud” (Harry
Markopolos).
13
2006 SEC opens an investigation of Madoff.
2006 Madoff registers as an investment adviser.
2007 SEC closes investigation of Madoff, finding no fraud.
2008, Dec. 10 Madoff confesses to his brother and his sons.
2008, Dec. 11 He is arrested by the FBI.
2009, March 12 Madoff pleads guilty to 11 criminal charges.
2009, June 29 He is sentenced to 150 years in federal prison.
2010, December 11 Suicide of Mark Madoff, Bernard Madoff’s
eldest son.
13. Available at:
http://static.reuters.com/resources/media/editorial/20090127/Ma
rkopolos_Memo_SEC.pdf (last

retrieved: February 1, 2013).
14. Two detailed chronologies have been published (see
Kirtzman 2009, 273–79; Sander 2009, 255–59).
15.
http://en.wikipedia.org/wiki/List_of_newspapers_in_the_United
_States (last retrieved: February 1, 2013).
16. It was impractical to make a research on the name “Madoff”
because too many results turned out to be
unrelated to Bernard Madoff.
Finally, we consulted other materials, such as videos of victims
published on the Inter-
net
17
as well as books (Arvedlund 2009; Kirtzman 2009; LeBor 2009;
Oppenheimer 2009;
Ross 2009; Sander 2009; Strober and Strober 2009; Weinstein
2009; Arvedlund 2010; Sar-
na 2010; Henriques 2011) and press articles (see, e.g., Seal
2009) that addressed the Mad-
off fraud. It should be pointed out that it is difficult to verify
the information provided in
secondary sources, especially in the case of popular books; one
has to take into consider-
ation a certain level of “journalistic creativity” through which a

compelling narrative is
constructed. As a consequence, we cannot rule out the
possibility that some of the infor-
mation provided in the secondary sources is strongly framed or
misrepresented. However,
given that we use these sources mainly for creating a
background for understanding of the
case rather than to inform our theorizing directly, we believe
that we have mitigated the
impact of such problems. In those cases where we quote
interview sequences provided in
secondary sources, these quotations serve to support evidence
that we collected firsthand
in our own interviews.
In the following sections, we present the analysis of the
empirical material, organized
around different mechanisms that contribute to the production
of trustworthiness. Before
doing so, we provide some summary background about the
Madoff fraud.
4. The investment fraud of Bernard Madoff
Bernard Madoff, who was born and raised in New York City,
founded Bernard L. Madoff
Investment Securities LLC (BMIS) in 1960. He became an
important player in the stock
markets and then a pioneer and leader in building the NASDAQ
stock exchange (Sander
2009, 37–39). BMIS was one of the top market makers on Wall
Street (Lieberman, Gogoi,
Howard, McCoy, and Krantz 2008).
Madoff remained chairman of the board of directors of BMIS
until his arrest on Decem-

ber 11, 2008 (Voreacos and Glovin 2008). As his business grew,
Madoff was eventually able
to purchase numerous properties including houses, apartments,
and boats in locations
around the world. However, he was said to have lived in a
relatively unostentatious manner
(Arvedlund 2009, 13; Strober and Strober 2009, 23). According
to a government filing in
March 2009, Madoff and his wife had a net worth of about $126
million, plus an estimated
$700 million comprising the value of his interest in BMIS
(McCool and Honan 2009).
On December 10, 2008, Madoff’s sons informed federal
authorities that their father
confessed to them that the investment management part of his
firm was fraudulent and
quoted him as saying it was “one big lie” (Appelbaum,
Hilzenrath, and Paley 2008; Henri-
ques 2011). The following day, FBI agents arrested Madoff and
charged him with securi-
ties fraud. In March 2009, he pleaded guilty in the United States
federal district court in
New York City to 11 federal crimes, and he admitted that his
wealth management busi-
ness was a Ponzi scheme.
Madoff claimed to use a split-strike strategy. A split-strike
strategy consists of acquir-
ing a basket of stocks highly correlated to the S&P 100 index as
well as call and put
options to create a ceiling and a floor for the gains and losses
from the acquired stocks.
In theory, this strategy allows managing risks while taking
advantage of the high return
from the acquired stocks (Bernard and Boyle 2009). However,

according to Ross (2009,
185), Bernard Madoff perpetuated his fraudulent scheme by
never making any trades for
his investors. On a daily basis, Frank DiPascali, Madoff’s chief
financial officer, kept track
of the closing prices of the S&P 100. Then, on a regular basis,
DiPascali and Madoff
would pick the stocks that had done well and create false
trading records for their “basket
of stocks” (Ross 2009, 74). One of his employees was in charge
of producing statements
17. See, e.g.,
http://www.vanityfair.com/politics/features/2009/04/madoff200
904?printable=true (last retrieved:
February 1, 2013) or
http://www.youtube.com/watch?v=U3iseHqUzak (last retrieved:
February 1, 2013).
reflecting thousands of trades that were supposedly being
executed for Madoff’s invest-
ment clients (Ross 2009, 73).
Madoff confessed that he had begun his fraudulent financial
scheme in the early
1990s. However, federal investigators believe that the fraud
began as early as the
1980s (Ross 2009, 205; Safer 2009). While the amount missing
from client accounts is

alleged to be as much as $65 billion, the court-appointed trustee
has estimated the
losses to investors were actually about $18 billion (Henriques
2009a). On June 29,
2009, Madoff was sentenced to 150 years in prison (Frank,
Efrati, Lucchetti, and Bray
2009).
The collapse of Madoff’s investment company and the
subsequent freezing of his assets
and those of his firm affected businesses, charities, and
foundations around the world. In
Table 1, we present a summary chronology of the main events
of the Madoff case.
5. The construction of trustworthiness in the Madoff case
Our review of the literature on trust has revealed that trust
needs some reason to develop,
and this reason will often relate to the perceived trustworthiness
of persons or institutions.
This raises the question how the investment opportunity that
Madoff offered came to be
seen as trustworthy. To address this question, we look first at
the motivations that inves-
tors give for why they decided to invest their money with
Madoff. These accounts reveal
important sources of trust which, in turn, are informative about
the mechanisms through
which trustworthiness is constructed.
When asked about how they got into contact with Madoff’s
investment fund, several
of our interviewees referred to other persons, such as relatives,
friends, or business part-
ners, who apparently recommended investing with Madoff. The

following two excerpts
provide an illustration:
I had a partner on the account, and my partner’s brothers
worked for a firm on Long
Island, in New York, who had their retirement plans with
Madoff. And we heard about
it through that connection. [My partner’s] brother worked for
that company and was
telling us how pleased he was with his profit-sharing plan with
the company. (Investor
2, interview)
My mother was a direct investor.… I originally went in on that
account to help her,
because I am a professional.… Friends recommended that she
go to this. (Investor 9,
interview)
It is often normal for people to rely on information received
from others when
making a decision. Most first-time experiences or exchanges
with another person or
party are based on information that is obtained secondhand,
given that there is no
firsthand experience available. Depending on the
trustworthiness of the person who
provides the information, the investment opportunity will
appear to be more or less
trustworthy.

At the same time, even the most trustworthy friends will hardly
be trusted “blindly.”
When important amounts are at stake, most people will ask for
at least some informa-
tion about the particular investment opportunity. Such
information provides an addi-
tional source of trust, over and above the trust in relatives or
friends. Indeed, the
investors we interviewed made reference to different types of
information that they had
received or collected about Madoff. In this respect, the
distinction between process-
based, characteristic-based, and institution-based trust (Zucker
1986; Neu 1991a, 1991b)
is helpful for understanding the different ways in which
trustworthiness can be
constructed.
Performance and reputation: Process-based trust
A first form of trust that emerged from our interviews is what
Zucker refers to as process-
based trust; that is trust “tied to past or expected exchange such
as in reputation or gift-
exchange” (Zucker 1986, 53–54). What counts here is the fact
that there is some past track
record that fuels one’s expectations about the future. The
tendency to make investment
decisions on the basis of past information is well documented in

empirical research
(Wilcox 2003)—despite the questionable rationality of such
behavior from an economic
point of view.
As Neu (1991b, 247) explains, “individuals rely on transaction-
specific information to
infer that the necessary trust exists for an exchange to occur in
the future.” If one has a
“personal history” with someone else, then process-based trust
is generated firsthand. Yet,
in many cases, people will rely on secondhand information
about past conduct and will
refer to “stories, testimonies, evaluations, or credentials given
by others” (Sztompka 1999,
71). This is especially true for the initial decision to invest.
Investors’ accounts about their
motivation to engage with Madoff provide evidence for this
kind of trust. Consider, for
example, the following statement:
My husband originally knew Mr. Saul Alpern, father-in-law of
Mr. Madoff, who was a
very nice honest accountant.… When he mentioned … that his
son-in-law was in the
financial area doing very well for his clients, [we] decided to
invest.” (Investor 25, impact
statement)
Here, trust is rooted in (a rather vague) knowledge about
Madoff’s past performance
as an investment manager (i.e., the fact that he was “doing very
well for his clients”). Such

knowledge may also be obtained from the media, such as when
Madoff is praised for his
performance and is described as a “wizard”:
As a matter of fact, I went to the New York Public Library and I
investigated as best I
could … I do recall there being an article in the New York
Times or the Wall Street
Journal, saying the man was a wizard. No one knew exactly how
he did what he did,
but he was successful and nobody cared. (Investor 2, interview)
Reputation as a trustworthy investment manager is not
necessarily based on a
direct assessment of performance, however. It can also derive
from someone’s associa-
tion with other trustworthy persons or institutions, as the
following two quotes
exemplify:
We knew [Madoff] had headed up, or started, I think, … the
Cincinnati Stock
Exchange. He was a consultant to the SEC. (Investor 9,
interview)
Madoff … was also formerly president of NASDAQ and was
very highly regarded in
Wall Street. And he [the brother of the investor] couldn’t find
out anything negative
about him. (Investor 11, interview)

Madoff was also active in the National Association of Securities
Dealers (NASD), a
self-regulatory securities industry organization. He served as
the Chairman of the Board
of Directors and as a member of the Board of Governors of the
NASD. He was, further-
more, a member of the Board of Directors of the Securities
Industry Association, an
industry association for securities firms.
Here, it is Madoff’s involvement in prestigious institutions that
characterizes him as a
trustworthy person. The implicit assumption is that “fame and
popularity are achieved
through exceptional deeds” (Sztompka 1999, 73) and this
creates expectations concerning
future behavior.
Process-based trust may come about in an even more indirect
way. When some of our
interviewees referred to the financial expertise of their relatives
and friends, they formed
their expectations on the basis of prior exchanges with their
relatives and friends rather
than with Madoff:
First, in about 1985, through a friend of my brother, who … had
been very successful

with finances, and my brother was speaking well of him and he
had a good fund …,
and I did invest. (Investor 5, interview)
Someone who was “very successful with finances” can be
expected to make the right
investment decisions in the future. However, recommendations
from friends or relatives
will not automatically trigger an investment. The level of
expectations plays an impor-
tant role. Someone who is very trustworthy may recommend an
investment with a safe
return of, say, 3 percent per annum, but this will hardly
motivate an investor who looks
for higher returns. In the case of Madoff, it appears that many
investors were attracted
by the stability of returns that Madoff’s investments had
provided in the past
rather than looking for an exceptionally high rate of return. As
one of our interviewees
elaborates:
A lifelong friend of mine, who is one of America’s wealthiest
individuals, suggested that
I invest with him [Madoff], because I was looking to put a
chunk of money in what I
considered a relatively safe and consistent return, unlike the
market where you can go
up 20 percent and down 20 percent …. (Investor 3, interview)
Being “one of America’s wealthiest individuals” implies that

this friend would be able
to identify a good investment. Process-based trust is at work
here. At the same time, the
investor was apparently attracted by what he perceived to be
“relatively safe and consis-
tent returns.” Another investor responds in a similar vein:
Now, my Dad and his brother were very, very, very
conservative investors. … Some-
where along the line, probably at one of the country clubs,
during a golf game or what-
ever, one of the friends said: “I met this guy Bernie Madoff, and
he has a fund that has
virtually guaranteed returns, and he has already got a track
record.” (Investor 8,
interview)
It was not extraordinarily high returns that the “conservative
investors” were looking
for. Rather it was the idea of “virtually guaranteed returns” that
were higher than those
of other, low-risk investments. Trustworthiness closely relates
to consistency and stability
of past actions (Sztompka 1999, 72).
How Madoff was constructed as a trustworthy investment
manager is also evident from
our analysis of the press articles retrieved from Factiva. In the
majority of these articles,
Madoff is portrayed as a reputed expert in investment
management or market making. He
features as a pioneer in the field (e.g., the “New York market

maker who made the practice
[electronic communications networks—ECN] famous” (Stewart
2000)), as the representa-
tive of a well-established firm (e.g., his “securities firm is a
market maker for many stocks”)
(Pearlstein and White 2002) or the chair of an important
committee (e.g., Securities Indus-
try Association’s trading committee). This reputation of Madoff
as an expert is reinforced
by the fact that his name is often associated with other well-
known players in the financial
industry. McTague (1999) recounts that “[Madoff’s] company,
which is a market-maker, is
building an ECN with Merrill Lynch and Goldman Sachs.” What
we see at work here is
similar to what Gabbioneta et al. (2013) observe for the
Parmalat fraud; namely, that Par-
malat apparently managed to conceal its fraudulent activities
through its “ability to
enhance its status by associating itself with elite third parties.”
As some of the above examples illustrate, the processual
dimension of process-based
trust may sometimes be implicit, in the sense that the process
that grounds trustworthiness
is not very visible. Notions such as “expertise” or “reputation”
may then easily be
regarded as “characteristics” of the person in question.
However, since such characteriza-

tions are made on the basis of a history of past actions, we
follow Zucker (1986) and
regard them as instances of process-based trust. This is in
contrast to those characteristics
that are not really linked to any past exchange or activity but
are more intrinsic to a per-
son’s life, as discussed next.
Personal ties: Characteristic-based trust
When trust is built on the basis of knowledge about personal
characteristics such as one’s
family background, age, or ethnicity, Zucker (1986) speaks of it
as characteristic-based
trust.
18
If another person shares similar characteristics as oneself, then
this may create a
common background that reduces the perceived need to
negotiate in detail the terms of
exchange or to inquire into the other person’s credibility
(Zucker 1986, 61). The ascribed
characteristics “provide ready-made typifications that, correctly
or incorrectly, suggest
how individuals with [these] characteristics will behave in
certain situations” (Neu 1991a,
187).
Several commentators emphasized how Madoff exploited his
affinities with certain
groups or communities. It is well-known, for example, that he
used his links with the
Jewish community to facilitate his fraudulent scheme (Sander
2009, 170; Strober and

Strober 2009, 15). Likewise, he had affinities with other groups
of significant investors
such as motion picture artists, some of them funneled by the
Brighton Company, headed
by Stanley Chais (e.g., acting couple Kevin Bacon and Kyra
Sedgwick, director Steven
Spielberg, DreamWorks executive Jeffrey Katzenberg,
screenwriter Eric Roth) (Ross 2009,
162, 176); the “French connection” through Access
International and Thierry de la Ville-
huchet; and the “Latin connection” via Banco Santander (Sander
2009, 83). Fairfax
(2001, 70) refers to the exploitation of such shared
characteristics as “affinity fraud.”
Affinity frauds prey on groups—religious, ethnic, professional,
or other like-minded orga-
nizations—in order to sell some kind of investment or
membership in something (Sander
2009, 73). Among our interviewees and the analyzed statements,
only one referred to
affinity with Madoff:
My dad did not want to even discuss it. He was so committed to
Madoff. And a lot of
this had to do, again, the relationship. … And he had only met
Bernie and/or Peter one
time. But the tie to the Jewish community, Jewish philanthropy,
Jewish charities and the
fact that his friends were also successfully working with
Madoff; there was no other
place for us to put the money. (Investor 8, interview)

Even in cases where there was no direct affinity between an
investor and Madoff,
characteristic-based trust may have been at work. Potential
investors’ trust in their rela-
tives or friends, with whom they share certain expectations, can
create characteristic-based
trust “secondhand.” This seems to have been the case for
investor 4 who explains that he
trusted his friend’s recommendation:
18. Zucker (1986) uses the notion “characteristic-based trust”
while Neu (1991b, 1991a) speaks of “character-
based trust”. We use these notions synonymously.
I was looking for a new financial advisor, because the one I had
had for a few years
was retiring, and I spoke to a businessman, a friend of mine in
New York, who told me
that he had two advisors that he used. One was … and another
one was Bernard Mad-
off, whom I had never heard of. I had a lot of confidence in my
friend. (Investor 4,
interview)
One of the aspects of Madoff’s demeanor that may have allowed

him to perpetu-
ate a fraudulent scheme for such a long time was that he was
active in his community
as both a philanthropist and as a contributor and participant to
civic organizations.
Interestingly, this community engagement did not feature in any
of the press articles
that we retrieved from Factiva. One explanation for this could
be that this type of
community engagement is more likely to be mentioned in local
or regional media
rather than nationwide media. Madoff also served on the board
of directors of many
charitable institutions (Sander 2009, 55)—several of which
entrusted his firm with
investing their endowments. He and his wife also gave money to
political parties
(Oppenheimer 2009, 131), with the major portion going to the
Democratic Party of
the United States.
Trust in the work of regulators: the SEC
As mentioned above, some of our interviewees consulted
publicly available material prior
to investing with Madoff in order to verify the trustworthiness
of the investment opportu-
nity. Their testimonies reveal another source of trust that they
relied upon:
There was not a great deal of information available on him
[Bernard Madoff], but we
did know that the SEC, the Securities and Exchange
Commission here, did give him a

clean bill of health after being investigated. And we decided
that was good enough for
us. We are not sophisticated investors. (Investor 2, interview)
He [a friend of the investor] told me that he had talked to the
people at the
SEC, and they told him that everything they knew about Mr.
Madoff was satis-
factory. (Investor 4, interview)
In the two quotes above, reference is made to the SEC and its
role in monitoring the
activities of Madoff’s firm. It is apparent from the quotes that
the investors were reassured
by Madoff’s claim that he had been investigated by the SEC and
that he had received “a
clean bill of health.” What is at work here is what Zucker
(1986) and Neu (1991a) call
“institution-based trust.” People rely on the power of
institutions—in this case, regulatory
bodies—to ensure a proper functioning of social or economic
exchanges. The existence of
these institutions often produces comfort and reduces the
perceived need to monitor or
control personally a given exchange process.
As Prentice (2006, 800) explains, “most commentators consider
the SEC an extremely
successful regulator. The U.S. securities markets are the world’s
most efficient and liquid,
and inspire a high level of investor confidence. The SEC has
received repeated praise
throughout its almost seventy-year history as a ‘model

agency’.” The trust-producing
effects of an institution such as the SEC can partly be inferred
also from the way in which
the institution portrays itself. On the SEC website
(www.sec.gov), one can, for instance,
find the following statement:
Crucial to the SEC’s effectiveness … is its enforcement
authority. Each year the SEC
brings hundreds of civil enforcement actions against individuals
and companies for vio-
lation of the securities laws. Typical infractions include insider
trading, accounting
fraud, and providing false or misleading information about
securities and the companies
that issue them.
Such descriptions may foster investors’ belief that the
monitoring by the SEC is com-
prehensive and effective. Cases where such monitoring
apparently did not work are not
mentioned on the website.
Through benefit of hindsight we know that the investors’ trust
in the SEC was not
warranted. A complete examination of Madoff’s activities was

not undertaken by the
SEC, and in fact since Madoff’s arrest, the SEC has been
criticized for its lack of investi-
gative diligence. Concerns about Madoff’s operations began as
early as 1999, when a
financial analyst named Harry Markopolos told the SEC that he
believed it was impossi-
ble to achieve the gains Madoff claimed to deliver. Markopolos
was ignored by the SEC
throughout the 2000 to 2008 time period. He has since
published a book about the efforts
he made to alert the SEC (Markopolos 2010). The SEC’s
Inspector General, H. David
Kotz, has revealed that since 1992, the SEC received six
substantive complaints raising sig-
nificant red flags about Madoff and conducted two
investigations and three examinations
related to Madoff’s investment advisory business, with none of
them leading to discovery
of the fraud. In fact, Madoff could have been caught several
times, and especially in 2006,
but it appears that the investigators never asked the “right”
questions (U.S. Securities and
Exchange Commission 2009b). As Kotz concludes:
despite numerous credible and detailed complaints, the SEC
never properly examined or
investigated Madoff’s trading practices and never took the
necessary, but basic, steps to
determine if Madoff was operating a Ponzi scheme. Had these
efforts been made with
appropriate follow-up at any time beginning in June of 1992
until December 2008, the

SEC could have uncovered the Ponzi scheme well before
Madoff confessed. (U.S. Securi-
ties and Exchange Commission 2009b, 22)
Investors learned about these failures only in retrospect:
You know, I seem to remember that—and I guess that was in the
early 90s—there was
some talk of Madoff being investigated by the SEC. But my
memory is, my dad checked
it out, and now, we know in retrospect, that if there was an
investigation, it took about
ten minutes, and they found no issues, and that was the end of
it. (Investor 8, interview)
I continued to feel very secure despite a few blips on the radar,
which were immediately
cleared up by a statement made by the SEC confirming that Mr.
Madoff was still the
gold standard of Wall Street. (Investor 19, impact statement)
It is difficult to say what exactly prevented the SEC from
properly fulfilling its moni-
toring role. One of the problems, however, seems to relate to
the internal organization of
the SEC and its way of handling incoming tips or suspicious
facts. These used to come
via phone calls, emails, faxes, and even handwritten letters into
the SEC’s 11 regional

offices and Washington headquarters. Before the Madoff case,
one SEC’s office might
receive a written complaint about a bad broker, for instance,
and put the letter into a
filing cabinet if it was deemed without merit. So, if later on a
complaint about the same
broker was sent to another SEC’s office, staff there would have
no easy way of knowing
about the earlier tip and connecting the dots. Sometimes, the
only way an attorney could
find out if someone had looked into a complaint would be to
call all the other SEC offi-
ces. As a response to its fumbling of early tips about the Madoff
fraud, the SEC created
the “Tips, Complaints, and Referrals” (or TCR) Database. Once
a tip or complaint is
entered into this database, about 2,300 SEC employees can see
it and add new informa-
tion. The SEC’s new Office of Market Intelligence, which
created a partnership with the
Federal Bureau of Investigation in 2011, is using the database
as a key tool (Lynch and
Goldstein 2011).
Another factor that appears to have played a role in limiting the
effectiveness of the
SEC in this case relates to its financial resources. As Khuzami
(2009) points out, the SEC
oversees more than 30,000 registrants, including more than

12,000 public companies, 4,600
mutual fund families, 11,000 investment advisers, 600 transfer
agents, and 5,500 broker
dealers. In fiscal year 2008, the Enforcement Division received
more than 700,000 com-
plaints, tips, and referrals regarding potential violations of the
federal securities laws. Yet,
the entire Enforcement staff nationwide—including lawyers,
accountants, information
technology staff, and support staff—is just above 1,100 and
budget limitations seem to
have prevented it from increasing this number. After the Madoff
scandal was revealed, the
budget of the SEC was initially increased
19
although the House of Representatives subse-
quently pointed out that increasing the SEC’s budget ought to
be considered as part of
broader efforts to make the agency more effective (Ackerman
2011).
Several of the Madoff investors have filed lawsuits against the
SEC (or the United
States), arguing that their losses resulted from the insufficient
monitoring and control activ-
ities of the agency. It is worth mentioning that these lawsuits
were not decided in their
favor.
20
For example, in the case Dichter-Mad Family Partners, LLP v.
U.S.A. and the
SEC, the plaintiffs argued that they had “made their investments

in reliance on Madoff’s
reputation, clean regulatory record, and the SEC’s implied
stamp of approval” (Compl.
¶ 8) and that the SEC’s negligent acts “caused Madoff’s scheme
to continue, perpetuate,
and expand” (Compl. ¶ 2). The court, however, granted
defendants’ motion to dismiss the
case. The court confirmed that the allegations against the SEC
revealed serious regulatory
insufficiencies: “Many of Plaintiffs’ allegations (including the
factual averments contained
in the Report) identify decisions that, in hindsight, could have
and should have been made
differently. Other allegations reveal the SEC’s sheer
incompetence in regulating Madoff’s
broker-dealer, market-making, and investment-management
operations” (U.S. District
Court Central District of California 2010, 4). However, the
court nevertheless dismissed the
charges on the basis of the stipulations in the Securities
Exchange Act, according to which
the SEC has discretion in the timing, scope and manner of how
to investigate a given case:
“What is lacking in the present Complaint, however, is any
plausible allegation revealing
that the SEC violated its clear, non-discretionary duties, or
otherwise undertook a course
of action that is not potentially susceptible to policy analysis”
(ibid., 4–5).
In a sense, this type of court decision confirms the dilemma
surrounding institution-
based trust and controls: while regulatory bodies are expected to
fulfill important monitor-
ing and control functions, these agencies ultimately cannot be
(legally) blamed for not

having detected a case of fraud. While investors need to rely on
such institution-based
mechanisms, they are at the same time expected to not rely
blindly on them—and must
instead accept responsibility for their own investment decisions.
21
Trust in intermediaries: The role of the auditors
Intermediaries constitute the second institution-trust creating
mechanism. They provide
market participants with a form of warranty or guarantee that a
common set of rules is
19. Http://www.sec.gov/news/press/2009/2009-37.htm,
http://www.securitiesdocket.com/2009/07/09/senate-sub-
committee-proposes-to-further-increase-sec-budget-for-2010-to-
113-billion (last retrieved: February 1, 2013).
20. To the best of our knowledge. Some cases are still pending
as of February 1, 2013.
21. For a more detailed discussion of the principle of
‘individual responsibilization’ in neo-liberal forms of
government, see for instance Miller and Rose (1990), Garland
(1996) and O’Malley (1996).

being followed and that exchange is possible even in the
presence of moral hazard and
information asymmetries (Neu 1991b, 249).
Existing accounting research emphasizes the important role of
auditors in the produc-
tion of trust and comfort (e.g., Pentland 1993; Power 1997;
Gendron and B�edard 2006;
Malsch and Gendron 2009). By examining financial statements
and/or operational activi-
ties, auditing adds to the trust of market participants. Yet, the
effectiveness of auditing is
far from uncontested, given that the quality of an audit
ultimately remains difficult to
assess. More often than not, it is the very existence of an audit
process, rather than any
precise knowledge of what is being audited and how, that
provides comfort to decision
makers. Or, as Power (1997, 64) puts it, “the very idea of audit
is valued almost regardless
of what is done in its name.” The risky nature of trust placed in
auditing is apparent and
becomes even more apparent if one considers that, given the
complexity of auditing tasks,
auditing may easily degenerate into a practice of box-ticking
and ritualized verification of
superficial facts (Power 1997).
Madoff’s broker-dealer firm (BMIS) was audited by the
Certified Public Accountant,
David G. Friehling, who was the sole practitioner in the firm
Friehling & Horowitz,
CPAs, P.C. (F&H). Friehling certified BMIS’s financial
statements, including balance
sheet, income statement, and cash flow statement, and he wrote
a report on BMIS’s inter-

nal controls. The financial statements were filed with the SEC
and were sent to some of
Madoff’s customers who were potentially reassured by the fact
that the statements were
certified by an auditor (U.S. Securities and Exchange
Commission 2009a; see also Henri-
ques 2011, 149–50, 254–55). In Appendix 2, we provide an
extract of these filings for the
year ending October 30, 2007. These include a statement signed
by Madoff, the indepen-
dent accountant’s report, as well as the statement of financial
condition of BMIS.
22
Between 2004 and 2007, Friehling received monthly fees of
between $12,000 and
$14,500 as compensation for his services.
23
While Friehling was responsible for scrutiniz-
ing the presentation of the financial statements and for
identifying any material inadequa-
cies in the broker-dealer’s internal control system, it turned out
that he did not conduct
any independent audits. He simply pretended to have audited
Madoff’s operations while,
in reality, no such audit was conducted. Accordingly, the SEC
charged him in March
2009 with securities fraud, contributing to investment adviser
fraud, and the filing of false
audit reports with the SEC. Friehling pleaded guilty to all
charges in November 2009 but
insisted that he did not know about the Ponzi scheme
(Henriques 2009b).

24
One of the
factors that arguably allowed the misconduct of Friehling to
remain undetected was the
lack of information exchange between two regulatory bodies,
the SEC and the American
Institute of Certified Public Accountants (AICPA). The AICPA
requires that auditors
undergo a peer review process, including a review of audit work
papers. While Friehling
(falsely) reported to the SEC as having certified BMIS’s
statements, he reported to the
AICPA that he did not perform any audits, which allowed him
to avoid the peer review.
25
Friehling’s involvement in the Madoff fraud is obvious insofar
as he did not conduct
any independent audit at all. In comparison, the role of other
auditors involved in the case
22. The filings are accessible from the SEC Edgar database (for
the year ended October 30, 2007: http://www.
sec.gov/Archives/edgar/data/61369/999999999708001909/99999
99997-08-001909-index.htm) (last retrieved:
February 1, 2013).
23. United States District Court Southern District of New York
2009, 2-3. See: http://graphics8.nytimes.com/
images/2009/11/03/business/Friehling.pdf (last retrieved:

February 1, 2013).
24. Friehling was to be sentenced for these crimes in February
2010, but because of his cooperation with the
government, his sentence has been postponed several times. At
the time of writing this article (February 1,
2013), Friehling had not been sentenced yet.
2009, 6. See: http://graphics8.nytimes.com/
images/2009/11/03/business/Friehling.pdf (last retrieved:
February 1, 2013).
has been more contested. These auditors played an indirect role
in that they audited the
feeder funds through which investors invested indirectly with
BMIS. Among the auditing
firms concerned are “leading big-name auditors” (Sarna 2010,
153) such as KPMG, Price-
waterhouseCoopers, and Ernst & Young. Several investors have
filed lawsuits against
these auditors, accusing them of professional malpractice or
breach of fiduciary duty.
Some commentators agree with these allegations and point to
the insufficient controls
instituted by the audit firms. Sarna (2010, 153), for example,
opines that the auditors of

the feeder funds “merely accepted confirmations from Madoff
without looking any fur-
ther” and cites PricewaterhouseCoopers as an example. Similar
criticism has been raised
about other auditors (Gandel 2008).
While several investors have sued the auditing firms of the
feeder funds, the courts
have in most cases granted the defending firms’ requests to
dismiss (Gentile 2010; Orrick
2011). A major argument made by the courts is that the
investors failed to plead scienter
(i.e., to prove that the auditors had an actual intent to deceive,
manipulate, or defraud).
For instance, in a group of cases concerning feeder funds
managed by Tremont Partners,
the court established that “a shoddy audit in violation of
generally accepted auditing stan-
dards (GAAS) does not establish the intent to defraud.”
26
More generally, the court
argued that the auditors were only responsible for auditing the
feeder fund and “were
never engaged to audit Madoff’s business or to issue an opinion
on the financial state-
ments of BMIS” (ibid., 13).
The existence of auditors was an additional element in the
production of trust in
Madoff and his investment firm. On more substantial grounds,
however, there was little
actual control performed by these auditors. It would appear that
investors were comforted
by signatures, labels, and “big names,” thereby allowing Madoff

to continue with his
fraudulent scheme.
Encountering Madoff
The different ways of generating trust that we have examined in
the previous sections
all share a common element: they apparently contributed to
create a sense of trust
among investors without active manipulation by Bernard
Madoff. Effectively, one
could say that Madoff benefited from the malpractice or naivety
of other people or
agencies that allowed him to perpetuate his fraudulent scheme.
Yet, he was certainly
more than a passive bystander. As we will argue in this and the
following section,
Madoff actively provided information that increased his
trustworthiness in the eyes of
the investors.
The first way in which Madoff influenced investors’ beliefs was
through personal
encounters with them. In the highly institutionalized setting of
today’s economies, personal
encounters have lost much of their importance when compared
to institution-based forms
of trust production. Yet, they are not completely irrelevant.
Barrett and Gendron (2006,
636) suggest that institution-based trust “may be sustained or
transformed through the
way personal level trust is experienced by participants through
access points.” On the one
hand, face-to-face encounters offer the possibility for a more
intimate social relationship
in which the contracting parties can subject each other to

increased scrutiny (Roberts
1991; Roberts, Sanderson, Barker, and Hendry 2006). On the
other hand, they also offer a
stage where charisma and persuasive talk can lead to an
effective construction of a
trustworthy impression.
Most investors did not meet Madoff in person, but some of them
did. It is instructive
to examine their accounts in terms of how such encounters
developed. Among our
2010, 12. See: http://securities.stanford.edu/
1042/TPI_01/2010330_r02x_08CV11212.pdf (last retrieved:
February 1, 2013).
interviewees, one investor narrated his encounter with Madoff.
We quote his narrative at
some length here because of its illuminating nature:
I met with Madoff … I met with one of his salespeople, or
advisors, I do not remember
the exact word, and I had a meeting with him; and he said to
me: “Come on, let us go
meet Bernie now.” So, he took me into Mr. Madoff’s office, and
he was sitting behind a

big desk, very imposing, and the first thing he said to me was:
“You know, we need a
minimum of a million dollars for you to get into the fund.” And
at the time, I had the
money. I said: “I am prepared to do that.” And then, he started
asking me a lot of
questions. And I said to him: “It is a very funny thing. I am
investing a million dollars
with you and you are asking me the questions. Don’t you think I
should be asking you
the questions?” At that point, he said to me: “You do not have
to ask me any questions.
We have been interviewed and examined many, many times by
the American Securities
and Exchange Commission, and we have got nothing but a clean
bill of health from
them, and everything that we do has been supervised and
inspected; and we are very,
very regimented, and there is no problem with us. You can just
check with the Securities
and Exchange Commission.” (Investor 1, interview)
This quote reflects the different strategies that Madoff used to
deflect investors’ efforts
to obtain more information. The encounter starts when the

potential investor suggests that
it should be the investor who asks the questions, rather than
Madoff. The first strategy
employed by Madoff was to point to the regulatory role played
by the SEC. In so doing, he
invokes the power of institution-based trust, as discussed above.
The beginning of the quote
also reveals a complementary mechanism at work. When Madoff
starts the conversation by
pointing out that one million dollars is required to invest, he
creates the image of an exclu-
sive investment club—one that is only open to selected
individuals. This line of argumenta-
tion is continued as the conversation develops, as we see from
the rest of the quote:
Then, he said to me: “But I am very sorry. The fund is closed,
and we cannot take you
in.” And I said: “Okay, thank you very much.” And I left. I
called my accountant and I
said to him: “You know, I met with Mr. Madoff, and the fund is
closed; but the funny
thing was, he was asking me the questions and I should have
been asking him the ques-
tions.” And he said to me, he just kept referring me back to the
Securities and Exchange
Commission. And my accountant said to me: “You know, he
says, they have been
inspected many times by the Securities and Exchange
Commission and they have a clean

bill of health and the government has found no improprieties
and they are a very legiti-
mate company.” The next day afternoon, I received a call from
the gentleman whom I
originally met, who took me in to see Mr. Madoff. And he said
to me: “You know, I
spoke to Mr. Madoff and you are a very nice fellow, and bla-
bla-bla, and we will put
you in the fund. We will get you in.” Like they were doing me a
favor. I found out
later, that was their modus operandi with many people. They
declined them, and then,
they did them a favor by taking them back in, and I think they
have done that many
times. (Investor 1, interview)
The implication that the investor would be allowed into an
exclusive club is increased
by Madoff first rejecting the request to invest. Only later is
Madoff doing the investor a
“favor” by eventually allowing him to put money into the fund.
The whole deal with Bernie Madoff was, you felt you are lucky
to be in a club, so to
speak, to be invested with him. My friends [said], “Well, can’t
you get me in, can’t you

get me in?” (Investor 10, interview)
The following quote illustrates one strategy of Madoff for not
answering
questions.
Bernie had several stipulations. He would invest Hadassah’s
27
money but would be
unavailable to answer questions from anyone on our financial
advisory board. When I
asked him why, he told me the investment advisory side of his
company was very small
and he implied that he was doing this as an accommodation and
didn’t want to be both-
ered by people asking him a lot of questions. (Weinstein 2009,
40)
In addition, Madoff’s efforts to limit the information provided
to investors were
explained on the basis that he had developed an investment
strategy that he needed to
keep secret in order to continue offering the extra returns that
investors were looking for.
While none of our interviewees commented on this point, quotes

from the secondary liter-
ature point in this direction:
The fact that he refused to reveal the secrets of his operation
only encourage these inves-
tors to believe that of all the extant investment advisers, he and
he alone possessed the
right stuff [quotation from an interview]. (Strober and Strober
2009, 152)
I asked Madoff how he was able to accomplish his amazing
returns. “I can’t go into it
in great detail. It’s a proprietary strategy.” (Arvedlund 2009, 7)
By insisting on the proprietary nature of his investment
strategy, Madoff managed to
become “unaccountable” to his investors regarding the details
of his strategy. This is not
surprising given that Madoff was regarded as an “expert” or
even a “genius” who man-
aged to outperform the market precisely because he acted in a
different way. Indeed, suc-
cessful managers or entrepreneurs are often praised for breaking
the rules and acting
contrary to conventional wisdom (Messner 2009).
28
If such a practice is accepted—which
is often the case as long as it proves to be successful—then it is
difficult to apply the same
accountability standards to the details of such actions as in
other cases. The designation

as an expert or a genius implies that some level of
unaccountability must be accepted,
because it is understood that experts or geniuses cannot simply
“explain” what they do—
otherwise, everyone could imitate them.
29
Finally, Madoff was known for his “soft personality,” which he
used to reassure inves-
tors, as shown in the following quote:
He [Madoff] put his arm around my shoulder and assured me
that my money was safe
and I should not worry. I have to admit that I was not
sophisticated in investing or
finance and I trusted this kindly man. (Investor 19, impact
statement)
27. Hadassah is an American Jewish volunteer women’s
organization (charity) involved in health care, educa-
tion and youth programs.
28. As Cohen et al. (2010) note, it appears that several
managers of fraudulent firms received praise and admi-
ration from the press.
29. The designation as an “expert” highlights the close
association between the three different forms of trust
production, as presented above. One can become an expert
through professional certification or one’s asso-

ciation with reputed institutions. In this case, expert status is
best characterized as a form of institution-
based trust. In contrast, if one becomes seen as an expert mainly
because of one’s past performance, what
is at work is mainly process-based trust. Finally, if expertise is
mainly associated with a person’s innate
intelligence or intuition, then it would appear to be a form of
characteristic-based trust. All three mecha-
nisms appear to have been at work in the Madoff case, but the
role of institutions and the attention given
to past performance were particularly salient, in our view.
It therefore appears that the personal encounters between
Madoff and some of his
investors worked to increase the trustworthiness of the
investment opportunity—or at least
helped to eliminate concerns that the investors might have had.
Madoff successfully mobi-
lized his status as an expert (process-based trust), the role of
regulatory institutions (insti-
tution-based trust), and his appealing personality
(characteristic-based trust), to win
investors’ confidence.

Account statements
A second way in which Madoff actively influenced investors’
perceptions was through the
provision of account statements. While the above evidence
suggests that Madoff skillfully
avoided providing detailed explanations about his trading
strategies, this does not mean
that investors were given no information at all. In fact,
providing no information would
probably have created too much skepticism among investors as
to where their money
really was going. Madoff’s strategy was to provide investors
with a form of written infor-
mation that would give them little reason to question the
credibility of his operations.
From our interviewees, we learn that they received regular
statements concerning their
investments:
I received a very, very detailed monthly statement, every month
without fail. The state-
ment showed purchases of stock. The statement showed selling
of stock. The statement
showed purchases of United States Treasury Bills. And some of
them even had numbers.
So, you know, you thought you were really getting the right
thing. And every month I
looked at my statement, and I said: “Oh, look how much money
I made this month.”
You know? And the money just kept coming in on the

statements. And because of the
statements, I kept thinking how much money I was making at
Madoff’s, which really
did not happen. (Investor 1, interview)
These statements apparently provided comfort to the investors
because they showed,
in a very detailed way, how much money was invested and
earned. This is confirmed by
the interviews:
He [Madoff] would show you what you bought and what you
sold; or, what he
bought and sold for you; and then, on the final page, basically,
a glimpse at a new
balance. (Investor 8, interview)
It is worth pointing out that the importance of the statements as
an information
source for investors has increased following a change in
legislation in 1970 that stipulated
that investors would no longer obtain physical delivery of their
securities but instead
would leave them at their brokerages. Account statements
therefore constitute the primary
proof of one’s investments.
30
We provide in Appendix 3 excerpts from two consecutive
statements. Private informa-
tion concerning the investor has been removed.

31
The excerpts allow illustration of how
the investors were informed about their return. Investors
received two monthly statements
30. See the testimony of Ron Stein, President of the Network
for Investor Action & Protection, dated Septem-
ber 21, 2010, to the Subcommittee on Capital Markets,
Insurance and Government Sponsored Enterprises
of the House Financial Services Committee, chaired by
Representative Paul E. Kanjorski. Available at:
http://www.investoraction.org/wp-
content/uploads/2010/09/Niap_Testimony.pdf (last retrieved:
February
1, 2013). See also: http://www.scribd.com/doc/38043731/NIAP-
Testimony-Kanjorski-Subcommittee-on-
Capital-Markets-09-23-10 (last retrieved: February 1, 2013).
31. Two investors agreed to send us a copy of their statements:
one is dated from 1997, two from 2003 and
the two others from 2008. All are identical in terms of format.

per account: one securities account and one options account.
32
The monthly beginning
and ending balances of each statement are equal but
symmetrical.
33
The most important
figure for the investors is the value of the portfolio, which can
be found on page 5, under
the heading “Market value of securities.” In January 2003, the
value of the portfolio of
Investor 1 was USD 2,303,088. The following month, the value
was USD 2,530,972 (see
February 2003, p. 4). The apparent return on the month is thus
5.8 percent. If we consider
the ending balance on November 30, 2008 (USD 4,250,725) (not
disclosed in Appendix 3),
the annual rate of return from January 2003 to November 2008
amounts to 10.5 percent.
It seems reasonable to assume that seeing such kind of
information provided comfort to
investors that their money was invested in a good way. One
might argue, of course,
that investors should have become suspicious by the continuous
positive returns generated
and should have questioned whether there are actual
transactions behind the statements.
We suggest that the lack of such suspicion resulted to an
important extent from the
appearance of the statements. The statements appeared as if
they were real for different
reasons.

First, as noted by several of our interviewees, the statements
they received were similar
or almost identical to those sent by other institutions. There was
no apparent difference in
Madoff’s statements that would have caused investors to
become suspicious:
I received regular information, like I would from any other
brokerage firm: monthly
statements, quarterly statements, a year-end statement, the
whole thing. Everything
seemed very, very legitimate. … And every time there was
supposedly a sale or a pur-
chase, I received a statement accordingly. You know, I had been
dealing with brokerage
firms for many years and everything was identical. (Investor 4,
interview)
The statements looked just like what you would get from Merrill
Lynch, or from Shear-
son, or very similar to what I get today from Fidelity on a
retirement account, a small
retirement account. (Investor 8, interview)
A second point worth mentioning is that the statements
contained names and stock
prices of well-known companies, companies that the investors
were familiar with. This ref-
erence to real companies reinforced the perceived legitimacy of
the statements:

Monthly statements indicated that all of the investments were in
the Fortune 500 com-
panies; all very, very, very big names. (Investor 8, interview)
Third, the statements had the appearance of security:
We all knew that there is risk associated with the stock market
but our statements
showed [that] we were diversified. (Investor 21, impact
statement)
34
32. We have also received examples of these options statements.
In Appendix 3, we do not disclose them for
the sake of simplicity and because they are not particularly
informative for our purposes.
33. The beginning and ending balance do not represent the value
of the portfolio but the balance of a margin
loan account, which is an account with a brokerage firm that
allows a customer to buy securities on
credit.
34. Madoff claimed that, at the end of each month, returns were
“secured” into U.S. Treasury bills. What
kind of impact this strategy had on the investors is difficult to
say, however. On the one hand, one could
imagine that it reinforced investors’ sentiments of security by

the fact that the statements where showing
that Madoff parked investors’ money in very secure assets
(Treasury bills) at the end of each month. On
the other hand, it may have created some doubt among
investors, given that it is a rather peculiar strategy
which involves significant transaction costs without adding
really any value to the portfolios.
Fourth, the statements sent by BMIS appeared to be real
because they could be
exchanged with other parties, most notably tax authorities, who
would provide another
external validation regarding the truthfulness of the statements.
Each page of the account
statements received by the investors includes the mention
“Please retain this statement for
income tax purposes” written at the bottom (see Appendix 3).
Regularly, we would get a monthly statement from him. … And
once a year, we would
get a summary, a one-page summary of what percentage growth
there was, and I used
… those figures … for tax purposes. … The forms were
completely consistent and did

not look odd or strange at all. (Investor 5, interview)
At the end of the year, [you got] all the proper tax information
that you needed to file
your taxes, because this was a direct investment. (Investor 9,
interview)
The production of statements similar to regular bank statements,
exchangeable with
third parties and linked to other institutions (such as well-
known firms) helped to create
an impression of normality. Whether the statements were “real”
in the sense of represent-
ing actual trades was difficult for an investor to see. Some of
the investors tried to con-
duct “reality checks” by looking at whether the stock prices
indicated on the statements
corresponded to those in the newspapers or whether the total
sums were calculated
correctly:
My husband … periodically—especially, when he started to put
more money in—…
checked that the stocks on the days that we supposedly
purchased them, were purchased
at that price; that the dividends came through on the dates
stated. [Madoff] had a very
elaborate scam. (Investor 9, interview)
I used to work in the computer business and I understand
bookkeeping; everything was

totaled to the penny. [quotation] (Strober and Strober 2009,
109)
Other investors performed some due diligence:
The monthly statements we received were reviewed and logged
in our own version of
due diligence. (Investor 28, impact statement)
While the reality tests performed might have created comfort,
they did not allow the
investors to judge whether the statements were “true” in the
sense of corresponding to an
underlying reality of actual trades. Madoff was making sure that
there was an ex post cor-
respondence between the information on the statements and
publicly available informa-
tion:
Madoff or his lieutenants were checking the stock returns from
previous days and weeks
and instructing the clerks to enter transactions that were based
on old results. The com-
puter system would apply the same formula to each client’s
account, the only difference
being the number of shares each of them owned. (Kirtzman
2009, 137)
All that investors could check was whether the statements were
similar in form to
statements issued by other institutions and whether the
information regarding stock prices

Construction of a Trustworthy Investment: Insights from Madoff Fraud

Construction of a Trustworthy Investment: Insights from Madoff Fraud

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