Today’s NYT (and Monday’s WSJ) each have articles which compare Madoff investors with those of recent $400 million dollar hedge fund fraud Bayou Group.
I believe this misunderstands the applicable law of partnership, fraud, and investing.
Hedge fund investors are limited partners, and as such, they have a fiduciary duty to their other partners. Regardless of the additional due dilly, the gut instinct, or any other basis one investor had when they pulled their capital, the Bayou case grants the other LPs the opportunity to clawback that money.
That was the Bayou decision — one I disagree with, but its the law (for now).
Managed account investors have no such legal obligation. Indeed, some people have argued that the doctrine of fraudulent conveyance might apply. But that requires that the investor who pulled money out of Madoff knew it was an illegal Ponzi scheme, and that their transfer of property was illegal and done with the intent to commit fraud.
Merely pulling money out of what you legitimately believe is your own brokerage account hardly qualifies as the appropriate mental state for fraud . . .
UPDATE: December 20, 2008 6:32am
Let me clarify one thing — I assumed that some of the investors were actually investors, and that the Ponzi scheme didn’t start until much more recently (5-10 years).
If its the case that the entire operation has been a scam from day one, well then, all bets are off. That is a different story. Whatever proceeds and withdrawals there were may simply be the proceeds of illegal activity. Then you may not get to keep anything, and there is a pro-rata redistribution of all assets.
But I strongly suspect that much of the early years were legitimate investing. My best guess is he went Ponzi to hide a bad quarter, and it snowballed from there.
Even Winners May Lose Out With Madoff
Investors May Have to Surrender Gains
JANE J. KIM, JENNY STRASBURG and AARON LUCCHETTI
WSJ, DECEMBER 15, 2008
Even Winners May Lose With Madoff
NYT, December 18, 2008