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`UNITED STATES BANKRUPTCY COURT
`SOUTHERN DISTRICT OF NEW YORK
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`In re:
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`BERNARD L. MADOFF INVESTMENT
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`SECURITIES LLC,
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`Debtor.
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`IRVING H. PICARD, Trustee for the Liquidation
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`of Bernard L. Madoff Investment Securities LLC,
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`Plaintiff,
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`FEDERICO CERETTI, et al.,
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`Defendants.
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`Case No. 08-99000 (SMB)
`Adv. Proc. No. 08-01789 (SMB)
`SIPA LIQUIDATION
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`Adv. Proc. No. 09-01161 (SMB)
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`MEMORANDUM DECISION GRANTING IN PART AND
`DENYING IN PART DEFENDANT KINGATE GLOBAL
`FUND, LTD.’S AND KINGATE EURO FUND LTD.’S
`MOTIONS TO DISMISS THE FOURTH AMENDED COMPLAINT
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`A P P E A R A N C E S:
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`BAKER & HOSTETLER LLP
`Attorneys for Plaintiff, Irving H. Picard,
` Trustee for the Liquidation of
` Bernard L. Madoff Investment Securities LLC
`45 Rockefeller Plaza
`New York, NY 10111
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`Anthony M. Gruppuso, Esq.
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`Marc E. Hirschfield, Esq.
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`Geraldine E. Ponto, Esq.
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`David J. Sheehan, Esq.
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`Michelle R. Usitalo, Esq.
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`Thomas M. Wearsch, Esq.
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`Gonzalo S. Zeballos, Esq.
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`Of Counsel
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`QUINN EMANUEL URQUHART & SULLIVAN, LLP
`Attorneys for Joint Liquidators of Kingate Global Fund
` Ltd. and Kingate Euro Fund Ltd.
`51 Madison Avenue, 22nd Floor
`New York, NY 10010
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`Susheel Kirpalani, Esq.
`Rex Lee, Esq.
`Robert S. Loigman, Esq.
`Xochitl S. Strohbehn, Esq.
`Of Counsel
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`STUART M. BERNSTEIN
`United States Bankruptcy Judge:
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`Kingate Global Fund, Ltd. (“Kingate Global”) and Kingate Euro Fund, Ltd. (“Kingate
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`Euro,” and with Kingate Global, the “Funds” or the “Kingate Funds”) were Madoff feeder funds
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`that received transfers aggregating $825 million from Bernard L. Madoff Investment Securities
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`LLC (“BLMIS”) within six years of the filing date of the BLMIS liquidation proceeding. The
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`BLMIS trustee, Irving H. Picard (the “Trustee”), has sued the Kingate Funds as initial transferees
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`and the other defendants as subsequent transferees to avoid and recover the transfers.
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`The Joint Liquidators of the Kingate Funds (the “Movants”) have moved to dismiss
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`Counts I through VIII (the “Avoidance Claims”), Counts X and XII (the “Disallowance Claims”)
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`and Count XI (the “Equitable Subordination Claim”) asserted in the Fourth Amended Complaint,
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`dated, Mar.17, 2014 (“FAC”) (ECF Doc. # 100). For the reasons that follow, Counts X and XII
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`are dismissed, and the motion is otherwise denied.
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`A. Madoff and BLMIS1
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`BACKGROUND
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`The background information is taken from the well-pleaded factual allegations of the
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`FAC and other information that the Court may consider on a motion to dismiss for failure to state
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`a claim. Bernard L. Madoff, through BLMIS, operated a Ponzi scheme inducing investors to
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`open discretionary trading accounts with BLMIS for the ostensible purpose of buying and selling
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`securities. Madoff professed to engage in an investment strategy known as the “split-strike
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`conversion strategy,” or SSC Strategy, through which he purported to invest in a basket of stocks
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`within the Standard & Poor’s 100 Index (“S&P 100 Index”) that was intended to mimic the S&P
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`100 Index. (¶ 25.) 2 Supposedly, he would strategically time the purchases and sales, and at
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`times, the funds would be out of the market and completely invested in U.S. Treasury securities.
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`(¶ 25.) As a hedge, BLMIS would supposedly sell call options and buy put options on the S&P
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`100 Index. This is commonly referred to as a “collar.” (¶ 26.)
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`None of this actually happened. No securities were purchased or sold, and instead,
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`BLMIS used the money invested by BLMIS customers to make distributions to other BLMIS
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`customers. (¶ 28.)
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`Madoff was arrested on December 11, 2008 (the “Filing Date”). (¶ 13.) Upon
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`application by the Securities Investor Protection Corporation (“SIPC”) made pursuant to the
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`Securities Investor Protection Act of 1970 (“SIPA”), 15 U.S.C. §§ 78aaa, et seq., the District
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`Court appointed Irving H. Picard, Esq. as Trustee for BLMIS, and removed the case to this
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`
`1
`Headings are derived from the FAC. They are descriptive only, and do not necessarily imply the Court’s
`views of the allegations.
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`The parenthetical notation “(¶ __)” refers to the paragraphs in the FAC.
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`3
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`2
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`Court. (¶¶ 15-16.) Madoff pleaded guilty on March 12, 2009 to an eleven count criminal
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`information, admitting he “operated a Ponzi scheme through the investment advisory side of
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`[BLMIS].”
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`B.
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`The Defendants
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`There are many defendants but the following discussion is limited to those who are
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`germane to the Movants’ motion.
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`1.
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`Ceretti and Grosso
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`Frederico Ceretti and Carlo Grosso are Italian nationals residing in the United Kingdom.
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`(¶¶ 32-33.)
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`2.
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`The Kingate Funds
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`Ceretti and Grosso formed the Kingate Funds. (¶ 2.) Both are British Virgin Islands
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`(“BVI”) companies with addresses registered in BVI. (¶¶ 38, 40.) Kingate Global opened an
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`account with BLMIS in March 1994; Kingate Euro opened an account with BLMIS as a sub-
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`fund of Kingate Global on January 1, 1996. (¶¶ 39, 41.) The Kingate Funds are in liquidation
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`proceedings in BVI. (¶ 43.)
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`BLMIS transferred the following approximate amounts to the Kingate Funds:
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`Fund
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`Kingate Global
`Kingate Euro
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`Transfers within six
`years of the Filing
`Date ($)
`360,000,000
`465,000,000
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`Transfers within two
`years of the Filing
`Date ($)
`150,000,000
`245,000,000
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`Transfers within
`ninety days of the
`Filing Date ($)
`100,000,000
`155,000,000
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`Despite these transfers, the Kingate Funds’ deposits exceeded their withdrawals. Kingate
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`Global’s net equity as computed by the Trustee is $578,862,952, (FAC, Ex. B, p. 25 of 25), and
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`Kingate Euro’s net equity is $220,885,142. (Id., Ex. B, p. 23 of 23.) In total, they lost nearly
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`$800 million investing in BLMIS.
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`3.
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`The Management Defendants
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`Grosso formed FIM Limited, a London asset management company, in 1981. (¶¶ 35,
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`49.) Ceretti and Grosso formed FIM Advisers, a London limited liability partnership, in 2004,
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`where Ceretti serves as chief executive officer and Grosso serves as executive chairman and
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`chief investment officer. (¶¶ 36, 50.) FIM Limited and FIM Advisors are referred to collectively
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`as “FIM.”
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`Ceretti and Grosso formed Kingate Management Limited (“Kingate Management”) under
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`the laws of Bermuda in 1994 to manage the Kingate Funds, and Kingate Management then
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`appointed FIM, among other things, to advise and consult with Kingate Management concerning
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`the Kingate Funds. (¶¶ 4-5, 44, 46, 51-53, 110, 112.) FIM acted as agent for Kingate
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`Management, and Kingate Management acted as agent for the Kingate Funds. (¶ 83.) Between
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`April 23, 2001 and 2005 (when it was replaced by FIM Advisors), FIM Limited served as a non-
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`exclusive distributor for the Kingate Funds, identifying and soliciting potential shareholders.
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`(¶ 112.) FIM and Kingate Management are referred to collectively as the “Management
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`Defendants.”
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`Kingate Management is in liquidation in Bermuda. (¶ 48.)
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`4.
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` The Administrator
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`Citi Hedge, formerly known as BISYS Hedge Fund Services Limited (“BISYS”) and
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`Hemisphere Management Limited (“Hemisphere”), is a Bermuda corporation. (¶ 72.)
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`Christopher Wetherhill (“Wetherhill”) founded Hemisphere and was its chief executive officer
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`and president from 1981 to 2000. He was also a director of the Kingate Funds from their
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`formation until 2008, and was an officer of Hemisphere at the same time he was a director of the
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`Kingate Funds. (¶ 74.) Citi Hedge, through its earlier iterations, became the administrator of
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`Kingate Global in 1994 and of Kingate Euro in 2000. (¶¶ 73, 76.) It also acted as registrar to
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`each of the Kingate Funds beginning May 1, 2000. (¶ 78.)
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`Ceretti, Grosso, the Management Defendants and Citi Hedge are sometimes referred to
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`collectively as the “Non-Fund Defendants.”
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`B.
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`Ceretti’s and Grosso’s Close Connections to Madoff
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`Ceretti and Grosso were introduced to Madoff in the early 1990s by Sandra Manzke, a
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`hedge fund manager then affiliated with Tremont (Bermuda) Limited (“Tremont”). (¶ 94.) In
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`1993, Madoff informed fund managers that BLMIS would only accept institutional investors for
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`its investment advisory business. (¶ 95.) The Kingate Funds were created by Ceretti and Grosso
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`to solicit investors for BLMIS primarily from continental Europe, (¶ 96), and Ceretti and Grosso
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`prepared or otherwise participated in the presentation of the Kingate Funds’ public materials sent
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`to shareholders to encourage investments in the Kingate Funds. (¶ 96.) The Kingate Funds also
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`offered other fund managers without access to BLMIS an opportunity to invest with BLMIS. (¶
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`97.)
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`Ceretti and Grosso were part of Madoff’s inner circle. Ceretti, Grosso and Madoff and
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`their wives dined together in London. (¶ 102.) Madoff told one potential investor that he did not
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`meet with investors and should meet with Grosso to learn about BLMIS. (¶ 98.) Grosso met
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`with Madoff at least twice a year, and during those meetings and various telephone conversations
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`they discussed the performance of BLMIS and the Kingate Funds. (¶ 99.) At Madoff’s
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`invitation in 2001, they met on the 17th floor which was off limits to all but a few BLMIS
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`employees, select third parties, and Madoff family members. (¶ 100.) The 17th floor offices
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`included antiquated computers that were not connected to the BLMIS network and were used by
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`BLMIS employees to execute billions of dollars of trades on a monthly or even daily basis.
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`(¶ 100.) Besides in-person meetings, Ceretti and Grosso and other FIM employees participated
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`in 286 telephone conversations with BLMIS between 2004 and 2008, including a long talk on
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`December 2, 2008, days before Madoff’s arrest. (¶¶ 99, 101.) Grosso also had 225 telephone
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`calls with Cohmad Securities Corp., an entity co-owned by Madoff that referred investors to
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`BLMIS. (¶ 103.)
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`C.
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`The Kingate Funds’ Multi-Layer Management Structure
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`The Kingate Funds did not charge their shareholders performance fees; instead the
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`shareholders paid a management fee of 1.5% of the funds’ net asset value split between Kingate
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`Management3 and Tremont.4 (¶ 107.) Between 1996 and November 2008, Kingate Funds paid
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`$376,052,130 in management fees. (¶¶ 108-09.)
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`Kingate Management represented to shareholders and potential shareholders that it would
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`review “the activity of the investment adviser to ensure that it complies with the Funds’
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`investment guidelines and also [is] undertaking all actions that might be necessary in the
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`furtherance of the investment objectives of the funds,” (¶ 115), and the Information
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`Memorandum provided to potential shareholders for each of the Kingate Funds stated that
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`3
`Beginning in December 1995, FIM Limited received a portion of the management fee paid to Kingate
`Management as a consultant. (¶ 110.) FIM Advisers replaced FIM Limited in 2005. (Id.)
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`On or about March 1, 1995, Kingate Management and Tremont executed a co-manager agreement with
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`Kingate Global under which Kingate Management and Tremont were obligated to evaluate and monitor BLMIS,
`arrange accounting and administrative services, and provide all other necessary management services to Kingate
`Global. (¶ 106.)
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`Kingate Management “evaluates and monitors the Investment Advisor [BLMIS] and, in general,
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`provides all necessary management services to the Fund.” (¶ 116.) The 2006 Kingate Global
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`Information Memorandum stated that FIM Advisers “render[ed] consulting advice to [Kingate
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`Management] with respect to certain aspects of the Fund’s operational, administrative,
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`marketing, accounting and legal matters.” (¶ 117.) Finally, the management agreements
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`between Kingate Management and Kingate Funds allowed the former to delegate all of its duties
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`to FIM except the continuing obligation to verify FIM’s competence. (¶ 118.)
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`D.
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`The Defendants Knowingly Facilitated Madoff’s Fraudulent IA Business
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`1.
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`Efforts to Shield Madoff From Outside Scrutiny
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`Kingate Funds did not mention “Madoff” or “BLMIS” in the annual Informational
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`Memoranda sent to potential shareholders. (¶ 119.) When asked by an investor if he could
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`arrange an introduction with Madoff, Ceretti told the investor that it was a “sticky issue.”
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`(¶ 120.) In an email dated November 21, 2008, to an FIM Advisers employee, with a copy sent
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`to Ceretti, Grosso responded to concerns raised by an analyst regarding Madoff’s lack of
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`transparency by explaining one of the Kingate Funds’ roles: “[i]t is true that investors do not
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`have direct access to Madoff, who tolerates structures like Kingate to act as buffers between
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`Madoff and investors.” Kingate Management’s Shazieh Salahuddin contacted Frank DiPascali at
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`BLMIS in July 2006 regarding discrepancies in Kingate Funds’ net asset valuations, and
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`Salahuddin expressed her dissatisfaction with DiPascali’s explanation to Ceretti and Grosso.
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`(¶ 121.) Ceretti responded that she should raise her concerns within Kingate Management. (Id.)
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`Wetherhill did not resolve the discrepancy but reassured Ceretti and Grosso by indicating
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`Wetherhill had spoken with DiPascali. ( Id.)
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`2.
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`FIM’s High Standards of Due Diligence
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`FIM’s website promoted its extensive experience in asset management:
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`FIM’s investment model is based upon a disciplined and structured approach to
`research, portfolio management, and risk management. The model gives FIM a
`clear edge in the sourcing of new managers, in conducting in-depth due-diligence,
`and in structuring portfolios.
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`(¶ 122.) FIM regularly reviewed markets, strategies, managers, and peer groups, and required its
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`research specialists to conduct in-depth analysis into every aspect of every potential investment.
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`(¶ 123.) Each portfolio was subjected to continuous analysis to ensure that all risk factors were
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`identified and controlled and that all internal and external management portfolio policies were
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`followed. Risk management was integral to ensure “that the manager remains within his own
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`investment limits, and that the fund is being managed according to its stated objective, without
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`developing unexpected risk exposures or strategy drift.” ( Id.)
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`FIM used the “four limbs of due diligence: qualitative, legal, quantitative, and
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`operational;” each limb consisted of a dedicated team. (¶ 124.) Its due diligence included
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`monitoring “the effectiveness of the systems and procedures used to value the investment
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`portfolio, the independence of the pricing of the portfolio, the effectiveness of the reconciliations
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`performed” and the prime broker arrangement with the fund. It also monitored on a weekly basis
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`the risk of the portfolio and the individual funds within the portfolio. ( Id.)
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`Each due diligence team created a report, and the four reports were combined into a
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`single report, usually spanning between forty-five and fifty pages, that would ultimately be
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`presented to the investment committee. (¶ 125.) FIM “scored” each of the “limbs” of due
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`diligence to assist its analysts in evaluating each fund, and would not invest in a fund until it
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`completed its due diligence procedures. ( Id.) An analyst who had a concern with an investment
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`discussed the issue and closely monitored the fund manager, typically through weekly or bi-
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`weekly contact. (¶ 126.) If the concern persisted for three months, the investment committee’s
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`policy was to redeem the investment. ( Id.)
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`FIM’s investment committee considered one fund manager’s persistent refusal to meet
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`with investors a sign of a high probability of fraud. (¶ 120.) On at least one occasion in August
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`2007, FIM recommended liquidating an investment that analysts described as “too good to be
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`true” with a “limited downside” that made them feel “uneasy.” (¶ 127.) FIM records show that
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`an investment adviser with lack of transparency, lack of independent oversight, and operational
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`issues, and an investment result with low correlation with peer funds, all characteristics of
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`BLMIS, were causes for concern. ( Id.)
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`The Defendants Knew that FIM’s High Due Diligence Standards Were Not
`3.
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`Applied to BLMIS and the Kingate Funds
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`FIM did not apply its high due diligence standards to BLMIS and acknowledged as
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`much. It did not create a “four limb” due diligence report for the Kingate Funds, and the FIM
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`investment committee did not engage in substantive discussions of the Kingate Funds or BLMIS
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`at its regular meetings. (¶¶ 128-29.) A March 2008 report on thirty-one holdings included
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`detailed information on only thirty; Kingate Global’s page was blank. (¶ 130.) That same
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`month, an investor contacted Kingate Management requesting due diligence materials.
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`Salahuddin forwarded the email to Ceretti, Grosso and Wetherhill, noting that Kingate
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`Management did not have “half the things” requested. (¶ 131.) Grosso acknowledged in an
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`email to an investor that “the Kingate Fund . . . has a somewhat unusual structure, and that as a
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`consequence, there are a number of operational D[ue] D[iligence] points that may not be
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`answered to your total satisfaction.” (¶ 132.) In a November 2008 email to FIM’s Head of
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`Operational Due Diligence, Eric Lazear (“Lazear”), Grosso acknowledged “[w]e have never
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`done much [due diligence on Kingate], as it will be impossible to go inside Madoff to do a
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`proper D[ue] D[iligence].” (¶ 132.) After news of the Madoff scandal broke, Lazear wrote to
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`Grosso “[Kingate] is not a fund that went through our normal diligence process and I think it
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`should not be depicted as if it had.” (¶ 133.) One day after Madoff’s arrest, Lazear stated in an
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`email that he believed BLMIS was a “scam,” and had informed Grosso of “all the details”
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`supporting his belief before Madoff had confessed. (¶ 134.)
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`The Defendants Knew that a Proper Audit of the Kingate Funds by
`4.
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`PricewaterhouseCoopers Would Expose Major Badges of Fraud at BLMIS
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`PricewaterhouseCoopers (“PwC”) was the auditor for the Kingate Funds, but relied solely
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`on BLMIS’s auditor and did not independently verify any information. (¶ 135.) Grosso emailed
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`Wetherhill in February 2008 that “the auditors [at PwC] have not looked at all into the matter of
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`cash and cash movements [sic] controls. Several questions have not been addressed,” and in a
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`separate February 2008 email to Wetherhill, Grosso expressed his concern that PwC might
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`actually “start to ask all sort [sic] of questions next time they visit Madoff.” (¶ 136.)
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`Ceretti, Grosso and FIM Attributed BLMIS’s Remarkably Consistent
`5.
`Returns to Illegal “Front Running”
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`After an investment industry analyst published a newsletter in 2001 calling into question
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`Madoff’s SSC Strategy, (¶ 137), Ceretti, Grosso and FIM prepared scripted answers in a
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`document marked “INTERNAL NOTE – NOT FOR DISTRIBUTION” to the following
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`potential shareholder questions regarding BLMIS:
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`How can there be such a relative complete lack of volatility in reported
`(i)
`monthly returns?
`(ii) How can Madoff have the ability to time the market and to turn to cash
`before market conditions become negative?
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`(iii) How can Madoff have the ability to buy and sell stocks without noticeably
`affecting the market?
`(iv) Why has no-one [sic] been able to duplicate similar results?
`(v)
`How come other Wall Street firms have not become aware of the strategy
`and traded against it?
`(vi) Why is Madoff willing to earn commissions on trades, but not set up a
`separate asset management division to offer hedge funds directly to investors?
`(vii) Why doesn’t Madoff borrow money and manage funds on a proprietary
`basis?
`(¶ 138.)
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`
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`In response to “How can Madoff have the ability to time the market and turn to cash
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`before market conditions become negative?” Grosso prepared the following reply: “Madoff
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`benefits from unique market intelligence derived from the massive amount of order flow it
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`handles daily.” (¶ 139.) In response to “Why has no-one [sic] been able to duplicate similar
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`results?” the Grosso’s scripted reply stated “[B]eing such a large market maker (Madoff
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`currently accounts for about 15% of all equity transactions in the United States), he sees the
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`flows.” (¶ 140.)5
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`Citi Hedge’s Calculation of the Kingate Funds’ Net Asset Value Could Not
`6.
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`Be Substantiated
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`
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`Citi Hedge as administrator of the Kingate Funds calculated net asset value (“NAV”) of
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`each Fund’s portfolio attributable to the US dollar shares as of the close of business on the last
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`business day of the month, and verified the prices attributed to the securities held by the Kingate
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`5
`The FAC describes BLMIS’ activities as “illegal front running.” (¶¶ 139-40.) “Front running is the
`practice by a broker of trading for his firm’s proprietary account, or for his own personal account, in advance of a
`block trade (usually 10,000 shares or more) in circumstances in which the block trade, by its very size, will have the
`effect of altering the price of the security.” 3 BROMBERG & LOWENFELS ON SECURITIES FRAUD § 6:104 (2d ed.
`2015); accord Trustee’s Memorandum of Law in Opposition to Joint Liquidators’ Motion to Dismiss Fourth
`Amended Complaint, dated Oct. 14, 2014 (“Trustee’s Opposition”), at 21 n.72 (ECF Doc. # 126) (“Front-running
`occurs when a stockbroker trades ahead of its customers, seeking to profit from the price differential the execution
`of its customers’ orders would ostensibly generate.”).) The scripted responses do not imply that Madoff or BLMIS
`was “trading ahead” of BLMIS customer trades for their personal benefit and do not describe front running.
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`Funds by referring to pricing sources independent of BLMIS. (¶ 142.) Citi Hedge also prepared
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`and distributed monthly shareholder reports, processed new shareholder subscriptions,
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`maintained the Kingate Funds’ corporate records, disbursed dividends, and paid legal and
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`accounting fees and salaries. (¶ 143.) In 2000, Grosso asked Tom Healy of Hemisphere to
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`amend the Kingate Funds’ offering memorandum to state:
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`Net asset valuations . . . are determined by the Administrator based on
`independent verification regarding the value of the Fund’s portfolio assets . . . as
`of the close of business on the last Business Day of each calendar month.
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`(¶ 144.) Healy confirmed:
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`So far this year we have been checking all the trade tickets received from Madoff
`to the monthly statement and doing a 100% verification of the pricing. Therefore,
`the proposed statement in the prospectus properly reflects what is actually
`happening.
`
` ( Id.)
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`
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`Between 1997 and 2007, Citi Hedge received at least $5,902,037 in fees based on the
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`Kingate Funds’ NAV. (¶ 145.)
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`E.
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`The Defendants Knew of Impossible Trading Activity at BLMIS
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`
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`1.
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`The Kingate Funds’ Returns Were Impossibly Consistent Over Many Years
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`Kingate Funds’ returns were impossibly consistent notwithstanding the volatility of the
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`market. (¶ 147.) FIM compared the returns of the Kingate Funds with the S&P 500 Index
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`which is highly correlated to the S&P 100 Index, and also tracked the Kingate Funds’ results
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`against other Madoff feeder funds. (¶ 148.) The Kingate Funds reported positive returns at
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`times when the financial markets plunged, including during the burst of the dot com bubble, the
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`2000-2002 bear market, the aftermath of the September 11, 2001 attacks, the recession and the
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`2008 housing crisis. (¶ 149.) During the 116 months between April 1999 and November 2008,
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`Kingate Funds averaged annual returns of 12.4% while the S&P 100 Index experienced fifty-
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`five months of negative returns. (¶ 150.) The Kingate Funds were supposed to mimic the S&P
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`100 Index, but suffered negative returns in only five months of that same period. ( Id.) During
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`the final fourteen months of BLMIS’ existence, Kingate Funds generated positive returns while
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`the S&P 100 Index fell 39.4%. (¶¶ 151-52.) The May 2008 fact sheet that Kingate Funds sent
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`to its shareholders showed steady returns that outpaced the S&P 500 Index. (¶ 153 & fig.5.)
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`The Kingate Funds’ BLMIS Account Statements Reflected Impossible
`2.
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`Options Volume Trading and Equity Trades
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`
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`The daily options trading volume between 1998 and 2008 depicted in the Kingate Funds’
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`BLMIS account statements and trade confirmations, which the Non-Fund Defendants reviewed,
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`regularly exceeded the total number of S&P 100 Index options contracts (“OEX options”) traded
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`on the Chicago Board Options Exchange (“CBOE”) on any particular day. (¶¶ 155-60 & figs.6-
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`9.) The Trustee counted 1,162 options trades on behalf of Kingate Funds that exceeded the
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`CBOE volume from 1998 to 2008. (¶ 161.) In addition, options traded over the counter
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`(“OTC”) are not assigned Committee on Uniform Security Identification Procedures (“CUSIP”)
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`identification numbers, but the BLMIS OTC trade confirmations included CUSIP numbers.
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`(¶ 162.)
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`
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`BMLIS reported that it managed $13.2 billion by the end of 2006, and Kingate Funds’
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`account statements with BLMIS accounted for just under a quarter of that amount (and BLMIS
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`proportionately allocated shares or options from its block trades among its accounts). Yet the
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`Defendants knew that the volume of trades BLMIS executed was more than four times what
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`BLMIS claimed it traded on behalf of Kingate. (¶¶ 164-65.) “Any trade comprising 50% of the
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`market of any one S&P 100 Index equity in one day is highly improbable, if not impossible,” but
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`the Defendants “reviewed and verified” five such transactions between 2006 and 2008. (¶ 168.)
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`BLMIS purportedly sold 70% of the 2.5 million shares of Wells Fargo & Company (“WFC”) on
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`September 22, 2006 but did not move the price of the stock significantly. (¶ 169.)
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`BLMIS Purported to Sell Equities and Options Outside of the Daily
`3.
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`Reported Price Ranges
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`
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`According to Grosso, FIM would conduct an extensive analysis of the Kingate portfolio
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`on a monthly basis, and compare the prices of the trades with the range of prices of the day on
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`which the trades took place. (¶ 170.) The Non-Fund Defendants also reviewed the BLMIS trade
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`confirmations, which showed the prices for every purchase and sale of stocks and options, on a
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`monthly basis. ( Id.) From 1998 to 2008, 281 purported BLMIS trades fell outside the daily
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`reported price range for their respective security. (¶ 173; see ¶¶ 174-75.)6 BLMIS also reported
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`hundreds of Treasury Bills trades that fell outside the daily price range by at least one basis point
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`(and at least ten basis points on 144 occasions). (¶ 176.) The spreadsheets created by FIM in the
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`course of its monthly review identified whether the BLMIS reported prices fell within the daily
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`range, (¶ 172), and the Non-Fund Defendants reviewed and verified thousands of trades outside
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`of the daily price range, none of which could be legitimate. (¶ 177.)
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`Madoff’s Statistically Impossible Execution When Allegedly Buying and
`4.
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`Selling Stocks
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`
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`The Kingate Funds statements reflected trades that were consistently purchased near
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`daily lows and sold near daily highs despite Madoff’s claim he was buying and selling
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`throughout the day (time slicing) and reporting an average price. Approximately 81% of the
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`
`6
`For example, BLMIS reported a purported purchase of Intel Corporation on October 2, 2003 for $27.59 per
`share when the daily price range was between $28.41 and $28.95. (¶ 174.)
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`equity purchases between 1998 and 2008 occurred in the bottom half of the daily price range and
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`74% of the equity sales were in the top half of the daily price range. (¶¶ 178-82.)
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`F.
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`The Badges of Fraud Reflected in the BLMIS Account Statements
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`BLMIS Avoided SEC Reporting Requirements by Constantly Claiming to Be
`1.
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`Out of the Market at Quarter-End and Year-End Even Though Such Investment Behavior
`Was Inconsistent With the SSC Strategy
`
`
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`Various SEC reporting requirements are triggered when securities are invested in the
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`market at either the end of the quarter or the end of the year. (¶ 183.) Madoff purported to
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`liquidate all investments at those times, regardless of market conditions, and invest the proceeds
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`in Treasury Bills to evade these reporting requirements. (¶¶ 183, 185.) The Non-Fund
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`Defendants reviewed and verified the BLMIS statements, and knew that BLMIS’ end of the
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`reporting period purchase of Treasury Bills contravened the SSC Strategy. (¶ 185.)
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`2.
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`Strategy
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`Madoff’s Purported Options Trades Were Inconsistent with the SSC
`
`
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`As part of the SSC strategy, Madoff claimed to buy put options and sell call options to
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`hedge losses on the underlying basket of equities. (¶ 186.) Yet the Kingate Funds’ account
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`statements between 1996 and 2008 reflected that such trades generated substantial gains which
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`were inconsistent with the SSC Strategy. (¶¶ 187-88.) In addition, the SSC Strategy required
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`that the put and call “collar” be adjusted to reflect changes in the basket of equities if some of the
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`underlying equities were sold before liquidation of the entire basket. (¶ 189.) The BLMIS
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`account statements showed that BLMIS often sold out of an equity position prior to liquidating
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`the entire basket without adjusting the collar. (¶ 189.)
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`The Kingate Funds’ Trade Confirmations Frequently Contained Settlement
`3.
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`Anomalies in Purported Options Transactions
`
`
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`Options trades, per industry practice, have a settlement date on the day following the
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`trade. (¶ 191.) Madoff claimed to adhere to this practice. ( Id.) At least 555 of the 2,149 total
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`options contracts reportedly executed for the Kingate Funds between 1998 and 2008 settled
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`outside the normal period of T+1 (the business day following the trade), and failed to comply
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`with standard trading practices. (¶ 192.)
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`The Dividend Activity Shown on Customer Statements Was Inconsistent
`4.
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`With t