After Bernard Madoff's arrest, investigators rushed in to try to trace the missing money. They had expected to find records of many thousands of trades made for the investment fund by the firm's own large trading operation, which was run by Peter Madoff and Bernard's two sons.

They were shocked to find no evidence that such trades had occurred, according to the Financial Industry Regulatory Authority, the industry self-policing group that is among the organizations investigating. Monthly customer statements purporting to document the trading were phony, Finra said.

The legal and regulatory experts said it should have been apparent to those running the Madoff trading operation that Bernard Madoff wasn't using his own firm to make any of the thousands of trades he claimed to be making for his investment fund. If he had, they would have handled his trades and been required to keep detailed records of them.

The absence of such trades should have raised questions about where Bernard Madoff was doing the trading that generated the hefty commissions he said he was earning, said two securities law experts, Gomberg and Tamar Frankel of Boston University. Those are the kinds of questions a chief compliance officer would have been obliged to investigate, they each noted in separate interviews.

The trading volume had to be heavy because Bernard Madoff told Barron's magazine in 2001 that commissions on those trades was the only way the management firm made money. Unlike other fund managers, who charge clients upfront fees and often take a share of any gains, Bernard Madoff told Barron's: "We're perfectly happy to just earn commissions on the trades."

At one point, years later, Bernard Madoff told a Securities and Exchange Commission official that he couldn't produce his own trading records because he was using foreign brokers to make the trades for his investment fund.

But that, too, should have set off alarm bells for Peter, Mark, and Andrew Madoff, said a former Madoff competitor, Kenneth Pasternak, a founder of what is now known as Knight Capital Group. "Why would you execute a lot of equity and options derivative trades someplace else when you already have your own infrastructure, and the cost of clearing the trades is almost zero?" said Pasternak, who retired from the company in 2002.*


The Madoff firm was registered as a single corporate entity, but had two separate businesses, on different floors of the distinctive oval-shaped Lipstick Building in Midtown Manhattan.

One was its legitimate securities-trading operation. Bernard and Peter Madoff had pioneered advanced computer systems to execute trades in New York Stock Exchange-listed stocks and other securities away from the floors of the exchanges, and they were leading market makers in Nasdaq stocks.

Its customers—mainly institutions and discount brokerage firms—bought and sold stocks there because of low transaction cost, rapid execution, and the chance of getting a better price for their stock than on the floor of the exchange.

The other business was Bernard Madoff's investment fund, which his lawyers and spokesmen say he operated without involvement by the other family members from his private office two floors below the trading operation.

The fund drew in hundreds of wealthy individuals, charities, and educational institutions with its amazingly steady record of exceptionally high returns that varied between 10 percent and 20 percent a year, even when all the markets were down.

As compliance officer, Peter Madoff was obliged to do periodic testing to make sure that records were accurate and legitimate, and that commissions matched actual trades.

Pete Michaels, a Boston lawyer who specializes in brokerage firm regulatory matters, says that because of the broad requirements for the job, normally "the chief compliance officer is going to be cognizant of all the trading activity in the firm, cognizant of what the net capital of the firm is, what the cash flow is, and where the money comes from."

Gomberg, the Chicago lawyer, said the chief compliance officer is "the house policeman."