Madoff case to rock already shaky hedge funds

BOSTON/NEW YORK (Reuters) - Bernard Madoff has single-handedly turned an already very bad year for hedge funds into a catastrophe.

Now the industry's already steep losses may grow even larger, dozens of funds might collapse and confidence eroded even more after a 70-year old New York-based investor allegedly cheated investors from Palm Beach, to New York, to Geneva to Madrid out of as much as $50 billion.

"You already have a crisis of confidence because of the falling stock market," said Charles Gradante, who selects hedge funds for clients as a co-founder of the Hennessee Group.

"Now that crisis has broadened to hedge funds directly because Bernie Madoff seems to have pulled off a gigantic fraud for so many years."

Panicked hedge fund investors hearing tales of how Madoff cheated his clients might worry they cannot trust their own managers either, investors and industry lawyers said.

"If this had happened any earlier in the year, you would have seen even more people trying to run for the exits," said Lawrence Glazer, managing partner at Mayflower Advisor.

The $1.5 trillion industry has been flooded with redemption notices for months as investors react to the industry's deepest ever losses of 18 percent.

Indeed, the panic will likely spread into next year.

"Anyone on the fence regarding redemptions to the fund industry over the next several months will likely put in their requests for capital withdrawal, as confidence in the system and in investment managers has been irreparably impaired," said Doug Kass, who runs hedge fund Seabreeze Partners Management.

For years Madoff played the part of a solid investment manager by boasting on his website about the firm's "unblemished record of value, fair-dealing and high ethical standards."

His office was filled with computer banks, there was little paper and he reflected the industry's reputation for secrecy by telling would-be investors very little about how he worked, people who know him remembered.

"Madoff's outfit was such a black box," said Salomon Konig, who helps endowments and wealthy families select hedge funds as chief investment officer at Artemis Capital Partners.

Konig was so worried that he told funds of hedge funds he was not interested in doing business with them if they were involved with Madoff, a society lion known for his affable manner at charity functions.

But plenty of other investors were less careful and downright eager to invest with Madoff, whose records showed he lost money in only five of 156 months, several people familiar with his clientele said.

Tremont Capital was an early fan, the people said. Also hedge funds Fairfield Sentry, run by Walter Noel, and Kingate Global Fund, were known as feeder funds for Madoff. And Spanish group BBVA had offered U.S. based advisors a chance to put their clients' money in his hands.

As the list of people linked with Madoff grows, industry experts believe the pain will be felt far and wide.

"This will be a who's who of people caught with him," said Lawrence Glazer, managing partner at Mayflower Advisors.

Already rumors are swirling about funds that will be wiped out by the alleged fraud.

"Is this going to be the nail in the coffin for a few hedge funds already teetering on the edge, I absolutely think so," said Peter Turecek, a managing director at Kroll Inc, a risk consultancy owned by Marsh & McLennan Cos Inc.

Another major result from the Madoff case will be an increase in hedge fund surveillance.

"A lot of people treat due diligence as a check the box kind of endeavor and this is a poster-child case for why you need to do real due diligence," Turecek added.

(Editing by Andre Grenon)