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Finding Bernie Madoff: Detecting Fraud by Investment Managers

62 Pages Posted: 11 Sep 2009 Last revised: 18 Jan 2011

Stephen G. Dimmock

Nanyang Technological University - Division of Finance

William Christopher Gerken

University of Kentucky - Finance

Date Written: January 16, 2011

Abstract

Using a panel of mandatory SEC disclosure filings we test the predictability of investment fraud. We find that past regulatory and legal violations, conflicts of interest, and monitoring, are significantly associated with future fraud. Avoiding the 5% of firms with the highest fraud risk allows investors to avoid 29% of investment frauds, and over 40% of the total dollar losses from fraud. Even though our predictions are based on publicly available information, we do not find evidence that investors are compensated for fraud risk through superior performance or lower fees. The results suggest that the currently required disclosures contain relevant information but this information is not fully utilized by investors. We suggest changes in SEC disclosure policy that increase investors' ability to detect fraud at minimal cost.

Keywords: Fraud, Investment Fraud, Operational Risk, Ponzi Scheme, SEC, Disclosure, Form ADV, Hedge Funds, Hedge Fund Fraud

JEL Classification: G2, G20, G28, K2, K22

Suggested Citation

Dimmock, Stephen G. and Gerken, William Christopher, Finding Bernie Madoff: Detecting Fraud by Investment Managers (January 16, 2011). Available at SSRN: https://ssrn.com/abstract=1471631 or http://dx.doi.org/10.2139/ssrn.1471631

Stephen Dimmock (Contact Author)

Nanyang Technological University - Division of Finance ( email )

S3-B1B-76 Nanyang Avenue
Singapore, 639798
Singapore

William Gerken

University of Kentucky - Finance ( email )

College of Business & Economics
Lexington, KY 40506-0034
United States

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