Madoff case to test Luxembourg fund rules
Monday, 21 December 2009
ZURICH/BRUSSELS, Dec 20 (Reuters): Luxembourg's drive to become a major funds domicile faces a stiff test next year when investors who lost money in Bernard Madoff's $65 billion fraud seek compensation from UBS via a Luxembourg court.
The push to attract alternative investment vehicles like hedge funds as registered funds accessible to investors across Europe will also depend on how the Luxembourg financial regulator upholds rules on investor protection.
"It is very important the (Luxembourg) rules are enforced from an investor's point of view. Some sophisticated investors rely on this," said Dermot Butler, chairman of Ireland-based funds administrator Custom House Group.
The groundbreaking Madoff litigation is key to assess whether Luxembourg standards protect investors "not just against fraud, but also against sloppy work, negligence and expensive errors," Butler said.
The litigation is focused on the role played by custodian banks UBS and HSBC, both of which acted as depositaries for the Luxembourg-based LuxInvest and LuxAlpha feeder funds that lost over $2 billion to Madoff's swindle.
A test court case scheduled early in 2010 will determine whether investors can sue custodian bank UBS directly for the losses they incurred. Claims could also be brought by the liquidators of the funds, lawyers said.
Lawyers representing investors say UBS, which set up the funds, was, as custodian, responsible for the safety of the assets.
UBS counters that the funds were set up at investors' behest specifically to feed into Madoff's funds, and that investors knew their assets were held with Madoff's securities firm and signed a waiver removing responsibility from UBS.
The Luxembourg financial regulator, the CSSF, has repeatedly said that European Union rules on custodian responsibilities oblige depositary banks to know at all times how assets are invested and where and how they are available.
"This responsibility is not affected by the fact that the depositary has entrusted to a third party all or some of the assets in its safe-keeping," said the CSSF in a statement earlier this year.
Disgruntled investors have already complained that investor protection rules are not being upheld in Luxembourg.
"When we look now at what has happened with this Madoff case very strongly feel cheated on," said Luc Schaack, a lawyer for shareholder advocate group Deminor, which is acting for some investors who lost money to Madoff.
"They think that Luxembourg is not a safe place to put the money because despite all the legal guarantees, nothing has happened in order to put enough pressure on to UBS to get their money back," Schaack said.
Players in Luxembourg's 1.7 trillion euros funds industry say any ruling would be welcome as long as it brings clarity to the investment landscape in Luxembourg.
"If UBS is adjudged negligent as a custodian, people will say investor protection in Luxembourg is solid and the rules are applied to everyone," said Martin Kloeck, partner at Zurich-based asset manager Signina Capital, which has just registered one of its funds in Luxembourg.
"If the bank is exonerated, it will be because they set up the fund, which was not publicly available, at the client's request."
Asset managers and service providers like depositary banks, auditors and fund administrators also want clarity on their legal obligations to holders of regulated funds like UBS's Luxalpha, which carried a UCITS-compliant tag.
The EU directives known as UCITS are designed to protect retail investors by setting out strict rules for investment funds open to the general public.
"If the law is strictly applied then the responsibility is clear," said Marc Clapasson, a managing director at Millennium Global, a Guernsey-based $14-billion alternative asset manager which is registering a number of funds in Luxembourg.
"But it's very difficult to judge. Madoff was an exceptional case which involved a lot of experienced investors, and a lot of people made mistakes, not just the custodians. The story is much more complex," Clapasson said.
Investors are also suing the auditor Ernst & Young for damages at one of the funds involved. Directors could also find themselves liable for damages.
The push to attract alternative investment vehicles like hedge funds as registered funds accessible to investors across Europe will also depend on how the Luxembourg financial regulator upholds rules on investor protection.
"It is very important the (Luxembourg) rules are enforced from an investor's point of view. Some sophisticated investors rely on this," said Dermot Butler, chairman of Ireland-based funds administrator Custom House Group.
The groundbreaking Madoff litigation is key to assess whether Luxembourg standards protect investors "not just against fraud, but also against sloppy work, negligence and expensive errors," Butler said.
The litigation is focused on the role played by custodian banks UBS and HSBC, both of which acted as depositaries for the Luxembourg-based LuxInvest and LuxAlpha feeder funds that lost over $2 billion to Madoff's swindle.
A test court case scheduled early in 2010 will determine whether investors can sue custodian bank UBS directly for the losses they incurred. Claims could also be brought by the liquidators of the funds, lawyers said.
Lawyers representing investors say UBS, which set up the funds, was, as custodian, responsible for the safety of the assets.
UBS counters that the funds were set up at investors' behest specifically to feed into Madoff's funds, and that investors knew their assets were held with Madoff's securities firm and signed a waiver removing responsibility from UBS.
The Luxembourg financial regulator, the CSSF, has repeatedly said that European Union rules on custodian responsibilities oblige depositary banks to know at all times how assets are invested and where and how they are available.
"This responsibility is not affected by the fact that the depositary has entrusted to a third party all or some of the assets in its safe-keeping," said the CSSF in a statement earlier this year.
Disgruntled investors have already complained that investor protection rules are not being upheld in Luxembourg.
"When we look now at what has happened with this Madoff case very strongly feel cheated on," said Luc Schaack, a lawyer for shareholder advocate group Deminor, which is acting for some investors who lost money to Madoff.
"They think that Luxembourg is not a safe place to put the money because despite all the legal guarantees, nothing has happened in order to put enough pressure on to UBS to get their money back," Schaack said.
Players in Luxembourg's 1.7 trillion euros funds industry say any ruling would be welcome as long as it brings clarity to the investment landscape in Luxembourg.
"If UBS is adjudged negligent as a custodian, people will say investor protection in Luxembourg is solid and the rules are applied to everyone," said Martin Kloeck, partner at Zurich-based asset manager Signina Capital, which has just registered one of its funds in Luxembourg.
"If the bank is exonerated, it will be because they set up the fund, which was not publicly available, at the client's request."
Asset managers and service providers like depositary banks, auditors and fund administrators also want clarity on their legal obligations to holders of regulated funds like UBS's Luxalpha, which carried a UCITS-compliant tag.
The EU directives known as UCITS are designed to protect retail investors by setting out strict rules for investment funds open to the general public.
"If the law is strictly applied then the responsibility is clear," said Marc Clapasson, a managing director at Millennium Global, a Guernsey-based $14-billion alternative asset manager which is registering a number of funds in Luxembourg.
"But it's very difficult to judge. Madoff was an exceptional case which involved a lot of experienced investors, and a lot of people made mistakes, not just the custodians. The story is much more complex," Clapasson said.
Investors are also suing the auditor Ernst & Young for damages at one of the funds involved. Directors could also find themselves liable for damages.