As reported in The Ponzi Scheme Blog, the Supreme Court recently issued an important decision further defining the boundaries of SLUSA – the Securities Litigation Uniform Standards Act of 1998. Chadbourne & Park LLP v. Troice, 2014 U.S. LEXIS 1644 (Feb. 26, 2014) [an enhanced version of this opinion is available to lexis.com subscribers]. Two new decisions attempt to interpret and apply Troice in other Ponzi scheme cases.
In Troice, the Court determined that a class action could proceed against two law firms, an insurance brokerage firm, and a financial services firm for their alleged assistance to R. Allen Stanford and Stanford Financial in connection with Stanford’s multi-billion Ponzi scheme. The thrust of the Troice opinion was that the Stanford certificates of deposits did not fall within the definition of “covered securities” as defined by SLUSA, and that the “in connection with” link was not met: “A fraudulent misrepresentation or omission is not made ‘in connection with’ such a ‘purchase or sale of a covered security’ unless it is material to a decision by one or more individuals (other than the fraudster) to buy or to sell a ‘covered security.’”
So the Stanford victims are now able to pursue their claims against alleged wrongdoing defendants, but does the type of distinctions drawn by SLUSA create unfairness to victims in other Ponzi schemes where the thing being sold to them (even though non-existent) falls within the definition of a “covered security”? Should SLUSA apply where victims thought they were buying covered securities but in fact were buying nothing at all?
So far, two courts have considered the issue in connection with Ponzi scheme cases. In the first case, Spectrum Select, L.P. v. Tremont Group Holdings, Inc. (In re Tremont Securities Law, State Law, and Insurance Litigation), 2014 U.S. Dist. LEXIS 52082 (S.D.N.Y. April 14, 2014) [enhanced version], the allegations involve claims by victims who invested in funds that handed the assets over to Bernard Madoff. The plaintiffs allege that the funds did not conduct proper due diligence. The plaintiffs’ original state law claims against the defendants had been dismissed under SLUSA, causing the plaintiffs to amend their complaint to include federal securities laws claims. Following Troice, the plaintiffs asked the court to reconsider the dismissal of the state law claims.
Interpreting Troice, the Tremont court stated, “The Supreme Court held that the real issue was what the plaintiffs bought, not what the bank might buy.” The Tremont court further noted, “Essentially, the Court stated that the only ‘connection’ that matters under SLUSA was whether the plaintiffs themselves bought or sold an ‘an ownership interest’ covered securities.” The Tremont court reconsidered its prior order, observing that it had not “really analyzed” the “crucial issue” of whether the plaintiffs had “an ownership interest” in a “covered security.” Upon reconsideration, the court found that no such connection was present:
Plaintiffs did not buy an ownership interest in covered securities; they bought limited partnership interests in funds. There is no dispute that these limited partnership interests are not covered securities. Thus, like the plaintiffs in Troice, plaintiffs here did not acquire any ownership interest in covered securities, so there is not a sufficient connection between the material misrepresentations alleged and transactions in covered securities.
The court also rejected the defendants’ argument that the plaintiffs knew that the funds in which they were investing were simply a conduit for investing in Madoff and that they knew Madoff traded in covered securities. “Knowledge that the fund would buy covered securities for itself does not create the required ownership interest in covered securities.”
In another decision, In re Harbinger Capital Partners Funds Investor Litigation, 2014 U.S. Dist. LEXIS 64504 (S.D.N.Y. April 30, 2014) [enhanced version], the court was less certain how to interpret Troice and deferred a decision pending direction from the Second Circuit. The Harbinger court noted that the significance of the words “ownership interest” in Troice was unclear and the meaning of “in connection with” was subject to interpretation. Although the Harbinger court deferred its decision on a motion for reconsideration, it noted that in its original decision, “The fact that Plaintiffs themselves purchased interests in hedge funds, and not covered securities, was of no moment.”
The Harbinger court questioned the relevance of the distinction of “whether that investment involves owning actual covered securities, or instead buying into a vehicle whose sole purpose is to provide exposure to those securities.” The court further commented, “If the majority intended to make a distinction between transacting in ownership interests in covered securities and transacting in covered securities themselves--and to suggest that even the former would trigger SLUSA preclusion--it gave no guidance on what qualifies as an ownership interest.”
The Harbinger court chose to wait for the Second Circuit to rule on one of a few pending matters before resolving the reconsidered SLUSA question before it. “Given these difficulties, the Court will reserve decision pending guidance from the Second Circuit.”
Pending before the Second Circuit are two Madoff related cases: the appeal in In re Kingate Management Limited Litigation, No. 11-1397, and the petition for rehearing in In re Herald, Primeo, and Thema Securities Litigation, 730 F.3d 112 (2d Cir. 2013) [enhanced version].
Read additional articles at The Ponzi Scheme Blog
Kathy Bazoian Phelps is the co-author of The Ponzi Book: A Legal Resource for Unraveling Ponzi Schemes (LexisNexis 2012), along with Hon. Steven Rhodes. The Ponzi Book, recently reviewed by the ABI Journal and Commercial Crime International, is available for purchase at www.lexisnexis.com/ponzibook, and more information about the book can be found at www.theponzibook.com.
Kathy is also the author of is Ponzi-Proof Your Investments: An Investor’s Guide to Avoiding Ponzi Schemes and Other Fraudulent Scams. For more information, or to purchase the book, click here.
Watch Kathy’s interview on The Not So Legal Show.
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