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Adding Insult to Injury: Investors in Madoff Feeder Funds Are Targets For Claw Back Suits

By Timothy W. Mungovan, Stephen LaRose and Joel Cavanaugh
Posted: 5th October 2011 09:07

Investors in Madoff feeder funds who redeemed capital prior to the disclosure of the fraud in December 2008 (“Redeeming Investors”) face increasing litigation risk.  While almost three years have passed since the Ponzi scheme was exposed, Redeeming Investors should not assume that the passage of time has reduced their litigation risk.  Redeeming Investors also should not take refuge in the fact that they did not invest directly in Madoff, that they are domiciled in a jurisdiction outside the United States, or that they invested in a fund that was domiciled outside the United States. 

The hard reality is that Redeeming Investors are litigation targets of both Irving H. Picard, as the Trustee for the liquidation of Madoff’s investment firm, Bernard L. Madoff Investment Securities, LLC (“BLMIS”) and the feeder funds themselves. 

Recently, Picard has filed several dozen lawsuits in the United States directly against Redeeming Investors in the largest feeder fund, Fairfield Sentry Limited (“Sentry”), to recover redemptions.  Meanwhile, acting separately from Picard, the liquidators of Sentry have filed more than two hundred lawsuits in the United States seeking to recover redemptions (together, the “Sentry Claw Back Suits”).  The Sentry Claw Back Suits appear to be the first in a wave of claw back suits that will be filed against Redeeming Investors in the coming months and years.  Any Redeeming Investor, regardless of where they are located and how much money they lost, is at risk of being sued in the United States. 

While the risk of a lawsuit is high, there are several procedural and substantive defenses available to Redeeming Investors.  Rather than burying their heads in the sand, hoping to “wish away” the risk of a suit, Redeeming Investors would be wise to pay close attention to the Sentry Claw Back Suits and develop their own defense strategy.  

Picard’s “Subsequent Transferee” Actions Against Redeeming Investors

Picard has broad powers under the Securities Investor Protection Act of 1970 (“SIPA”) and U.S. bankruptcy law to recover property for the benefit of the BLMIS Estate, including the power to seek recovery from both “initial transferees” (who redeemed directly from BLMIS) and “subsequent transferees” (who redeemed from an initial transferee, not directly from BLMIS).   

Picard has followed a carefully orchestrated litigation strategy.  The large feeder funds were among his first targets, in part because obtaining a judgment against these feeder funds as initial transferees is a condition precedent to pursuing the Redeeming Investors as subsequent transferees.  Recently, Picard has started to settle some of his lawsuits against several large feeder funds, including Sentry, the Tremont-sponsored funds and Mount Capital Fund Limited.  

Shortly after the Bankruptcy Court approved Picard’s settlement with Sentry, Picard launched more than twenty claw back suits against Redeeming Investors.  Each of these suits was commenced in the United States Bankruptcy Court for the Southern District of New York, against investors who redeemed capital from Sentry.  Many of these Redeeming Investors appear to be domiciled outside the United States. 

In each complaint, Picard alleges that after money was transferred from BLMIS to Sentry, it was subsequently transferred “directly, or indirectly to, or for the benefit of” the defendant/Redeeming Investor, rendering the money recoverable under the U.S. law (according to Picard).  Notably, it is unclear from the complaints whether the Redeeming Investors were net winners or losers.

The Feeder Funds’ Claw Back Suits Against Their Investors

Redeeming Investors also face the risk of a claw back suits by the feeder funds themselves.  The Redeeming Investors in Sentry who have been named as defendants in Sentry Claw Back Suits are located around the world - including Switzerland, Germany, Singapore, Kuwait, Brazil, and many other countries.  The Sentry liquidators’ Claw Back Suits generally assert a variety of state common law theories, including Unjust Enrichment, Money Had and Received, Constructive Trust, as well as several theories under the liquidation laws of BVI. 

Redeeming Investors Have Substantial Defenses to Claw Back Suits

Redeeming Investors have several potential defenses to claw back suits by both Picard and the feeder funds.  First, Redeeming Investors should consider whether the U.S. Bankruptcy Court in New York can exercise personal jurisdiction over them.  This inquiry focuses on whether the Redeeming Investor has sufficient contacts with the state of New York, or the forum in which the litigation is pending, to justify forcing the investor to defend the suit there.  Redeeming Investors who are domiciled outside the United States and who invested in offshore feeder funds should have the strongest defense on personal jurisdiction.  

Redeeming Investors also have a defense to these claw back suits if they can show that they gave “value” when they received their redemptions and acted in good faith.  For Redeeming Investors who redeemed principal only, redemptions of principal are generally, but not always, accepted as giving “value.”  Redeemers of principal only will still have to make some showing that they acted in good faith and then the burden will likely shift to Picard or the feeder funds to prove that the Redeeming Investor did not act in good faith.  For Redeeming Investors who redeemed principal and profits, they will have a more difficult time showing that they gave value and acted in good faith, particularly as to the profit portion of their redemptions. 

As to suits by the feeder funds, there is some question whether the U.S. Bankruptcy Courts have subject matter jurisdiction over these direct claw back suits.  In Sentry, Judge Loretta Preska, Chief Judge for the United States District Court for the Southern District of New York, recently decided that the Bankruptcy Court did not have subject matter jurisdiction over a subset of approximately forty cases that Sentry’s liquidators had originally filed in New York State courts.  It remains an open question whether the Bankruptcy Court has jurisdiction to hear the other two hundred or so Sentry Claw Back Suits filed by the Sentry Liquidators. 

The Pressure Is Building On Redeeming Investors

 The true risks to Redeeming Investors in feeder funds are difficult to quantify.  While there is a high risk of being sued in the U.S., the risk of adverse judgment is difficult to quantify with precision.  There are a large number of cases that have been filed concerning the Madoff fraud and different judges have been assigned to different cases.  Important decisions and developments are occurring almost weekly. 

Meanwhile, the law in the U.S. is still developing in several critical areas, including Chapter 15 of the Bankruptcy Code, the intersection of SIPA and the U.S. securities laws, and the good faith/fair value defense, particularly as to investors who redeemed principal and profits.  Some of the decisions from different judges appear somewhat contradictory, which adds to the uncertainty. 

Redeeming Investors should carefully monitor these on-going developments, so that they can develop their defensive strategize to minimize the risk of an adverse judgment against them. 


Tim Mungovan has an international practice in complex Commercial Litigation representing public and private corporations and businesses in a wide variety of areas, including securities, corporate governance, fiduciary obligations, investment management and financial services, fraud and trade secrets. As the founder and leader of the firm’s Private Fund Disputes team, he specializes in disputes involving private investment funds including hedge funds, private equity funds, venture funds, and limited partnerships. He has represented funds, investment advisers, managers, principals, feeder funds, institutional investors, and individual investors in various disputes, including control contests, partnership disputes, restructurings, removal of the general partner, and claims of fraud. Tim has a national reputation for litigating hedge fund frauds, and representing investors in connection with redemption disputes.  Tim can be contacted on +1 617-345-1334 or by email at 


Stephen LaRose focuses his practice on a wide range of commercial business litigation matters, particularly in the area of financial services, private fund disputes, securities and tax.  He regularly advises clients in disputes arising from private investment partnerships including affordable housing tax credit partnerships, hedge funds, and other private investment partnerships.  Mr. LaRose also represents clients in general disputes over contractual provisions between business entities, competition over trademarks and trade secrets, employment matters, and tax controversies. In each of these areas, Mr. LaRose has extensive experience representing his clients in motion hearings and trials before the state and federal courts of Massachusetts, as well as other jurisdictions. Stephen can be contacted on +1 617-345-1119 or by email at


Joel Cavanaugh’s practice focuses on complex commercial litigation. He has experience working on a variety of matters, including private fund disputes, copyright infringement, patent infringement, legal malpractice, trade secret misappropriation, and government investigations. Joel can be contacted on +1 617- 345-1176 or by email at 


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