Weekly Puzzle #3: Danger and Opportunity

Set up: There are dozens of stories that can be told about the sad fate that awaits investors, when they forget that danger goes with opportunity. Rather than pick one of the big stories (Ponzi, Madoff), I have chosen a smaller one, since it allows us to focus on how these schemes are born, what makes them grow and how a successful scam needs two parties: a scammer who may not always start off with the intent of committing fraud and and scammee (I don't think there is such a word) who really wants to be scammed.

The story

In this story, a former professor and associate dean at the Sloan School of Management at MIT and his son were arrested for committing securities fraud. Start with the news story on their arrest:

http://www.bloomberg.com/news/articles/2014-08-12/ex-mit-professor-son-to-plead-guilty-in-hedge-fund-scam

If you want a drier version, take a look at the FBI press release on the arrest:

http://www.fbi.gov/boston/press-releases/2014/former-associate-dean-of-mit-sloan-school-and-his-harvard-mba-son-plead-guilty-in-hedge-fund-scam

Details are scarce, but it looks like the pair started with a mathematical algorithm that they thought would beat the market or at least sold as such. They promised investors 13-15% returns, with minimal or no risk. It is not clear when they realized that things were not working out the way they claimed they would but the Madoff scandal indirectly led to the indictment of this pair.

The questions

1. The Bitrans were clearly smart and well educated. One taught at MIT and the other was a Harvard Business School grad. It is tough to know what was in their minds when they started the hedge fund, but do you think that they started off with the intent of committing fraud or do you think that they believed that they could beat the market?
2. Investors in the Bitran fund were offered a high return with low/no risk. Since many of these investors were wealthy and presumably informed individuals, how do you think that they justified to themselves the implausibility of the offering?
3. When the Bitrans discovered that their scheme was not working, they could have come clean (in which case they would have been guility of over selling their fund, but perhaps not faced legal sanction). Why do you think that they magnified their problems by covering up and
4. Based on your answers to the first three questions, do you think that we will ever be able to eliminate financial fraud? Why or why not?