In the latest of what undoubtedly will prove to be a surge of Madoff-related litigation, investors have filed two more lawsuits against investment firms that invested their clients’ money with Bernie Madoff, resulting in massive investor losses.
UPDATE: Please note that a regularly updated table of all Madoff investor litigation, including in particular Madoff "feeder fund" litigation, can be accessed here.
The Tremont Lawsuit
First, as reflected in their December 22, 2008 press release (here), plaintiffs’ lawyers have filed a securities class action lawsuit in the Southern District of New York on behalf of investors in the American Masters Broad Market Prime Fund, L.P., a Delaware limited partnership which is managed by Tremont Group Holdings, which is also the Fund’s General Partner. The defendants in the lawsuit include Tremont; Oppenheimer Acquisition Corporation, which acquired Tremont in 2001; Massachusetts Mutual Life Insurance Company, Oppenheimer’s parent; and Ernst & Young, the Fund’s auditor.
The complaint (which can be found here) alleges violations of the federal securities laws as well as state common law fraud, negligence and breach of fiduciary duty. The complaint also assets derivative breach of fiduciary duty claims on behalf of the Fund.
According to the plaintiffs’ lawyers’ press release, the complaint alleges that
defendant Tremont, general partner of the Fund, concentrated over half of its investment capital with entities that participated in the massive, fraudulent scheme perpetrated by Bernard Madoff ("Madoff"). Investors who entrusted their savings to Tremont have suffered millions in damages and are faced with financial ruin.
The complaint also alleges that the defendants "failed to perform the necessary due diligence that they were being compensated to perform as investment managers and fiduciaries" and that the defendants "either knew or should have known that the Fund’s assets were employed as part of a massive Ponzi scheme and took no steps in a good faith effort to prevent or remedy that situation, proximately causing billions of dollars of losses and possible complete collapse of the Fund." Oppenheimer and Mass Mutual are named defendants as controlling persons of the Fund.
The complaint alleges with respect to Ernst & Young that the firm was "reckless or grossly negligent" in connection with its performance of its auditing duties, and specifically that the firm failed to detect "a myriad of ‘red flags’ indicating a high risk to Tremont from concentrating its investment exposure in Madoff."
The complaint alleges that the defendants allowed Tremont to invest $3.3 billion, over half of its assets, with Madoff.
The Fairfield Lawsuit
In addition, investors have also initiated a lawsuit in New York County (New York) Supreme Court against the Fairfield Greenwich Group, the hedge fund firm that has as much as $7.5 billion invested with Madoff. A December 22, 2008 Bloomberg article describing the Fairfield lawsuit can be found here. A copy of the complaint can be found here.
The lawsuit, which is filed as a class action on behalf of in the Fairfield Sentry fund, names as defendants Fairfield itself; Fairfield’s founding partners, as well as two principals of a Bermuda affiliate of Fairfield. It alleges breach of fiduciary duty, negligence, and unjust enrichment.
According to the news reports, the complaint alleges that the fund’s managers "had an obligation to look into Madoff’s investment methods and that the team ignored the ‘red-flag warning’ that Madoff’s investment produced small, steady gains in a declining market." The article also quotes the plaintiffs’ attorney as saying that the case has been filed in state court rather than federal court so that discovery can go forward quickly.
The arrival of these new lawsuits, following closely in the wake of the prior Madoff-related litigation suggests that there could substantial associated litigation yet to come, particularly with respect to the so-called feeder funds that invested clients’ assets with Madoff. The press coverage certainly suggests that there will be extensive additional litigation, as reflected, for example, in the December 22, 2008 National Law Journal article entitled "Lawyers from Florida to New York Besieged by Madoff Investors" (here).
The Tremont lawsuit’s inclusion of Ernst & Young corroborates an article published in the December 22, 2008 New York Times entitled "In Madoff’s Wake, Scrutiny of Accounting Firms" (here), which suggests that investors suffering losses from their investments in Madoff feeder funds may attempt to target the firms’ auditors. As noted in the article, the lawsuit filed last week against Madoff feeder fund Ascot Partners (about which I wrote here) also named the fund’s auditor, BDO Seidman, as a defendant in that case.
Credit Crisis Litigation Issues: A November 17, 2008 paper entitled "Legal and Economic Issues is Litigation Arising from the 2007-2008 Credit Crisis" (here) written by Harvard Law Professor Allen Ferrell, and Jennifer Bethel and Gang Hu of the Babson Business School surveys the marketplace conditions behind the credit crisis litigation and reviews the legal issues that are likely to arise as the litigation goes forward.
The article focuses on three principles that the authors believe will be critical in the credit crisis related securities litigation (1) no fraud by hindsight; (2) truth on the market defenses; and (3) loss causation issues.
With respect to the truth on the market defense, for example, the authors contend that "the quality of disclosures in the mortgage backed securities registration statements (and virtually all mortgage backed securities were registered) actually improved between 2001 to 2006 (in part due to the promulgation of Regulation AB in 2004) and that it was quite clear from these registration statements that the quality of the underwriting in a number of instances had declined."
With respect to the "loss causation issue," the authors contend with respect to the banks that suffered massive writedowns during 2007 and 2008, that the banks"suffered substantial losses due to their ‘super senior’ positions in CDOs and various liquidity guarantees to asset backed commercial paper conduits, rather than directly on their mortgage-backed security holdings."
Hat tip to The Harvard Law School Corporate Governance Blog (here) for the link to the authors’ paper.