Great frauds in history: Samuel Israel and Bayou Group

Samuel Israel's investment returns weren't all that they appeared to be as investors learnt to their cost.

Samuel Israel III, center, arrives at U.S. District Court in UNITED STATES
(Image credit: Bloomberg / Contributor)


Samuel Israel: couldn't be the market

Born in Louisiana in 1959, Samuel Israel came from a stockbroking family. His grandfather founded a commodities firm that was sold for $42m in 1981. Despite failing to graduate from university, Israel's family connections ensured he got a job as a junior trader at several Wall Street firms, including a minor role at the hedge fund Omega Partners, run by the billionaire Leon Cooperman.In 1996 he set up the Bayou Group, a hedge fund that claimed it had developed a unique trading system that could turn $300m into $4bn within a decade.

How did it work?

It seems that initially Israel legitimately tried to beat the market using his system. However, poor performance meant that the firmmade substantial lossesin its first year of operation, despite the fact that theoverall stockmarket was rising. Israel then tried to hide the fund's losses by handingback the commissions that Bayou's brokerage operations made from the fund's trades.

By 1998 even this tactic wasn't working, and he turned to outright fraud, even setting up a phoney auditing company (with the aid of the fund's accountant Dan Marino) to produce fake profit statements.

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What happened next?

By 2005 the gap between the fund's reported assets and its actual assets had grown to a huge level, thanks to bad investments (including to a man claiming to be a secret agent) and also to Israel and Marino taking money from the fund for their own personal use (disguised as commissions paid to the brokerage).

Investors started to get suspicious and demand their money back, prompting the duo to mail out redemption cheques, which bounced. In 2008 Israel was convicted of fraud and sentenced to 20 years in prison. He attempted to evade prison by faking his own death and can't be released before 2027.

Lessons for investors

Even if you count the $18.4m that was paid out by a hedge fund that had invested in the scheme but withdrew early, only $60m of the $450m invested in the fund in its nine years was recovered. Bayou's promise that to turn $300m into $4bn within a decade (an annual return of over 30%) should have raised some red flags, as should evidence that Israel exaggerated his CV, including his role at Omega Partners.

Dr Matthew Partridge

Matthew graduated from the University of Durham in 2004; he then gained an MSc, followed by a PhD at the London School of Economics.

He has previously written for a wide range of publications, including the Guardian and the Economist, and also helped to run a newsletter on terrorism. He has spent time at Lehman Brothers, Citigroup and the consultancy Lombard Street Research.

Matthew is the author of Superinvestors: Lessons from the greatest investors in history, published by Harriman House, which has been translated into several languages. His second book, Investing Explained: The Accessible Guide to Building an Investment Portfolio, is published by Kogan Page.

As senior writer, he writes the shares and politics & economics pages, as well as weekly Blowing It and Great Frauds in History columns He also writes a fortnightly reviews page and trading tips, as well as regular cover stories and multi-page investment focus features.

Follow Matthew on Twitter: @DrMatthewPartri