Dan was a remarkably gifted investor as well.  He made a half million dollars on 8,000 shares of Apple stock in just over a year.  That was just one trade.  He made $400,000 in a year on 157,000 shares of Lucent Technologies.  He made a million dollars on Big Lots shares.

In fact Dan was so shrewd, that he closed out his major account with the fraudster firm Bernie L. Madoff Investment Securities in April 2006.  That was more than two and a half years before Madoff shut its doors.  

He got out because he had a bad feeling about the firm.  Its returns were “too good to be true,” he said.  Sometimes you have to go with your intuition, and Dan got “queasy.”

That was a good move, because the only people that get out of Ponzi schemes are the ones who get out early.  

Others get skinned.

The only problem is that Dan was Director of Operations at Madoff Investment Securities.  It was a position he held for over 30 years.

In December Daniel Bonventre was sentenced to 10 years in prison for his part in the $17.3 billion fraud.

In my view Bonventre got off easy; his sentence is way too light.  But the judge seems to have concluded that Bonventre was too stupid to really know what he was doing when he was faking financial statements and forging documents.  She concluded that he wasn’t nearly as bad as his “soulless” boss Bernie Madoff.

And for his part Bonventre complained that he was “duped” by Madoff.  

But it is impossible for all the faked trading records and client statements to have been generated without his knowledge and likely his enabling.  

And how does being duped by Madoff square with Bonventre closing out his own personal Madoff investment account in 2006 right when he was in the middle of scrambling to fraudulently conceal a liquidity crisis brought on there by client redemptions exceeding new account deposits?

There are four important takeaways from the Madoff affair.  It is useful to restate them to see if they have any applicability to financial events unfolding around us today.

First, if something is too good to be true, it probably is.   

As well-known as this maxim is, it bears constant repeating.  Madoff’s reported returns were so good and consistent that once he had a client, they stayed with him.  Even in the swirling black hole of financial collapse in 2008, at the end of November when the S&P 500 was down 38 percent for the year, one Madoff fund was reported being up 5.6 percent.

Some of the more sophisticated Madoff clients knew the returns were too good to be true, unless Madoff was engaged in illegal front-running or insiders trading.  But they wanted to participate in the firm’s returns despite suspicions of larceny.

Second, don’t count on the state or its institutions for protection.

Madoff Securities was investigated 16 times over eight years by the SEC and agencies.  There were outspoken skeptics and whistleblowers like Harry Markopolis that tried - to no avail - to provoke the authorities to do something about the ongoing fraud.  But Madoff was too big and too well connected.   

Third, only those who get out of a Ponzi scheme early get out whole.

One of the secrets of Madoff’s success was that those who made redemptions or liquidated accounts early on while fresh money was pouring in were paid immediately.  Bonventre at Madoff Securities could still cash out in 2006.  But then, like any bank run, demand outpaces liquidity, delays become suspicious and fuel demands for yet more payments, demands that can’t be met.

Fourth, schemes and frauds are often exposed by major market reversals.

Madoff may never have had a cent invested in mortgage-backed securities.  It wouldn’t have mattered.  The fallout from the Bear Stearns and Lehmann Brothers failures and the implosion in the mortgage market quickly spread to other institutions and markets.  The market-wide demand for liquidity soon reached Madoff and the game was over.  

Is it useful to apply these four lessons from the Madoff affair to what is quietly going on today in the world of central banking and gold?

First, can central banks really buy trillions of dollars of debt securities today with money they didn’t have yesterday without something going very wrong?  Can they create money endlessly out of nothing to manipulate interest rates without consequences?  

Or consider:  From December 2007 to July 2010 the Federal Reserve secretly provided $16 trillion in loans to bail out politically connected U.S. banks and even foreign banks and corporations. The loans, provided without oversight, were made at the risk of the solvency of the United States and the value of the dollar, and amounted to a total greater than the entire GDP of the U.S.

Does creating trillions of dollars out of nothing at all in this way and investing it in government securities or loaning it out pass the smell test?  Or is too good to be true?

Second, the state refuses to insist on auditing the Federal Reserve, and the Fed mightily resists an audit.  Much like the Madoff whistle-blowers, those that call for an audit of America’s gold are treated as nuisances, their suspicions are belittled by the authorities.  In fact, the institutions of the state are hostile to demands for accountability.

Third, there is a world-wide movement, now joined by some smaller foreign central banks themselves, calling for the repatriation of their gold from the major central banks especially from the Federal Reserve, but also from the Bank of England and Banque de France.

Germany’s request for the repatriation of its gold has been met by the promise of an agonizingly long, drawn-out compliance schedule, and then by further delays and now by confusion.  In fact the repatriation of German gold purportedly held by the Fed has been called “a potential irritant in U.S.-German relations.”  Why it should be an irritant if the gold is accounted for and deliverable is not clear.

In any event, other central bankers who may be, like Daniel Bonventre was at Madoff, well-positioned to know if there is a problem, are starting to ask for the return of their gold.  In November the Dutch Central Bank called home 122 metric tons of gold held by the Fed.

Belgium’s central bank is considering the repatriation of its gold and now Austria is discussing the same thing.  

If gold held by the Federal Reserve has been used as collateral for the Fed’s secretive and unaudited operations, if it has been loaned out, securitized, collateralized, hypothecated or re-hypothecated, or if the title to it is otherwise compromised, the only ones likely to get out whole are those who, like the Dutch, got out early.

Fourth, as Bernie Madoff’s victims learned, major reversals in fundamental markets begin to reveal frauds, reckless practices, and malinvestments.   The plunge in oil prices from $108 in June to below $50 qualifies as just such a reversal.  Its effects are already beginning to ripple out to other markets.  The contagion is spreading to countries like Russia.  And to banks that deal with Russia.

We don’t yet know what the systemic fallout will be from plunging oil prices.  We don’t know what will be found when the rocks are turned over.

However we do know that gold (and silver to a lesser extent) are the only monetary assets that are not someone else’s liability.  They are not dependent on someone else’s solvency, promises to perform, or honesty.  Their value does not depend on the endorsement or propriety of any state or state institution.

This does not extend to paper gold, representations of gold ownership, or assurances that gold held on your behalf is perfectly safe.

If you don’t hold your gold yourself, you have taken on counterparty risk.  

If foreign central banks are beginning to take possession of gold held on their behalf by others, maybe you should think about it, too.

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This article first appeared at MoneyandMarkets.com