United States District Court Southern District of New York

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 1 of 52

UNITED STATES DISTRICT COURT SOUTHERN DISTRICT OF NEW YORK

SECURITIES INVESTOR PROTECTION CORPORATION, Adv. Pro. No. 08-01789 (BRL)

Plaintiff,

v. Civil Action No. 12-mc-0115 (JSR)

BERNARD L. MADOFF INVESTMENT SECURITIES LLC,

Defendant.

In re:

MADOFF SECURITIES

TRUSTEE’S MEMORANDUM OF LAW IN OPPOSITION TO THE DEFENDANTS’ SUPPLEMENTAL BRIEFS REGARDING THE STANDARD FOR THE “GOOD FAITH” AFFIRMATIVE DEFENSE

BAKER & HOSTETLER LLP 45 Rockefeller Plaza New York, New York 10111 Telephone: (212) 589-4200 Facsimile: (212) 589-4201

Attorneys for Irving H. Picard, Trustee for the Substantively Consolidated SIPA Liquidation of Bernard L. Madoff Investment Securities LLC and Estate of Bernard L. Madoff Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 2 of 52

TABLE OF CONTENTS

Page PRELIMINARY STATEMENT ...... 2 PROCEDURAL HISTORY...... 5 ARGUMENT ...... 6 I. THE TRUSTEE HAS MET HIS PLEADING BURDEN WITH RESPECT TO INITIAL AND SUBSEQUENT TRANSFEREES ...... 6 A. The Trustee Has Pleaded the Elements of His Claims Under 11 U.S.C. §§ 548(a)(1)(A) and 550(a) ...... 6 B. The Trustee Need Not Allege the Defendants’ Lack of Good Faith ...... 7 C. Bayou III and Manhattan III: Good Faith is an Objective Test ...... 8 II. THE COURT SHOULD DENY THE FEEDER FUNDS’ MOTION TO DISMISS ...... 10 A. That the Feeder Funds Hired Service Providers Does Not Establish Good Faith as a Matter of Law ...... 10 B. The Feeder Funds’ Status as “Net Losers” Does Not Establish Their Good Faith ...... 11 C. The Feeder Funds’ Alleged Lack of Control Over Their Shareholders’ Decisions to Redeem is Irrelevant to Whether the Feeder Funds Acted in Good Faith ...... 12 III. THE COURT SHOULD DENY THE HEDGE FUND INVESTORS’ MOTION TO DISMISS ...... 13 A. The Hedge Fund Investors Are Sophisticated Investors ...... 13 B. Because They Were Presented with Facts That Suggested Fraud, the Hedge Fund Investors Had a Duty to Investigate ...... 15 C. The Hedge Fund Investors’ “Redistribution of Wealth” Argument is Wrong and Irrelevant ...... 15 D. The Hedge Fund Investors Reliance on “Control Person” and “Aiding and Abetting” Principles Are of No Relevance to the Trustee’s Bankruptcy Claims ...... 16 E. The Hedge Fund Investors’ “Social Costs” Argument Is of No Consequence ...... 18 F. The Ponzi Scheme Presumption Does Not Expand Section 548 of the Bankruptcy Code...... 19 IV. The Court Should Deny the Leverage Providers’ Motion to Dismiss ...... 20 A. The Defendants’ Arguments Are Based on the Wrong Standard of “Good Faith” ...... 21

-i-

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 3 of 52

TABLE OF CONTENTS (continued) Page

B. The Leverage Providers’ “Plausibility” Arguments Improperly Attempt to Place a Pleading Burden on the Trustee ...... 22 C. The Trustee’s Allegations Against the Leverage Providers ...... 23 V. THE COURT SHOULD DENY THE SERVICE PROVIDERS’ MOTION TO DISMISS ...... 27 VI. THE COURT SHOULD DENY THE THYBO DEFENDANTS’ MOTION TO DISMISS ...... 29 A. The Red Flags Pleaded by the Trustee Have No Bearing on the Sufficiency of the Fraudulent Transfer Claims ...... 30 B. There is No Presumption of Good Faith Under the Bankruptcy Code or SIPA ...... 33 C. The Trustee Has Sufficiently Pleaded Fraudulent Transfer Claims Against Subsequent Transferee Defendants ...... 35 VII. THE COURT SHOULD DENY THE THEMA DEFENDANTS’ MOTION TO DISMISS ...... 36 A. The Thema Defendants’ Purported Restitution Claim Is Irrelevant to the Good Faith Affirmative Defense ...... 37 B. The Trustee’s Claim Against the Thema Defendants Is Consistent With the Purpose of SIPA and the Bankruptcy Code ...... 40 C. The Trustee’s Claim Against the Thema Defendants is Consistent With the Plain Language of the Bankruptcy Code ...... 41 D. The Thema Defendants Did Not Demand the Return of Their Investments ...... 42 CONCLUSION ...... 44

-ii-

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 4 of 52

TABLE OF AUTHORITIES Cases Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128 (1972) ...... 34 Air Atlanta Aero Eng’g v. SP Aircraft Owner I, LLC, 637 F. Supp. 2d 185 (S.D.N.Y. 2009)...... 9 Anderson News, L.L.C. v. Am. Media, Inc., 680 F.3d 162 (2d Cir. 2012)...... 9 Armstrong v. Collins, No. 01 Civ. 2437 (PAC), 2010 WL 1141158 (S.D.N.Y. Mar. 24, 2010) ...... 39 Ashcroft v. Iqbal, 556 U.S. 662 (2009) ...... 29 Basic Inc. v. Levinson, 485 U.S. 224 (1988) ...... 34, 35 Bayou Accredited Fund, LLC v. Redwood Growth Partners, L.P. (In re Bayou Grp., LLC), 396 B.R. 810 (Bankr. S.D.N.Y. 2008) ...... 12, 37, 43 Bayou Superfund, LLC v. D. Canale Beverages, Inc. (In re Bayou Grp., LLC), No. 09 Civ. 02340(PGG), 2012 WL 386275 (S.D.N.Y. Feb. 6, 2012) ...... 4, 8 Bear Stearns Sec. Corp. v. Gredd, 275 B.R. 190 (S.D.N.Y. 2002) ...... 40 Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv. Fund Ltd.), 397 B.R. 1 (S.D.N.Y. 2007) ...... 4, 8, 9 Bell Atl. Corp. v. Twombly, 550 U.S. 544 (2007) ...... 9, 29 Bos. Trading Grp. Inc. v. Burnazos, 835 F.2d 1504 (1st Cir. 1988) ...... 44 Brown v. Third Nat’l Bank (In re Sherman), 67 F.3d 1348 (8th Cir.1995) ...... 9 Christian Bros. High Sch. Endowment v. Bayou No Leverage Fund, LLC (In re Bayou Grp., LLC), 439 B.R. 284 (S.D.N.Y. 2010) ...... passim CompuDyne Corp. v. Shane, 453 F. Supp. 2d 807 (S.D.N.Y. 2006)...... 17 Crigger v. Fahnestock, 443 F.3d 230 (2d Cir. 2006)...... 12, 15 Curcio v. Commʼr of Internal Revenue, No. 10-3578-ag(L), 2012 WL 3224041 (2d Cir. Aug. 9, 2012) ...... 11

iii

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 5 of 52

Cyber Media Grp., Inc. v. Island Mortg. Network, Inc., 183 F. Supp. 2d 559 (E.D.N.Y. 2002) ...... 17 Deitrich v. Bauer, 126 F. Supp. 2d 759 (S.D.N.Y. 2001)...... 17 Donell v. Kowell, 533 F.3d 762 (9th Cir. 2008) ...... 37 Dunnigan v. Metro. Life Ins. Co., 214 F.R.D. 125 (S.D.N.Y. 2003) ...... 35 Edison Fund v. Cogent Inv. Strategies Fund, Ltd., 551 F. Supp. 2d 210 (S.D.N.Y. 2008)...... 22 Ford v. Henry, 155 Misc. 2d 192 (N.Y. App. Term 1993)...... 38 Gowan v. Patriot Grp., LLC (In re Dreier LLP), 452 B.R. 391 (Bankr. S.D.N.Y. 2011) ...... 20 Gredd v. Bear, Stearns Sec. Corp. (In re Manhattan Inv. Fund Ltd.), 310 B.R. 500 (Bankr. S.D.N.Y. 2002) ...... 19, 39 Gredd v. Bear, Stearns Sec. Corp. (In re Manhattan Inv. Fund Ltd.), 359 B.R. 510 (Bankr. S.D.N.Y. 2007) ...... 8, 9 Gunnells v. Healthplan Servs., Inc., 348 F.3d 417 (4th Cir. 2003) ...... 35 Hayes v. Palm Seedlings Partners (In re Agric. Research & Tech. Grp., Inc.), 916 F.2d 528 (9th Cir. 1990) ...... 9 In re Beacon Assocs. Litig., 745 F. Supp. 2d 386 (S.D.N.Y. 2010)...... 32 In re Integrated Res. Real Estate Ltd. P’ship Sec. Litig., 815 F. Supp. 620 (S.D.N.Y. 1993) ...... 11 In re J.P. Jeanneret Assocs. Inc., 769 F. Supp. 2d 340 (S.D.N.Y. 2011)...... 32 In re MBIA, Inc., Sec. Litig., 700 F. Supp. 2d 566 (S.D.N.Y. 2010)...... 17 In re Parmalat Sec. Litig., 594 F. Supp. 2d 444 (S.D.N.Y. 2009)...... 17 In re Polaroid Corp. Sec. Litig., 465 F. Supp. 2d 232 (S.D.N.Y. 2006)...... 11 In re Slatkin, 243 F. Appʼx 255 (9th Cir. 2007) ...... 39 In re Tremont Sec. Law, State Law & Ins. Litig., 703 F. Supp. 2d 362 (S.D.N.Y. 2010)...... 32

iv Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 6 of 52

In re Unified Commercial Capital, Inc., 260 B.R. 343 (Bankr. W.D.N.Y. 2001) ...... 42 Ins. Co. of N. Am. v. Whitlock, 216 A.D. 78 (N.Y. App. Div. 1st Dept. 1926) ...... 38 Kirschner v. KPMG LLP, 15 N.Y.3d 446 (2010) ...... 18 Markowski v. SEC, 34 F.3d 99 (2d Cir. 1994)...... 11 Mazza v. Berk & Michaels, P.C., No. 90 Civ. 4066 (SWK), 1991 WL 35837 (S.D.N.Y. Mar. 14, 1991) ...... 11 McCloskey v. Wells Fargo Bank Wis., N.A. (In re Art Unlimited, LLC), No. 07-C-54, 2007 WL 2670307 (E.D. Wisc. Sept. 6, 2007) ...... 40 McHale v. Boulder Capital LLC (In re 1031 Tax Grp., LLC), 439 B.R. 47 (Bankr. S.D.N.Y. 2010) ...... 20, 39 McLaughlin v. Am. Tobacco Co., 522 F.3d 215 (2d Cir. 2008)...... 35 Melamed v. Lake Cnty. Natʼl Bank, 727 F.2d 1399 (6th Cir. 1984) ...... 40 Meridian Horizon Fund, LP v. KPMG (Cayman), Nos. 11-3311-cv, 11-3725-cv, 2012 WL 2754933 (2d Cir. July 10, 2012) ...... 31, 32 Merrill v. Abbott (In re Indep. Clearing House Co.), 77 B.R. 843 (D. Utah 1987) ...... 37, 39 MLSMK Inv. Co. v. JP Morgan Chase & Co., 737 F. Supp. 2d 137 (S.D.N.Y. 2010)...... 22 Nordberg v. Sanchez (In re Chase & Sanborn Corp.), 813 F.2d 1177 (11th Cir. 1987) ...... 39 Perkins v. Haines, 661 F.3d 623 (11th Cir. 2011) ...... 37 Picard v. Cohmad Sec. Corp., 454 B.R. 317 (Bankr. S.D.N.Y. 2011) ...... 32 Picard v. Katz, 462 B.R. 447 (S.D.N.Y. 2011) ...... 4, 39 Picard v. Kohn, Adv. Pro. No. 10-4411 (BRL) 2012 WL 566298 (S.D.N.Y. 2012) ...... 27 Picard v. Merkin (In re BLMIS), 440 B.R. 243 (Bankr. S.D.N.Y. 2010) ...... 37 Roth v. Jennings, 489 F.3d 499 (2d Cir. 2007)...... 9

v Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 7 of 52

Saltz v. First Frontier, L.P., 782 F. Supp. 2d 61 (S.D.N.Y. 2010), affʼd, 2012 WL 2096399 (2d Cir. June 12, 2012) ...... 22, 32 Scholes v. Lehmann, 56 F.3d 750 (7th Cir. 1995) ...... 39 Schulman v. Delaire, No. 10-cv-3639 (HB), 2011 WL 672002 (S.D.N.Y. Feb. 22, 2011) ...... 32 SEC v. Apuzzo, No. 11-696-cv, 2012 WL 3194303 (2d Cir. Aug. 8, 2012) ...... 18 SEC v. First Jersey Sec. Inc., 101 F.3d 1450 (2d Cir. 1996)...... 17 SEC v. Milan Capital Grp., Inc., No. 00 Civ. 108, 2000 WL 1682761 (S.D.N.Y. Nov. 8, 2000) ...... 15 SEC v. Pentagon Capital Mgmt. PLC, 844 F. Supp. 2d 377 (S.D.N.Y. 2012)...... 17 SEC v. Platinum Inv. Corp., No. 02 Civ. 6093, 2006 WL 2707319 (S.D.N.Y. Sept. 20, 2006) ...... 15 Silverman v. K.E.R.U. Realty Corp. (In re Allou Distribs., Inc.), 379 B.R. 5 (Bankr. E.D.N.Y. 2007) ...... 36 Silverman v. Meister Seelig & Fein, LLP (In re Agape World, Inc.), 467 B.R. 556 (Bankr. E.D.N.Y. 2012) ...... 19 Steed Fin. LDC v. Nomura Sec. Int’l Inc., No. 00 Civ. 8058 (NRB), 2004 WL 2072536 (S.D.N.Y. Sept. 14, 2004) ...... 15 Tractebel Energy Mktg., Inc. v. AEP Power Mktg., Inc., 487 F.3d 89 (2d Cir. 2007)...... 34 United States v. Berman, 21 F.3d 753 (1994) ...... 38 United States v. Rodriguez, 983 F.2d 455 (2d Cir. 1993)...... 18 Van Iderstine v. Nat’l Disc.Co., 227 U.S. 575 (1913) ...... 39, 40, 42 Waksman v. Cohen, No. 97 Civ. 7349 (WK), 1998 WL 690086 (S.D.N.Y. Oct. 2, 1998) ...... 11

Statutes 11 U.S.C. § 510(c) ...... 1 11 U.S.C. § 547 ...... 41 11 U.S.C. § 548 ...... passim

vi Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 8 of 52

11 U.S.C. § 548(a)(1) ...... 37 11 U.S.C. § 548(a)(1)(A) ...... passim 11 U.S.C. § 548(a)(2) ...... 39 11 U.S.C. § 548(c) ...... passim 11 U.S.C. § 550 ...... passim 11 U.S.C. § 550(a) ...... passim 11 U.S.C. § 550(b) ...... 4, 5, 12, 16, 20, 33, 34, 41 11 U.S.C. § 550(b)(1) ...... 7, 22, 27 15 U.S.C. § 78aaa ...... 1 15 U.S.C. § 78t(a) ...... 16, 17 15 U.S.C. § 78t(e) ...... 18

Rules 17 C.F.R. § 240.10b-5 ...... passim Fed. R. Civ. P. 12(b)(6)...... 9

Other Authorities Harry Markopolos, No One Would Listen: A True Financial Thriller (John Wiley & Sons, Inc. 2010) ...... 14

vii Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 9 of 52

Irving H. Picard (the “Trustee”), as Trustee for the substantively consolidated liquidation of the business of Bernard L. Madoff Investment Securities LLC (“BLMIS”) and the estate of

Bernard L. Madoff (“Madoff”), under the Securities Investor Protection Act (“SIPA”), 15 U.S.C.

§ 78aaa et seq., by and through the Trustee’s undersigned counsel, respectfully submits this

Memorandum of Law in Opposition to the Defendants’ Supplemental Briefs Regarding the

Standard for the “Good Faith” Affirmative Defense in response to the six supplemental briefs

(collectively, the “Supplemental Briefs”) submitted on behalf of various defendants

(“Defendants”):

1. Supplemental Brief of Net Loser Investment Funds in Support of Their Motion to Dismiss the Trustee’s Claims Under 11 U.S.C.§§ 548(a)(1)(A) and 510(c) (“Feeder Fund Br.”);

2. Supplemental Brief on Behalf of Hedge Fund Investors on “Good Faith” Standard (“Hedge Fund Investors Br.”);

3. Supplemental Memorandum of Law in Support of Motion to Dismiss on Behalf of Leverage Providers (“Leverage Providers Br.”);

4. Consolidated Supplemental Good Faith Standard Briefing on Behalf of Service Providers Pursuant to the Order of the Court Dated June 23, 2012 (“Service Providers Br.”);

5. Supplemental Memorandum of Law in Support of Motion to Dismiss on Behalf of Those Customers and Others Against Whom the Trustee Has Pleaded No Individualized Allegations of “Willful Blindness” (“Thybo Def. Br.”); and

6. Supplemental Brief Addressing Good Faith Issues on Behalf of Alleged Initial Transferees Who Were “Net Losers” and on Behalf of Alleged Subsequent Transferees of Net Losers (“Thema Def. Br.”).1

For the reasons set forth herein, Defendants’ motions should be denied.

1 The Supplemental Memorandum of Law of the Securities Investor Protection Corporation identifies the Defendants’ Supplemental Briefs, respectively, as follows: (1) “Movants;” (2) “Hedge Fund Investors;” (3) “Leverage Providers;” (4) “Service Providers;” (5) “Good Faith Defendants;” and (6) “Net Losers.”

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 10 of 52

PRELIMINARY STATEMENT

The Court should reject Defendants’ invitation to rewrite both SIPA and the Bankruptcy

Code. The burden for proving “good faith” remains with Defendants. Facts surrounding what each defendant knew, the evidence each Defendant had, if and/or how each Defendant responded to indicia of fraud, each Defendant’s respective due diligence practices, each Defendant’s state of mind, what a similarly situated reasonable investor would have discovered, and more, require an inherently fact-specific analysis as to each individual Defendant. In the context of “common briefing,” prior to individual motions to dismiss, Defendants’ requests to dismiss are inappropriate.

Madoff did not conduct any legitimate trading activity. Institutional and professional investors, fiduciaries, and other sophisticated investors observed indicia of this fiction in real time. Madoff could not trade volumes above that of the entire market, as he purported. Trades occurring on days that the market was closed would lead any reasonable investor to question

Madoff’s legitimacy. Trades occurring outside the daily price range—always to his benefit— could not be legitimately explained. Madoff purportedly traded hundreds of millions, if not billions, of dollars in equities in a single day; no legitimate explanation exists or for Madoff’s purported ability to continually buy below the daily average price and sell above the daily average price. Nor could Madoff accomplish his purported trades without affecting the market.

Facts like those above led many sophisticated investors to steer clear of Madoff. The reason is obvious: the only way that Madoff could accomplish these feats was to engage in fiction. Numerous third parties—Renaissance Technologies, Acorn Partners, Albourne Partners,

Cambridge Associates, Société Générale, and Harry Markopolos, to name just a few—figured out that Madoff’s fiction could not be explained by legitimate or lawful conduct. Defendants, comprised of financial industry professionals, including a “who’s who” of the financial world— 2

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 11 of 52

Citibank, UniCredit, HSBC, Natixis, Nomura, Merrill Lynch, Maxam, Standard Chartered, Bank

Safra, and BNP Paribas—knew or should have known about Madoff’s fraud in light of numerous red flags. Whether Defendants acted in good faith in light of the evidence they examined is an issue of fact.

For example, the defendants in one action—the feeder funds and others affiliated with

HSBC—saw a variety of indicia of fraud, which are detailed in the Trustee’s single complaint against them. Now, the Feeder Fund Defendants (Alpha Prime, Senator, and Herald) submit a supplemental brief stating that, as a matter of law, they acted in good faith because they hired other defendants (including Pioneer, UniCredit, and HSBC) as “service providers.” Those service providers, in turn, submit a separate supplemental brief asking the Court to find, as a matter of law, that they acted in good faith because they could not control the feeder funds. And

HSBC joins a supplemental brief suggesting that because it engaged in the practice of “hedging,” it too acted in good faith as a matter of law. The reasoning in these supplemental briefs is contradictory, demonstrating that the inquiry concerning an individual defendant’s good faith is a fact-specific issue not proper for common briefing or summary dismissal.

Certain defendants that joined the Thema Defendants’ brief—the Greenbergers—for decades received envelopes filled with thousands of dollars of cash from Madoff. These cash payments had nothing to do with their investment advisory accounts. Another defendant, Merrill

Lynch, stated that it suspected Madoff of fraud, and mandated that Merrill Lynch staff not invest in Madoff-related products. Other defendants benefitted from backdated trades and manipulated returns. Still others received a guaranteed 20% rate of return each year. These Defendants were not naïve or novice “retail brokerage” investors.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 12 of 52

The Court directed the parties to brief whether SIPA or other securities laws alter the good faith standard under sections 548(c) and 550(b) of the Bankruptcy Code. None of

Defendants’ Supplemental Briefs address the question posed. Rather, misapplying Picard v.

Katz,2 Defendants ask this Court to:

• assume that the well-established measurement for the standard of good faith should be or has been overturned from the inquiry notice standard in bankruptcy law to a scienter requirement;

• ignore the plain meaning of the statutes and affirmatively require the Trustee to plead Defendants’ state of mind;

• weigh “evidence” not submitted or contained in the Trustee’s pleadings; and

• create a “presumption of good faith” that would directly contravene both SIPA and the Bankruptcy Code.

Defendants overreach, arguing that: (1) “net loser” status demonstrates good faith; and

(2) lack of good faith can only be found if a defendant was a “co-conspirator” of, “in pari delicto” with, exercised “control” over, “culpably participated” with, and/or “substantially assisted” Madoff. The Court should reject Defendants’ invitation to re-write both SIPA and the

Bankruptcy Code to include these requirements.

This District repeatedly has held that objective inquiry notice is the applicable standard for measuring good faith under sections 548(c) and 550(b), most recently in Bayou III and

Manhattan III.3 Nothing in this SIPA liquidation requires this Court to depart from those holdings. There is no reason that the Court should apply one standard for a defendant’s good

2 462 B.R. 447 (S.D.N.Y. 2011). 3 Christian Bros. High Sch. Endowment v. Bayou No Leverage Fund, LLC (In re Bayou Grp., LLC) (“Bayou III”), 439 B.R. 284 (S.D.N.Y. 2010); Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv. Fund Ltd.) (“Manhattan III”), 397 B.R. 1, 22 (S.D.N.Y. 2007).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 13 of 52

faith in the Madoff Ponzi scheme, and another standard for a defendant’s good faith in the Bayou and Manhattan Investment Fund Ponzi schemes.

PROCEDURAL HISTORY

On June 25, 2012, the Court entered an Order directing “Initial Transferee Defendants” and “Subsequent Transferee Defendants” to file consolidated memoranda of law addressing the standard for the good faith defense either under sections 548(c) or 550(b) of the Bankruptcy

Code.4 The Court permitted up to five separate groups of Defendants to file supplemental briefs

“reflecting materially relevant differences between identifiable subgroups of defendants to raise issues relevant to each subgroup, and which may seek dismissal, but which are not otherwise raised or addressed in the Opening Good Faith Standard Briefs . . . .”5 Defendants were later permitted an additional supplemental brief for a total of six supplemental briefs.

In accordance with the June 25 Order, the Initial Transferee Defendants and Subsequent

Transferee Defendants filed their opening briefs on July 20, 2012 (together, the “Defendants’

Main Briefs”).6 On August 31, 2012, the Trustee responded to those briefs in the Trustee’s Main

Brief.7 On August 10, 2012, six non-exclusive groups of Defendants filed the Supplemental

Briefs to which the Trustee responds herein.

The Supplemental Briefs do not raise any legal issues separate from those raised in

Defendants’ Main Briefs. Defendants rehash many of the same arguments they advanced in their

4 Order, SIPC v. BLMIS (In re Madoff Sec.), Misc. No. 12-115 (JSR) (S.D.N.Y. June 25, 2012), ECF No. 197 (the “June 25 Order”). 5 Id. ¶ 4. 6 See ECF Nos. 242, 243. 7 See The Trustee’s Memorandum of Law in Opposition to the (1) BLMIS Customers’ Consolidated Brief Responding to Good Faith Issues; and (2) Consolidated Brief on Behalf of Subsequent Transferee Defendants Responding to the Good Faith Standard Issues (the “Trustee’s Main Brief”).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 14 of 52

Main Briefs and make arguments directed at the factual allegations in the Trustee’s complaints.

This is improper in light of the narrow legal question the Court directed the parties to brief.

Defendants’ arguments that a willful blindness standard should be a pleading requirement or a substitute for the well-reasoned and well-recognized objective inquiry notice standard has been fully addressed by the Trustee’s Main Brief,8 incorporated herein. Defendants’ remaining arguments also lack merit and should be rejected in their entirety.

ARGUMENT

I. THE TRUSTEE HAS MET HIS PLEADING BURDEN WITH RESPECT TO INITIAL AND SUBSEQUENT TRANSFEREES

A. The Trustee Has Pleaded the Elements of His Claims Under 11 U.S.C. §§ 548(a)(1)(A) and 550(a)

The Trustee’s Main Brief explains that the Trustee has sufficiently pleaded the elements of his section 548(a)(1)(A)9 fraudulent transfer claims.10 None of the Supplemental Briefs refutes that each of the Trustee’s complaints allege a transfer from BLMIS within the relevant timeframe. None disputes that each complaint sufficiently alleges Madoff operated a Ponzi scheme through BLMIS’s investment advisory business.11 Accordingly, the Trustee has unquestionably pleaded all requisite elements of his avoidance and recovery claims.12

8 See Tr. Main Br. at 10–36. 9 “The trustee may avoid any transfer . . . of an interest of the debtor in property, or any obligation . . . incurred by the debtor, that was made or incurred on or within 2 years before the date of the filing of the petition, if the debtor voluntarily or involuntarily . . . made such transfer or incurred such obligation with actual intent to hinder, delay, or defraud any entity to which the debtor was or became, on or after the date that such transfer was made or such obligation was incurred, indebted . . . .” 11 U.S.C. § 548(a)(1)(A). 10 See Tr. Main Br. at 5–6. 11 See, e.g., Amended Complaint ¶ 33, Picard v. HSBC Bank plc, Adv. Pro. No. 09-01364 (BRL) (Bankr. S.D.N.Y. Dec. 5, 2010), ECF No. 170 (“HSBC Am. Compl.”); Unredacted Complaint ¶ 29, Picard v. Maxam Absolute Return Fund, L.P., Adv. Pro. No. 10-05342 (BRL) (Bankr. S.D.N.Y. Dec. 8, 2010), ECF No. 4 (“Maxam Compl.”); Amended Complaint ¶ 21, Picard v. 6

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 15 of 52

Nor do the Supplemental Briefs refute that the Trustee’s complaints allege the requisite elements of a claim under section 550(a)13—that the Subsequent Transferees received avoidable transfers from BLMIS under one or more sections of the Bankruptcy Code and that the transfers are recoverable under section 550(a).14 Inquiry beyond the Trustee’s allegations of those elements is not appropriate at this time.

B. The Trustee Need Not Allege the Defendants’ Lack of Good Faith

As described in the Trustee’s Main Brief, the good faith defense under sections 548(c) and 550(b)(1) is just that—a defense Defendants must prove at trial.15 The Trustee does not bear the burden of pleading or proving that Defendants lacked good faith.

ABN AMRO Bank (Ireland) Ltd., Adv. Pro. No. 10-05355 (BRL) (Bankr. S.D.N.Y. July 3, 2012), ECF No. 42 (“ABN AMRO Am. Compl.”); Complaint ¶ 16, Picard v. Pictet et Cie, Adv. Pro. No. 11-01724 (BRL) (Bankr. S.D.N.Y. Apr. 7, 2011), ECF No. 1 (“Pictet Compl.”); Second Amended Complaint ¶ 13, Picard v. Thybo Asset Mgmt. Ltd., Adv. Pro. No. 09-01365 (BRL) (Bankr. S.D.N.Y. Feb. 10, 2011), ECF No. 20 (“Thybo Second Am. Compl.”); Complaint ¶ 17, Picard v. Merrill Lynch Bank (Suisse) SA, Adv. Pro. No. 11-02910 (BRL) (Bankr. S.D.N.Y. Nov. 22, 2011), ECF No. 1 (“Merrill Compl.”). Terms not defined herein have the meaning ascribed to them in their respective complaints. 12 See Tr. Main Br. at 5–6. 13 “Except as otherwise provided in this section, to the extent that a transfer is avoided under section 544, 545, 547, 548, 549, 553(b), or 724(a) of this title, the trustee may recover, for the benefit of the estate, the property transferred, or, if the court so orders, the value of such property, from—(1) the initial transferee of such transfer or the entity for whose benefit such transfer was made; or (2) any immediate or mediate transferee of such initial transferee.” 11 U.S.C. § 550(a). 14 Tr. Main Br. at 7–8. 15 Id. at 8–10.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 16 of 52

C. Bayou III and Manhattan III: Good Faith is an Objective Test

That Defendants bear the burden of proof as to their good faith has been reiterated in two recent Ponzi scheme cases litigated through trial in this District.16 The Bayou III Court held that an “objective, reasonable investor standard applies to both the inquiry notice and the diligent investigation components of the good faith test.”17 The question in Bayou III was whether “red flags” would have put a “reasonably prudent” person “on inquiry notice that [the fund] was insolvent or that it had a fraudulent purpose in making the redemption payment.”18 The Court instructed the jury there that “[w]hile you may consider what the defendants’ witnesses said about their subjective views at the time they submitted their redemption requests, the test you must apply is objective, what a reasonably prudent hedge fund investor would make of the information available to the defendants at the time they submitted their redemption requests.”19

For the diligent investigation prong, the Court instructed the jury to examine “what a reasonably prudent hedge fund investor would have done based on the information available to the defendants and their advisors at the time the investors submitted their redemption requests.”20

Likewise, the Manhattan II Court held:

the good faith question can be broken down into two parts: (1) whether [the transferee] was on inquiry notice of the Fund’s fraud and (2) whether [the transferee] was diligent in its investigation of the Fund. An objective standard applies to both questions. Thus, we consider whether what [the transferee] knew or should have

16 Bayou III, 439 B.R. at 308–09; Manhattan III, 397 B.R. at 22. 17 Bayou III, 439 B.R. at 313 (emphasis added); see also Manhattan III, 397 B.R. at 23 (“An objective standard applies to both questions.”). 18 Bayou III, 439 B.R. at 313. 19 Bayou Superfund, LLC v. D. Canale Beverages, Inc. (In re Bayou Grp., LLC), No. 09 Civ. 02340 (PGG), 2012 WL 386275, at *4 (S.D.N.Y. Feb. 6, 2012). 20 Id. at *6.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 17 of 52

known triggered a duty to investigate further and whether its investigation was reasonable under the circumstances.21

Defendants have not shown any reason why this SIPA liquidation requires a departure from the Bayou III or Manhattan III holdings. Furthermore, whether a defendant acted in good faith depends on the circumstances of each case.22 Defendants’ attempt to defeat the Trustee’s fraudulent transfer claims at the pleading stage by alleging they will mount a good faith affirmative defense should be rejected.23

21 See Gredd v. Bear, Stearns Sec. Corp. (In re Manhattan Inv. Fund Ltd.) (“Manhattan II”), 359 B.R. 510, 524–25 (Bankr. S.D.N.Y. 2007) (citing Hayes v. Palm Seedlings Partners (In re Agric. Research & Tech. Grp., Inc.), 916 F.2d 528, 535–36 (9th Cir. 1990)). 22 Bayou III, 439 B.R. at 309 (“‘Good faith’ is not susceptible of precise definition and is determined on a case-by-case basis.”) (quoting Brown v. Third Nat’l Bank (In re Sherman), 67 F.3d 1348, 1355 (8th Cir.1995)); see also Manhattan III, 397 B.R. at 22–23. 23 The Supplemental Briefs do not compel dismissal of the Trustee’s claims but rather demonstrate why dismissing the pleadings without discovery and on facts Defendants hand- picked would be improper. Defendants ignore the most basic requirements of a motion to dismiss under Fed. R. Civ. P. 12(b)(6), which requires that a court refrain from assessing the weight of the evidence and draw all inferences in favor of the Trustee. Anderson News, L.L.C. v. Am. Media, Inc., 680 F.3d 162, 185 (2d Cir. 2012) (“The choice between two plausible inferences that may be drawn from factual allegations is not a choice to be made by the court on a Rule 12(b)(6) motion. . . . the court is required to proceed ‘on the assumption that all the [factual] allegations in the complaint are true.’” (alteration in original) (quoting Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007)); Roth v. Jennings, 489 F.3d 499, 503, 510 (2d Cir. 2007) (when considering a Rule 12(b)(6) motion to dismiss, “the court is required to accept as true the factual allegations in the complaint, draw all reasonable inferences in favor of the plaintiff, and refrain from assessing the weight of the evidence that might be offered in support of the complaint”); Air Atlanta Aero Eng’g v. SP Aircraft Owner I, LLC, 637 F. Supp. 2d 185, 189 (S.D.N.Y. 2009) (“The task of a court in ruling on a motion to dismiss is to assess the legal feasibility of the complaint, not to assay the weight of the evidence . . . ”) (internal quotation omitted).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 18 of 52

II. THE COURT SHOULD DENY THE FEEDER FUNDS’ MOTION TO DISMISS

One of the Supplemental Briefs was filed by a collection of direct Madoff feeder funds—

Alpha Prime Fund Limited (“Alpha Prime”), Senator Fund SPC (“Senator”), Herald Fund SPC

(“Herald”), and Kingate Global Fund, Ltd. and Kingate Euro Fund, Ltd. (together, “Kingate”)

(collectively, the “Feeder Funds”).24 The Feeder Funds are sophisticated financial entities that together redeemed over a billion dollars from BLMIS while being presented with obvious indicia of fraud.25 They should not be entitled as a matter of law to retain the transfers they received simply because they hired service providers, or because they failed to accurately predict the

Ponzi scheme’s collapse. None of this is evidence—let alone determinative evidence—of their good faith.

A. That the Feeder Funds Hired Service Providers Does Not Establish Good Faith as a Matter of Law

The Feeder Funds argue that because they each hired traditional hedge fund service providers to maintain custody of and administer their hedge funds,26 they have established good faith as a matter of law and may retain hundreds of millions of dollars in transfers. But hiring investment professionals to perform administrative and custodial services is not a factor in determining whether the Feeder Funds acted in “good faith.” This Circuit has routinely declined to accept similar “reliance on professionals” defenses when parties knew or should have

24 Although they were signatories to the Initial Transferee Main Brief, the Feeder Fund Defendants use their supplemental brief to advance only improper fact-based arguments. 25 See Third Amended Complaint ¶ 8, Picard v. Ceretti, Adv. Pro. No. 09-01165 (Bankr. S.D.N.Y. June 8, 2011), ECF No. 32 (“Kingate Third Am. Compl.”); HSBC Am. Compl. ¶ 21. 26 There is no evidence at this stage that any Feeder Fund “relied” on third parties to conduct due diligence or investigate potential fraud. Whether such reliance would support a good faith defense is an issue of fact. Even so, such “reliance” could not trump Defendants’ observation of fraudulent activity. The Net Loser Defendants point out reliance on specific service providers, including HSBC, FIM, Citi Hedge, and Bank Bermuda. All of these service providers are defendants in adversary proceedings as well. See, e.g., Kingate Third Am. Compl. ¶¶ 147, 203.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 19 of 52

known that reliance was not reasonable, or when they otherwise failed to act in good faith.27

Additionally, the Feeder Funds are sophisticated financial industry professionals that witnessed many signs of fraud. The Feeder Funds cannot simply disclaim their due diligence obligations because they hired service providers. The Feeder Funds have the same burden as similarly situated defendants to prove that they satisfied their obligations and acted in good faith.

B. The Feeder Funds’ Status as “Net Losers” Does Not Establish Their Good Faith

The Feeder Funds raise the confounding argument that because they ultimately did not end up as “net winners” on December 12, 2008, it must follow that they received transfers in good faith. But this argument only exists in hindsight: a defendant is only a “net loser” after the collapse of the Ponzi scheme. Before that time, the Feeder Funds continued to invest with and redeem from BLMIS despite indicia of fraud. It was only by virtue of the timing of the collapse of Madoff’s Ponzi scheme that some defendants became “net losers.” Whether a feeder fund or any defendant is a “net loser” or “net winner” is not relevant to the Feeder Funds’ good faith at the time of their redemptions.28 The promise of profiting from Madoff’s fraud gave the Feeder

27 See, e.g., Curcio v. Comm’r of Internal Revenue, No. 10-3578-ag(L), 2012 WL 3224041, at *10 (2d Cir. Aug. 9, 2012) (stating that reliance on professional advice does not by itself establish a good faith defense); Markowski v. SEC, 34 F.3d 99, 104–05 (2d Cir. 1994) (finding that petitioner’s reliance on his attorney would not be a complete defense in a disciplinary action where such reliance was not reasonable); Mazza v. Berk & Michaels, P.C., No. 90 Civ. 4066 (SWK) 1991 WL 35837, at *2 (S.D.N.Y. Mar. 14, 1991) (holding that it was not reasonable for plaintiffs to continue to rely upon their accountants’ representations and make further investments into a partnership once they were on inquiry notice of issues with the investments); Waksman v. Cohen, No. 97 Civ. 7349 (WK), 1998 WL 690086, at *5 (S.D.N.Y. Oct. 2, 1998) (rejecting a “reliance on professionals” defense where the plaintiff was a sophisticated business person but failed to review any documentation before making a substantial investment). 28 The securities laws do not protect those who do not reasonably inquire into the possible fraud. See Tr. Main Br. at 30–35. Inquiry notice under the securities laws is hostile to the “leisurely discovery of the full details of the alleged scheme.” In re Polaroid Corp. Sec. Litig., 465 F. Supp. 2d 232, 243 n.2 (S.D.N.Y. 2006) (quoting In re Integrated Res. Real Estate Ltd. P’ship Sec. Litig., 815 F. Supp. 620, 651 (S.D.N.Y. 1993)). Those who allegedly have been defrauded can, 11

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 20 of 52

Funds every incentive to continue investing with Madoff no matter what they knew or reasonably should have known.

C. The Feeder Funds’ Alleged Lack of Control Over Their Shareholders’ Decisions to Redeem is Irrelevant to Whether the Feeder Funds Acted in Good Faith

The Feeder Funds claim that because the fraudulent transfers they seek to keep were redemptions initiated by shareholders, they acted in good faith as a matter of law.29 This argument ignores the Trustee’s allegations that despite being aware of indicia of fraud, the

Feeder Funds continued to funnel money into BLMIS and honor their customers’ redemption requests.30 If a transferee requested a redemption after learning of a red flag, that redemption is subject to avoidance and recovery by the Trustee.31

and often do, lose their right to pursue securities fraud claims if they failed to make an objective, reasonable inquiry. See Crigger v. Fahnestock, 443 F.3d 230, 234 (2d Cir. 2006); Tr. Main Br. at 30–32. Thus, the fact that certain Defendants were net losers does not give them immunity to retain billions of dollars in the face of their lack of good faith in receiving the fraudulent transfers. 29 Feeder Funds Br. at 6–7. 30 The Net Loser Defendants’ equitable subordination argument is improperly brought in connection with this briefing on the standard for a good faith defense under sections 548(c) and 550(b). Accordingly, such briefing does not warrant a response by the Trustee at this time. 31 Bayou Accredited Fund, LLC v. Redwood Growth Partners, L.P. (In re Bayou Grp., LLC) (“Bayou II”), 396 B.R. 810, 848 (Bankr. S.D.N.Y. 2008).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 21 of 52

III. THE COURT SHOULD DENY THE HEDGE FUND INVESTORS’ MOTION TO DISMISS

A. The Hedge Fund Investors Are Sophisticated Investors

The Defendants calling themselves “Hedge Fund Investors” are among the world’s most sophisticated investors, with extensive experience in the investment industry, bargaining power, and resources to allocate risk.32 For example, Merrill Lynch, the lead “Hedge Fund Investor” and signatory to the Hedge Fund Investors’ Supplemental Brief, fully recognized that Madoff’s success must have been the result of something other than an extraordinary ability to select stocks and perfectly time stock purchases and sales. Merrill Lynch’s suspicions caused it to mandate the prohibition of trades involving Madoff.33 Repeatedly asked by clients to structure leveraged transactions based upon Madoff feeder funds, Merrill Lynch declined each time.34 It told its clients that it “does not offer any products on these funds” because Madoff, for many reasons, failed to satisfy Merrill Lynch’s due diligence requirements.35 When Madoff’s Ponzi scheme was exposed in December 2008, a Merrill Lynch employee admitted that Merrill Lynch

“knew there was something wrong with Madoff—I guess now our suspicions have been confirmed.”36 Nevertheless, Merrill Lynch is a subsequent transferee, having received transfers of more than $15 million associated with a product it created.

Merrill Lynch was not alone in its concerns; along with its investment industry peers, it recognized that Madoff’s operations were suspicious at best. For example, financial industry participants such as Acorn Partners, Albourne Partners, Cambridge Associates, LLC, Société

32 Tr. Main Br. at 33. 33 See Complaint ¶ 60, Picard v. Merrill Lynch Int’l & Co. C.V., Adv. Pro. 10-05346 (BRL), (Bankr. S.D.N.Y. Nov. 22, 2011), ECF No. 1 (“Merrill Lynch Compl.”). 34 Id. ¶¶ 60–61. 35 Id. ¶ 69. 36 Id.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 22 of 52

Générale and Harry Markopolos,37 among many others, all understood that Madoff’s activity and behavior could only be explained by fraud, and did not invest with him and/or advised their clients not to invest with him. Another Hedge Fund Investor Defendant, Natixis S.A., recognized that BLMIS exhibited indicia of fraud, including performance “too good to be true,” inconsistent with the purported split-strike conversion strategy he purported to employ, and not correlated to market performance.38 Natixis was also aware that other similarly situated sophisticated third-parties were suspicious of BLMIS.39

As the Trustee’s allegations in the complaints against the Hedge Fund Investors make clear, despite specific indicia that Madoff was engaged in fraud, those defendants failed, among other things, to conduct reasonable, diligent investigations that would have confirmed the fraud.

And the Hedge Fund Investors, such as ABN AMRO, acknowledged that under standard industry practices, they were expected to perform due diligence not only at the hedge fund level where they invested, but also to examine the hedge funds’ actual investment advisor, Madoff.40

37 Amended Complaint ¶¶ 514–18, 526, Picard v. Fairfield Sentry Ltd. (SIPC v. BLMIS), Adv. Pro. No. 09-01239 (Bankr. S.D.N.Y. 2010), ECF No. 23; Harry Markopolos, No One Would Listen: A True Financial Thriller (John Wiley & Sons, Inc. 2010). 38 See Complaint ¶¶ 200–05, Picard v. Natixis (SIPC v. BLMIS), Adv. Pro. No. 10-05353 (Bankr. S.D.N.Y. Dec. 8, 2010), ECF No. 1 (“Natixis Compl.”). 39 See id. ¶¶ 177–80. 40 See Laven Hedge Fund Due Diligence Seminar, Apr. 2011, available at http://www.lavenpartners.com/operational-due-diligence/videos/; http://www.abnamro.tv/nl/?mcid=25&mid=95543 (last visited July 23, 2012).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 23 of 52

B. Because They Were Presented with Facts That Suggested Fraud, the Hedge Fund Investors Had a Duty to Investigate

The Hedge Fund Investors, like any investor faced with facts suggesting that Madoff and

BLMIS were engaged in fraud, had a duty to inquire.41 Access to resources required them to conduct the same level of investigation as a reasonable, similarly situated investor.42 Further, the

Trustee does not seek to impose upon the Hedge Fund Investors any greater duty to “ferret out” fraud in the securities industry.43 Nor does the Hedge Fund Investors’ claim that others in the investment industry were better-positioned to detect fraud affect the question of their own good faith under section 550 of the Bankruptcy Code. The simple question is whether the Hedge Fund

Investors acted in good faith for the purposes of their affirmative defense to the Trustee’s claims.

The relevant, fact-intensive questions are whether they satisfied their duty to conduct the objectively reasonable, diligent investigation.

C. The Hedge Fund Investors’ “Redistribution of Wealth” Argument is Wrong and Irrelevant

If the Hedge Fund Investors lacked good faith, they will be unable to retain the fraudulent transfers they received. And despite their “social policy” argument44 to the contrary, the avoidance and recovery of fraudulent transfers—dictated by statute—would not redistribute wealth or enrich direct investors with Madoff at the Hedge Fund Investors’ expense.45 Faced with the Trustee’s allegations that they received transfers made by BLMIS with the “actual intent

41 See, e.g., SEC v. Platinum Inv. Corp., No. 02 Civ. 6093 (JSR), 2006 WL 2707319, at *3 (S.D.N.Y. Sept. 20, 2006); SEC v. Milan Capital Grp., Inc., No. 00 Civ. 108 (DLC), 2000 WL 1682761, at *5 (S.D.N.Y. Nov. 8, 2000); Trustee’s Main Br. at 30–31. 42 Crigger, 443 F.3d at 236; Steed Fin. LDC v. Nomura Sec. Int’l Inc., No. 00 Civ. 8058 (NRB), 2004 WL 2072536, at *7 (S.D.N.Y. Sept. 14, 2004). 43 Trustee’s Main Br. at 32. 44 Hedge Fund Investors Br. at 5–6. 45 Hedge Fund Investors Br. at 5.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 24 of 52

to hinder, delay, or defraud” its customers,46 the Hedge Fund Investors must rebut the allegations that they received the transfers for value and in good faith.47 If the Hedge Fund Investors can demonstrate that they acted in good faith, and otherwise satisfy the affirmative defense under section 550(b) of the Bankruptcy Code, they may be able to retain the fraudulent transfers they received. If they cannot, however, the Trustee may recover the avoidable transfers they received.

D. The Hedge Fund Investors Reliance on “Control Person” and “Aiding and Abetting” Principles Are of No Relevance to the Trustee’s Bankruptcy Claims

The Hedge Fund Investors argue that section 20 of the Exchange Act48 and the state of mind requirement associated with aiding and abetting liability lends support to their good faith defense of the Trustee’s actions. These arguments are misplaced.

First, the Trustee is undoubtedly not alleging “control person” liability over Madoff’s fraud, or seeking damages for causing the fraud, when asserting traditional bankruptcy claims for avoidance and recovery. Because a section 20(a) claim must be supported by allegations of the defendant’s state of mind, comparing the duties of a “control person” and an investor who received fraudulent transfers is not a meaningful exercise with regard to claims under sections

548 and 550 of the Bankruptcy Code. The Trustee never has to prove that the Hedge Fund

Investors controlled Madoff in order to recover fraudulent transfers. Accordingly, the pleading and proof standards of section 20 do not rightly inform the standard to be applied to the Hedge

Fund Investors’ good faith.

Second, section 20 requires an allegedly defrauded plaintiff seeking monetary damages to plead “particularized facts of the controlling person’s conscious misbehavior or recklessness.”49

46 11 U.S.C. § 548(a)(1)(A). 47 11 U.S.C. § 550(b); see also Bayou III, 439 B.R. at 308. 48 15 U.S.C. § 78t.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 25 of 52

Section 20 clearly illustrates that Congress knows exactly how to require scienter when it intends to.50 Congress expressly did not do so in either SIPA or the Bankruptcy Code and there is no basis to rewrite those statutes to inject heightened scienter-based pleading standards for fraud into the Hedge Fund Investors’ good faith defense.

Third, if this Court were to be guided at all by section 20 here, the good faith affirmative defense afforded control persons under the Exchange Act has regularly been applied by objective standards.51 There is no support in securities law for relieving these Defendants from satisfying the objective standard applicable under the Bankruptcy Code.

Nor does the Hedge Fund Investors’ reliance upon “aiding and abetting” principles have any place here. The Trustee does not seek monetary damages from the Hedge Fund Investors for

“aiding and abetting” Madoff or for substantially assisting him. The Trustee need not ever plead

49 In re MBIA Inc. Sec. Litig., 700 F. Supp. 2d 566, 598 (S.D.N.Y. 2010); see also SEC v. Pentagon Capital Mgmt. PLC, 844 F. Supp. 2d 377, 412, 423 (S.D.N.Y. 2012). 50 Tr. Main Br. at 26. 51 See In re Parmalat Sec. Litig., 594 F. Supp. 2d 444, 458 (S.D.N.Y. 2009) (stating that a defendant could not satisfy the good faith test in section 20(a) if it “knew or should have known that [the] primary violator . . . was engaged in fraudulent conduct, but . . . did not take steps to prevent the primary violation.”); CompuDyne Corp. v. Shane, 453 F. Supp. 2d 807, 829–31 (S.D.N.Y. 2006) (finding that a broker-dealer’s obligation to supervise is consistent with the “knew or should have known” test for willful blindness); Cyber Media Grp., Inc. v. Island Mortg. Network, Inc., 183 F. Supp. 2d 559, 576 (E.D.N.Y. 2002) (stating that culpability exists under section 20(a) where the control person “knew or should have known” of the primary violation but failed to “take steps to prevent” the violation). See also SEC v. First Jersey Sec. Inc. 101 F.3d 1450, 1473 (2d Cir. 1996) (rejecting defendant’s good faith defense under section 20(a), the court noted that, in order “[t]o meet the burden of establishing good faith, the controlling person must prove that he exercised due care in his supervision of the violator’s activities…”); Deitrich v. Bauer, 126 F. Supp. 2d 759, 768 (S.D.N.Y. 2001) (“[I]n order to establish a good faith defense, the burden is on the defendant to prove that he exercised due care in his supervision of the violator’s activities in that he maintained and enforced a reasonable and proper system of supervision and internal control[s].”) (citing and quoting cases).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 26 of 52

or prove either.52 Thus, importing from securities law a standard of proof akin to criminal mens rea and imposing it in avoidance and recovery claims is without support and must be rejected.

Neither sections 548 or 550 of the Bankruptcy Code, nor SIPA, employs terms such as

“control person,” “culpable participant,” “knowingly,” “recklessly,” or “substantial assistance” used in the Exchange Act to refer to a defendant’s state of mind. The Court should decline to adopt this unprecedented extension of SIPA and the Bankruptcy Code.

E. The Hedge Fund Investors’ “Social Costs” Argument Is of No Consequence

The Hedge Fund Investors urge that the Trustee’s fraudulent transfer claims will impose

“social costs” upon good faith investors. The Hedge Fund Investors voice their complaints about the effects of the Trustee’s avoidance actions not through precedent involving avoidance actions, but rather through Kirschner v. KPMG LLP.53 Kirschner, however, addresses a trustee’s claim seeking tort damages from an auditor, not a claim to avoid and recover fraudulent transfers from a defendant alleged to have received those transfers while purposely turning a blind eye to fraud.54 Insofar as Kirschner addresses the question of which party should bear the social costs of fraud, it does so only in weighing the equities in determining whether to allow an equitable exception to the doctrine of in pari delicto so that the Trustee may recover damages. But

Kirschner does not address who must bear the social costs of allowing a transferee to retain

52 United States v. Rodriguez, 983 F.2d 455, 457–59 (2d Cir. 1993) (affirming defendant’s criminal conviction for knowingly possessing and conspiring to import cocaine); 15 U.S.C. § 78t(e) (providing that in enforcement actions brought by the SEC against aiders and abettors, the defendant must “knowingly” or “recklessly” provide “substantial assistance” to be liable); SEC v. Apuzzo, No. 11-696-cv, 2012 WL 3194303, at *6–9 (2d Cir. Aug. 8, 2012) (Rakoff, J.) (discussing SEC’s burden of proving scienter and substantial assistance in section 20(e) aiding and abetting actions). 53 15 N.Y.3d 446, 475 (2010). 54 Id. at 457.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 27 of 52

fraudulent transfers that knew or should have known that the transfers were made with a fraudulent purpose.

F. The Ponzi Scheme Presumption Does Not Expand Section 548 of the Bankruptcy Code

The Hedge Fund Investors also contend that the Ponzi scheme presumption, which relieves a trustee of the burden of proving the debtor’s state of mind with respect to each fraudulent transfer, improperly expands section 548 of the Bankruptcy Code by holding defrauded investors to a “more exacting” standard of conduct than is required under the securities laws. The Ponzi scheme presumption, however, neither expands section 548 nor affects the duty of investors to conduct a reasonable, diligent investigation in light of the circumstances.

The Ponzi scheme presumption acknowledges only that: (a) bankruptcy trustees are outsiders to the transactions and must plead fraud based upon second-hand knowledge; and (b)

“[g]iven the difficulties in establishing a transferor’s actual intent” courts can look at the “totality of the circumstances as well as the badges of fraud surrounding the transfers.”55 “When a debtor operating a Ponzi scheme makes a payment with the knowledge that future creditors will not be paid, that payment is presumed to have been made with actual intent to hinder, delay, or defraud other creditors . . . .”56 Since no transfer made in the course of a Ponzi scheme has a purpose other than to hinder, delay, or defraud creditors, a Ponzi scheme operator can be

55 Gredd v. Bear, Stearns Sec. Corp. (In re Manhattan Inv. Fund Ltd.)(“Manhattan I”), 310 B.R. 500, 505–06 (Bankr. S.D.N.Y. 2002); see also Silverman v. Meister Seelig & Fein, LLP (In re Agape World, Inc.), 467 B.R. 556, 569 (Bankr. E.D.N.Y. 2012) (stating that the Second Circuit has adopted “a more liberal view of pleading actual fraudulent intent because the trustee is an “outsider” relying on “second-hand knowledge”). 56 Manhattan I, 310 B.R. at 509.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 28 of 52

presumed to have acted with actual intent to defraud its creditors.57 The Ponzi scheme presumption does not address the question of a transferee’s state of mind and is ultimately irrelevant in determining whether the Hedge Fund Investors can prove that they acted in good faith.

IV. THE COURT SHOULD DENY THE LEVERAGE PROVIDERS’ MOTION TO DISMISS

Seeking to dismiss the Trustee’s fraudulent conveyance claims, the Leverage Providers mischaracterizes the standard of good faith under section 550(b). The Leverage Providers are large, sophisticated financial institutions that participated in alternative investment products such as “total return swaps” or structured notes that were deliberately crafted to make lucrative future returns based on the performance of a particular Madoff Feeder Fund58 (the “Leverage

Transactions”), which many Leverage Providers chose to “hedge” by investments directly in that

Madoff Feeder Fund (the “Hedge Transactions”).59 The Leverage Transactions and Hedge

Transactions thus enabled the Leverage Providers to exploit Madoff’s “success” for their own institutional gains60 without having to directly invest with Madoff. At the same time, these

57 Gowan v. Patriot Grp., LLC (In re Dreier LLP), 462 B.R. 391, 424 (Bankr. S.D.N.Y. 2011) (internal quotation marks omitted); McHale v. Boulder Capital LLC (In re 1031 Tax Grp., LLC), 439 B.R. 47, 72 (Bankr. S.D.N.Y. 2010). 58 As referenced herein, the term, “Madoff Feeder Funds,” refers to both “Madoff Feeder Funds” and “BLMIS Feeder Funds” as defined in the Trustee’s complaints against the Leverage Providers. 59 For example, under the swap described in the ABN AMRO Bank (Ireland) Ltd. (“AA Irish Bank”) Amended Complaint, AA Irish Bank agreed to provide a Madoff Feeder Fund affiliate with an amount equal to three times the return on a hypothetical investment in a specified Madoff Feeder Fund. ABN AMRO Am. Compl. ¶¶ 61–63. AA Irish Bank made the unilateral business decision to hedge its risk under the swap by investing three times the collateral it received from the Madoff Feeder Fund affiliate in the Madoff Feeder Fund. Id. ¶¶ 65–69. 60 See id. ¶¶ 5, 47; Amended Complaint ¶¶ 2, 6–13, Picard v. Nomura Bank Int’l PLC (SIPC v. BLMIS), Adv. Pro. No. 10-5348 (BRL) (Bankr. S.D.N.Y. June 6, 2012), ECF No. 42 (“Nomura Am. Compl.”); Complaint ¶¶ 6–9, Picard v. Banco Bilboa Vizcaya Argentaria, S.A. (SIPC v. BLMIS), Adv. Pro. No. 10-5351 (BRL) (Bankr. S.D.N.Y. Dec. 8, 2010), ECF No. 1 (“BBVA 20

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 29 of 52

transactions enabled various Madoff Feeder Funds to increase the amount of the returns they could derive from BLMIS’s performance.61

The Leverage Providers’ investment expertise and business relationships with various

Madoff Feeder Funds gave them extraordinary access to significant non-public information about BLMIS through which they acquired knowledge of a litany of indicia of fraud at BLMIS.62

But the Leverage Providers failed to conduct any reasonable inquiry in response to obvious indicia of fraud at BLMIS, and instead chose to continue to reap significant fees.63

A. The Defendants’ Arguments Are Based on the Wrong Standard of “Good Faith”

Attempting to heighten the standard of good faith and impose a pleading burden on the

Trustee, the Leverage Providers claim that the Trustee must establish “willful blindness” by demonstrating a high probability that the Leverage Providers understood they were receiving the proceeds of a Ponzi scheme.64 However, the law does not require that a defendant know or suspect that the fraud at BLMIS was specifically a Ponzi scheme in order to demonstrate that it

Compl.”); MIL Complaint ¶¶ 2–3, 8–11; Natixis Compl. ¶¶ 2, 6–9; Amended Complaint ¶¶ 6, 55–57, Picard v. ABN AMRO Bank N.V. (SIPC v. BLMIS), Adv. Pro. No. 10-5354 (BRL) (Bankr. S.D.N.Y. Aug. 8, 2012), ECF No. 47 (“RBS Am. Compl.”); Complaint ¶¶ 2, 6–9, Picard v. Citibank, N.A. (SIPC v. BLMIS), Adv. Pro. No. 10-5345 (BRL) (Bankr. S.D.N.Y. Dec. 8, 2010), ECF No. 1 (“Citibank Compl.”); HSBC Am. Compl. ¶¶ 245–47. 61 See ABN AMRO Am. Compl. ¶ 47; Nomura Am. Compl. ¶¶ 6–13; BBVA Compl. ¶¶ 6–9; MLI Compl. ¶¶ 8–11; Natixis Compl. ¶¶ 6-9; RBS Am. Compl. ¶¶ 55–57; Citibank Compl. ¶¶ 6– 9; HSBC Am. Compl. ¶¶ 245–47. 62 See ABN AMRO Am. Compl. ¶¶ 83–87, 104-05; Nomura Am. Compl. ¶¶ 99–100; BBVA Compl. ¶ 100–02; MLI Compl. ¶¶ 75, 83, 110; Natixis Compl. ¶¶ 181, 207–09; RBS Am. Compl. ¶¶ 103–16; Citibank Compl. ¶¶ 68, 92, 97, 110, 137; HSBC Am. Compl. ¶ 11–12, 149– 65, 181–87, 194–208, 249–50. 63 See ABN AMRO Am. Compl. ¶¶ 7, 86, 103, 133; Nomura Am. Compl. ¶¶ 97–98; BBVA Compl. ¶¶ 72, 84–85, 132–35; MLI Compl. ¶¶ 73–74, 108–09; Natixis Compl. ¶¶ 69, 178, 207– 10; RBS Am. Compl. ¶¶ 8, 105, 134–37, 200; Citibank Compl. ¶¶ 98–102, 110–15, 167–69; HSBC Am. Compl. ¶¶ 9–10, 193, 249–53, 294. 64 See Leverage Providers Br. at 4–7.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 30 of 52

lacked good faith.65 Inquiry notice—and not willful blindness—is the correct standard for the good faith affirmative defense under the Bankruptcy Code.66 The Trustee is not required to plead the Leverage Providers’ motive to defraud.67 Accordingly, all of the cases cited by the

Leverage Providers—which involve RICO or section 10(b) securities fraud claims requiring a plaintiff to plead motive and scienter—are irrelevant to the Trustee’s fraudulent transfer claims here.68

B. The Leverage Providers’ “Plausibility” Arguments Improperly Attempt to Place a Pleading Burden on the Trustee

Because the Trustee has sufficiently alleged his claims to avoid and recover fraudulent transfers under section 550(a), it is incumbent upon the Leverage Providers, pursuant to section

550(b)(1), to prove that they acted in good faith and without knowledge of the voidability of the transfer avoided. Nevertheless, the Leverage Providers argue that they would not plausibly have entered into the Leverage Transactions and Hedge Transactions and risked hundreds of millions of dollars by indirectly investing with a fraudulent entity.69 But the “plausibility” of the

Leverage Defendants’ business decisions is irrelevant to whether the Trustee has sufficiently pleaded his fraudulent transfer claims.

65 See Bayou III, 439 B.R. at 310–11, 314 (stating that information that “the transferor was insolvent or that the transfer might be made with a fraudulent purpose” are “consistently identified as the triggers for inquiry notice”). 66 See Trustee’s Main Br. at Points III and IV. 67 See Leverage Providers Br. at 5–6 68 See MLSMK Inv. Co. v. JP Morgan Chase & Co., 737 F. Supp. 2d 137, 142–43 (S.D.N.Y. 2010) (applying the heightened pleading standard of Rule 9(b) to RICO claims predicated on fraud); Edison Fund v. Cogent Inv. Strategies Fund, Ltd., 551 F. Supp. 2d 210, 220–27 (S.D.N.Y. 2008) (applying heightened pleading standards of both Rule 9(b) and the PSLRA to securities fraud claims); Saltz v. First Frontier, L.P., 782 F. Supp. 2d 61, 70–72 (S.D.N.Y. 2010) (same), aff’d, 2012 WL 2096399 (2d Cir. June 12, 2012). 69 See Leverage Providers Br. at 4–5

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 31 of 52

The Leverage Providers’ conscious business decisions—in the face of significant indicia of fraud—to take a calculated risk does not, as Defendants argue amount to de facto good faith.70

Each Leverage Provider’s knowledge, action or inaction and reasons for choosing to “hedge” are inherently factual, and thus not properly decided on this motion.

C. The Trustee’s Allegations Against the Leverage Providers

The Leverage Providers attempt to create the illusion that the Trustee has alleged only isolated facts to support their lack of good faith. For example, they suggest that the Trustee has alleged only that some of the Leverage Providers did not receive certain requested information about BLMIS, or that red flags were revealed to parties other than the Leverage Providers themselves.71 The Trustee’s alleges that the Leverage Defendants were aware of more than just isolated red flags:

HSBC:

x allowed BLMIS to act as custodian despite serious fraud risk;72 x took affirmative steps to cater to Madoff’s demands for secrecy;73 x knew that Madoff’s improbable returns were “too good to be true” and did not mirror market conditions;74 x highlighted Madoff’s unusual fee structure as a red flag on at least nine occasions;75 and x twice engaged KPMG to assess fraud and operational risks at BLMIS and then ignored KPMG’s findings, which identified, among other things, a laundry list of serious fraud risks and operational deficiencies at BLMIS, including “embezzlement of client funds,” “manipulation of option prices,” and “sham trades to divert client cash.”76

70 See Leverage Providers Br. at 1, 4-5. 71 See Leverage Providers Br. at 6–7. 72 HSBC Am. Compl. ¶¶ 12, 19, 149–54, 166–71, 177–78. 73 Id. ¶¶ 8, 12, 145–48, 166–71. 74 Id. ¶¶ 179–87, 229. 75 Id. ¶¶ 11–14, 145–46, 166–71, 177–78, 186–88, 209–13, 281–84, 292–308. 76 Id. ¶¶ 168, 305-12 (emphasis added).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 32 of 52

Citi:

x knew that BLMIS was blacklisted at Morgan Stanley and other financial institutions;77 x identified as a “critical issue” that Madoff refused to identify option counterparties;78 x had concerns about how BLMIS could execute the extraordinary volume of purported options trades;79 x considered that BLMIS’s extraordinary, non-volatile returns were the result of illegal front-running;80 and x knew and continuously flagged as a concern that Madoff’s role as investment advisor, broker-dealer, and custodian created the risk of fraud.81

Merrill Lynch International:

x knew that its corporate parent, Merrill Lynch & Co., Inc. (“MLCI”), had concluded that BLMIS’s IA business might very well be fraudulent, based on numerous red flags, including but not limited to Madoff acting as an investment advisor, broker-dealer and custodian and BLMIS’s returns were not being generated by the claimed trading strategy;82 x knew that MLCI had a long standing prohibition against investing its own or client money directly or indirectly with BLMIS;83 x knew of “a lot of speculation on Wall Street about the true source of the admittedly impressive [BLMIS] returns”;84 x repeatedly refused transactions involving BLMIS and/or Madoff Feeder Funds;85 x knew that a Madoff Feeder Fund would not accept due diligence, which automatically disqualified it from transacting with Merrill Lynch;86 and x knew that most of its competitors would not consider a leveraged transaction involving a Madoff Feeder Fund.87

77 Citibank Compl. ¶¶ 134–36. 78 Id. ¶¶ 71–74. 79 Id. ¶¶ 101, 109. 80 Id. ¶¶ 101. 81 Id. ¶¶ 63–64, 82–83, 95, 134–36. 82 MLI Compl. ¶ 3. 83 Id. ¶¶ 3, 56–68. 84 Id. ¶ 60. 85 Id. ¶¶ 60–66. 86 Id. ¶ 61. 87 Id. ¶¶ 61, 64. 24

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 33 of 52

ABN/RBS:

x identified as red flag and area of significant concern that BLMIS acted as investment advisor, prime broker, and custodian;88 x knew that Madoff would not identify alleged option counterparties, which was also flagged as an area of concern; 89 x knew as late as 2006 that Madoff was not a registered investment advisor and claimed in 2005 he provided investment advisory services to zero clients;90 x knew that another due diligence firm advised all of its clients to redeem their BLMIS-related interests due to a lack of transparency.91

The AA Defendants:

x knew because Madoff acted as investment advisor, broker-dealer and custodian, “it [was] not possible to obtain independent confirmation of [BLMIS] trades and positions;”92 x knew that BLMIS’s performance was “unrealistic” even during market crises and dislocation events;93 x knew that BLMIS’s trades were executed simultaneously for all clients yet volumes necessary to effectuate this were not available in the market;94 and x knew that BLMIS liquidated to treasury bills at year-end.95

Natixis:

x knew the identity of BLMIS’s auditor and that BLMIS’s audited financial statements showed an inconsistency between the amount of assets under management reported and the assets it believed BLMIS was managing;96 x believed that Madoff’s compensation system was suspicious, Madoff refused to identify his option counterparties, and that the question whether the volume of options available in the market could accommodate Madoff’s purported options trading were areas of concern;97

88 RBS Am. Compl. ¶¶ 160–69. 89 Id. ¶¶ 189–92. 90 Id. ¶ 178. 91 Id. ¶¶ 106, 128. 92 ABN AMRO Am. Compl. ¶¶ 88–90. 93 Id. ¶¶ 95-97, 99–102. 94 Id. ¶¶ 92–93, 88–102. 95 Id. ¶¶ 88–102. 96 Natixis Compl. ¶ 92. 97 Id. ¶¶ 152, 158–59, 170.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 34 of 52

x was specifically warned by other sophisticated third parties that they had redeemed their BLMIS-related investments because of serious concerns about BLMIS;98 and x knew Madoff refused to allow rating agencies to visit BLMIS and that a rating agency would not rate a transaction involving BLMIS due to “operational risk at [the] Madoff level” and Madoff’s “suspicious” lack of transparency.99 BBVA:

x had “very strong reservations as to the Madoff counter-party risk;”100 x knew Madoff lacked transparency and refused to identify his option counterparties;101 and x knew BLMIS—as investment advisor, prime broker, and custodian—lacked independent verification that assets existed, and had ongoing access to performance statistics, trading records, and other information about various Feeder Funds and/or BLMIS that on their face showed indicia of fraud at BLMIS.102 Nomura:

x knew that Madoff’s fee structure was atypical, including that there was no difference in premiums BLMIS charged for options traded over-the-counter versus on an exchange;103 x knew that BLMIS—as investment advisor, prime broker, and custodian— lacked independent verification that assets existed;104 and x knew that BLMIS’s performance should have correlated to the S&P, but did not—even during market dislocation events.105

In addition to the foregoing, the Trustee has alleged that each Leverage Provider had ongoing access to performance statistics, trading records, and other information about various

Feeder Funds and/or BLMIS that on their face showed indicia of fraud at BLMIS.106 Despite

98 Id. ¶¶ 179–80. 99 Id. ¶¶ 161, 177–78. 100 BBVA Compl. ¶ 70. 101 Id. ¶¶ 71, 112–15. 102 Id. ¶¶ 100–31. 103 Nomura Am. Compl. ¶¶ 61–63. 104 Id. ¶¶ 93–94 105 Id. ¶¶ 66–69. 106 HSBC Am. Compl. ¶¶ 149–65, 181–87, 194–208, 249–51; Citibank Compl. ¶¶ 97, 137–66; MLI Compl. ¶¶ 74–107; RBS Am. Compl. ¶¶ 112–16, 172–76; ABN AMRO Am. Compl. ¶¶ 104–32; Natixis Compl. ¶¶ 181–206; BBVA Compl. ¶¶ 100–31; Nomura Compl. ¶¶ 61–96.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 35 of 52

their knowledge of indicia of fraud at BLMIS, rather than inquiring further, the Leverage

Providers instead chose to continue earning significant fees from Leverage Transactions they structured, as well as profits from their direct investments in BLMIS Feeder Funds.107 These well-pleaded facts give rise to a plausible inference that the Trustee is entitled to avoidance and recovery of fraudulent transfers from the Leverage Providers.

V. THE COURT SHOULD DENY THE SERVICE PROVIDERS’ MOTION TO DISMISS

The signatory Defendants to the Service Provider Brief (“Service Providers ”) are:

UniCredit Bank Austria AG (“Bank Austria”); UniCredit S.p.A (“UniCredit”); Pioneer

Alternative Investment Management Ltd. (“Pioneer Alternative”); MAXAM Capital

Management, LLC (“Maxam Capital”); MAXAM Capital GP LLC (“Maxam GP”), Sandra L.

Manzke; and Suzanne Hammond. Other banks, investment advisors, custodians, and entities or individuals that helped make it possible for feeder funds to bring money into BLMIS also joined in the Service Provider Brief.

The Service Providers raise only factual arguments that go well beyond the question the

Court directed the parties to answer. Therefore, they offer no legal support108 for their assumption that “the Trustee must plead (and later prove) that subsequent transferee defendants were willfully blind to Madoff’s fraud to recover from them pursuant to § 550(b)(1).”109 As

107 HSBC Am. Compl. ¶¶ 1–14, 21–22, 193, 245–53, 294; Citibank Compl. ¶¶ 98–102; 110–15, 167–69; MLI Compl. ¶¶ 73–74, 108–11; RBS Am. Compl. ¶¶ 8, 105, 134–37, 200; ABN AMRO Am. Compl. ¶¶ 7, 86, 103, 133; Natixis Compl. ¶¶ 69, 178, 207–10; BBVA Compl. ¶¶ 72, 84–85, 132–35; Nomura Compl. ¶¶ 97–100. 108 Picard v. Kohn, Adv. Pro. No. 10-4411 (BRL), is a Racketeering Influenced and Corrupt Organizations Act (“RICO”) action, it has no bearing on bankruptcy causes of action. 2012 WL 566298, at *6 (S.D.N.Y. 2012). 109 Service Providers Br. at 1.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 36 of 52

discussed throughout this brief and the Trustee’s Main Brief, there is no validity in this statement.

The Service Providers attempt to distract this Court by asking it to weigh factual allegations in the complaints and dismiss the complaints for failure to plead a section 550(a) claim, in not alleging the Services Providers’ intent. In doing so, the Service Providers select certain allegations, mischaracterize others as conclusory, and ignore the rest. For example,110 in the Picard v. Maxam Complaint, the Trustee alleges:

x Sandra L. Manzke was a well-known, sophisticated professional in investment management. She was considered a pioneer in hedge fund investing, highly respected by her peers, and was recognized as a “Legend in the Hedge Fund Industry” by 100 Women in Hedge Funds in November 2002. Manzke was also a self-proclaimed industry “watchdog,” policing managers whom she viewed as causing the general degradation of ethics in the industry.111

x Manzke did not ask Madoff why he would forego compensation by not charging a performance or an asset-based fee, unlike many other hedge funds managers; Manzke also did not ask Madoff why he self-custodied. Nor could Manzke testify under oath with any specificity to what she, as CEO of Maxam Capital or Tremont Capital Management or what anyone else at Tremont Capital Management, for that matter, did to verify the checks and balances that BLMIS purportedly had in place to monitor its capital allocations.112

x Maxam Capital was authorized through an Investment Management Agreement, dated July 1, 2006 by Maxam GP, the General Partner of Maxam Absolute Return Fund, L.P. and Maxam Absolute Return Fund, Ltd., to manage the affairs of the funds.113

x Despite these abnormalities, the Maxam Defendants failed to independently question these issues or why they could not be provided with their counterparty information. Furthermore, Maxam Capital suggested in the counterparty risk

110 These represent but a sampling of the Trustee’s allegations against the Service Providers. Other examples include allegations redacted from the Trustee’s HSBC Amended Complaint. These are not available for citation here; however, upon the Court’s request, the Trustee will provide an unredacted copy of the HSBC Amended Complaint. 111 Maxam Compl. ¶¶ 1–2. 112 Id. ¶ 64. 113 Id. ¶ 5.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 37 of 52

section of its due diligence materials that it was aware of who the counterparties were and had verified information regarding its counterparties when it had not.114

x Maxam Capital’s due diligence reports state that “Maxam Capital will follow up with a fund’s contacts and ‘will speak directly with the fund administrator, prime broker, and auditor to make sure that the process described at the manager level are [sic] actually carried out by the third party service provider’. . . [and] ‘if we are not comfortable with the business risks from this review, we can eliminate a manager from further consideration.’”115

By omitting allegations from their discussion of the Trustee’s complaints, the Service Providers mischaracterize and distort the facts the Trustee pleaded. The Trustee’s allegations demonstrate, as required by Iqbal116 and Twombly,117 that the Trustee is entitled to recover the fraudulent transfers.

VI. THE COURT SHOULD DENY THE THYBO DEFENDANTS’ MOTION TO DISMISS

Defendants Thybo Entities118 and KBC Investments Limited (the “Thybo Defendants”) filed a supplemental brief on behalf of themselves and others,119 asserting that the Trustee’s allegations of “willful blindness” are insufficient and, therefore, the complaints against them should be dismissed. Defendants’ arguments that a willful blindness standard should be a pleading requirement or replace the well-reasoned, well-recognized, objective inquiry notice

114 Id. ¶ 102. 115 Id. ¶ 121. 116 Ashcroft v. Iqbal, 556 U.S. 662 (2009). 117 Twombly, 550 U.S. 544. 118 Defendant Thybo Entities include: Thybo Asset Management Limited and Thybo Stable Fund Ltd., Somers Dublin Limited, Somers (Nominees) Far East Limited, Crédit Agricole Corporate and Investment Bank, Crédit Agricole (Suisse) S.A. and Crédit Agricole S.A. and BNP Paribas Arbitrage SNC. 119 Defendants joining in the motion are set forth in Exhibit A to their supplemental brief. None of the Defendants listed in Exhibit A are alleged to be “innocent investors.” These Defendants include, Cardinal Management, Dakota Global Investments and Plaza Investments International Ltd., among others set forth in Exhibit A. See Thybo Def. Br. Ex. A.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 38 of 52

standard is fully addressed in the Trustee’s main brief.120 The Thybo Defendants’ remaining arguments lack merit.

A. The Red Flags Pleaded by the Trustee Have No Bearing on the Sufficiency of the Fraudulent Transfer Claims

The Thybo Defendants present a myriad of arguments regarding the red flag allegations contained in the Trustee’s complaints. The Thybo Defendants assert that the Trustee cannot sustain a fraudulent transfer claim under the Bankruptcy Code because red flags are insufficient to demonstrate scienter akin to a Rule 10b-5 pleading requirement. These arguments are unavailing.

The Thybo Defendants are not ordinary “retail” broker-dealer customers they portray themselves to be. Far from it—these Defendants are financial institutions and asset management companies with sophisticated investors and billions of dollars; these Defendants reaped significant fees, commissions, and other benefits from Madoff’s Ponzi scheme. For example, the

Thybo Entities were off-shore funds of hedge funds, operated and managed by experienced, professional hedge fund investment entities.121 Defendant Cardinal Management is an international business company and Defendant Dakota Global Investments was a private mutual fund; both were controlled and operated by sophisticated, experienced investment professionals.122 Defendant Plaza Investments International Ltd., a professional hedge fund and feeder fund to BLMIS, was run by an experienced, professional hedge fund investment manager.123

120 See Tr. Main Br. at 10–30. 121 See Thybo Compl. ¶¶ 31–34, 39. 122 See Cardinal Compl. ¶¶ 18, 19, 41. 123 See Plaza Compl. ¶¶ 18, 35, 43–44.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 39 of 52

The Thybo Defendants argue that the presence of red flag allegations in the Trustee’s complaint transforms the pleading standard he must meet for fraudulent transfer claims. This contradicts the express language of the Bankruptcy Code. To sufficiently plead a cause of action under sections 548(a)(1)(A) and 550(a) of the Bankruptcy Code, the Trustee need not plead red flags, but only that BLMIS made transfers that the Thybo Defendants directly or indirectly received.124 The Trustee has satisfied this burden.125

Nor should this Court countenance the Thybo Defendants’ attempt to challenge the sufficiency of specific red flags on an individualized basis, especially in the context of common briefing. This is wholly improper at this stage in the litigation and only serves to highlight the factual nature of the affirmative defense of good faith. As stated, inquiry notice standard examines the information available to a defendant, whether this information would have prompted a reasonable person in defendant’s shoes—in this case, financial investment professionals—to conduct a diligent investigation, and whether that investigation could have uncovered the fraud.126 The burden of proving the affirmative defense of good faith remains on the Thybo Defendants and is a factual issue that cannot be decided without discovery;127 this is so even if a willful blindness standard applies.128

The securities cases Defendants rely on further demonstrate the contrived nature of their argument.129 Meridian Horizon Fund, LP v. KPMG (Cayman),130 Saltz v. First Frontier, LP,131

124 See Tr. Main Br. at 5–8. 125 See id. 126 See id. at Point III A and B. 127 See id. at 8–10. 128 See id. at Point II. 129 See Thybo Def. Br. at 2–7. 130 Nos. 11-3311-cv, 11-3725-cv, 2012 WL 2754933 (2d Cir. July 10, 2012).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 40 of 52

In re Beacon Assocs. Litig.,132 and other cases cited by Defendants require that a securities fraud plaintiff plead scienter in actions under Rule 10b-5 of the Exchange Act. Such actions for damages, explicitly require a plaintiff to specifically plead an intent to defraud.133 These cases only highlight the difference between claims of securities fraud and traditional bankruptcy claims. The Trustee has alleged certain red flags as part of the avoidance and recovery of initial or subsequent transfers, not as an affirmative pleading of fraud for which Rule 10b-5 scienter is required. The Trustee’s actions are not securities actions seeking damages, but avoidance and recovery actions brought in a bankruptcy liquidation under the Bankruptcy Code and SIPA, for which there is no scienter requirement.134

131 782 F. Supp. 2d 61 (S.D.N.Y. 2010), aff’d, 2012 WL 2096399 (2d Cir. June 12, 2012). 132 745 F. Supp. 2d 386, 414 (S.D.N.Y. 2010). 133 See Meridian, 2012 WL 2754933, at *3 (red flags were insufficient to support inference of scienter); Saltz, 782 F. Supp. 2d at 70 (discussing pleading requirements for scienter in Rule 10b- 5 claim); In re Beacon Assocs., 745 F. Supp. 2d at 403 (discussing scienter and Rule 10b-5 claim). The other cases Defendants discuss at page 3, note 3 of that Brief are the very same cases that Defendants included in their main brief. The Trustee addressed these cases in his opposition to the main briefs and incorporates that discussion here. Tr. Main Br. at 40 n.159. The cases discuss the same concept—that a plaintiff must allege intent in a securities action that expressly requires scienter. See In re J.P. Jeanneret Assocs. Inc., 769 F. Supp. 2d 340, 354, 366 (S.D.N.Y. 2011) (detailing the higher standard required by a securities fraud claim under the PSLRA but finding that the “red flags” surrounding Madoff “gave rise to an inference of conscious misbehavior or recklessness sufficient to withstand a motion to dismiss the securities fraud claim”); Schulman v. Delaire, No. 10-cv-3639 (HB), 2011 WL 672002, at *3 (S.D.N.Y. Feb. 22, 2011) (heightened standard for securities fraud); In re Tremont Sec. Law, State Law & Ins. Litig., 703 F. Supp. 2d 362, 370–71 (S.D.N.Y. 2010) (noting the high standard of pleading required for securities fraud claims and, red flags indicating that defendants were complicit in scheme). 134 See 11 U.S.C. §§ 548 and 550 (devoid of reference to scienter); see also Picard v. Cohmad Sec. Corp., 454 B.R. 317, 336 n.16 (Bankr. S.D.N.Y. 2011) (distinguishing the complaints brought by the Trustee here from those actions brought under securities laws and finding that scienter was not an element of the Trustee’s bankruptcy claims).

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 41 of 52

Defendants’ argument that the fraud could only be discovered with the benefit of hindsight again misses the point.135 The Trustee alleges that Defendants simply should have exercised the same diligence as similarly situated reasonable investors in the face of facts suggesting fraud. Various third parties saw the same red flags as the Thybo Defendants and recognized that Madoff’s activity defied legitimate business explanation. That Madoff confessed to running a Ponzi scheme or that the Trustee conducted a thorough investigation following that confession is irrelevant to what the Thybo Defendants knew or should have known prior to and during their period of investments with Madoff.136

B. There is No Presumption of Good Faith Under the Bankruptcy Code or SIPA

The Thybo Defendants seek to rewrite SIPA and the Bankruptcy Code by injecting a transferee-friendly “presumption of good faith.” In essence, they seek a presumption—despite having absolutely no facts or discovery—that their affirmative defense of good faith is established. This position is unsupported: it does not appear in SIPA, the Bankruptcy Code, or

(to the extent applicable at all) securities law, and Defendants point to no authority to support this discordant supposition. To the contrary, section 548(a)(1)(A) of the Bankruptcy Code is clear: the Trustee may “avoid any transfer” made with the debtor’s—not the transferee’s—intent to hinder, delay, or defraud. Section 550(a) is equally clear: the Trustee “may recover” any transfer from an initial transferee or any immediate or mediate transferee. Once he alleges that the transferee received transfers, he can avoid and recover the transfers, unless the defendants can demonstrate their right to retain the transfers.137 Good faith is an affirmative defense, not a

135 See Thybo Def. Br. at 5–6. 136 See Tr. Main Br. at 39. 137 See 11 U.S.C. § 548(c) (transferee “may retain any interest transferred” where he takes for value and in good faith); 11 U.S.C. §§ 550(a) and (b) (trustee may recover the transfer for the 33

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 42 of 52

presumption. The sufficiency of any proofs offered by the Thybo Defendants can be decided only by weighing evidence after discovery.

Nor is the presumption that Defendants seek here remotely analogous to the presumption of reliance and the presumption of causation under the fraud-on-the-market theory. When considering reliance on a material representation in a Rule 10b-5 action, a plaintiff is entitled to a presumption of reliance because, as a purchaser of stock, he would necessarily rely on offering statement regarding that stock.138 That presumption is based on the policy that “requiring a plaintiff to show a speculative state of facts . . . would place an unnecessarily unrealistic evidentiary burden on the Rule 10b-5 plaintiff . . . .”139

Affiliated Ute Citizens, the case Defendants rely upon to argue that they should receive a presumption, however, confirms that a presumption should be permitted only in narrow circumstances.140 Such narrow circumstances do not exist here. These Defendants represented that they conducted their own due diligence—that they examined information concerning

Madoff and vetted information from different sources, and that such information passed rigorous due diligence examinations. Defendants, by their own representations, possessed evidence concerning the fraud. The Defendants’ good faith should not be presumed, because they had the

benefit of the estate unless the transferee “takes for value, in good faith and without knowledge of the voidability of the transfer avoided.”). 138 See Basic Inc. v. Levinson, 485 U.S. 224, 245–47 (1988). 139 Id. 140 See Affiliated Ute Citizens of Utah v. United States, 406 U.S. 128, 153–54 (1972) (the Supreme Court clarified that the presumption was permitted and established a requisite element of the claim “[u]nder the circumstances of this case, involving primarily a failure to disclose.”). Despite Defendants’ reliance on Tractebel Energy Mktg., Inc. v. AEP Power Mktg., Inc., 487 F.3d 89, 98 (2d Cir. 2007), the fact that parties to a contract may be presumed to have acted in good faith has no bearing on Defendants’ burden to prove the affirmative defense of good faith under sections 548(c) and 550(b) in a bankruptcy liquidation.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 43 of 52

ability to perform unfettered due diligence and had access to real-time information available in the marketplace.141

There is no presumption of a good faith affirmative defense that provides for avoidance and recovery of transfers a debtor made with the intent to defraud. Good faith should be construed as expressed by the Bankruptcy Code and incorporated by SIPA—it is an affirmative defense to be proven by Defendants.142

C. The Trustee Has Sufficiently Pleaded Fraudulent Transfer Claims Against Subsequent Transferee Defendants

The Thybo Defendants argue that the Trustee has not sufficiently pleaded claims to recover avoidable transfers against subsequent transferees. This argument was raised by the subsequent transferees in their main brief and addressed by the Trustee in his opposition to the main brief. As noted therein and incorporated by reference here, the Trustee’s complaint in an action under section 550(a) need not contain individual and specific allegations of the subsequent transferee’s conduct; it need only allege the “necessary vital statistics—the who, when, and how

141 See Basic, 485 U.S. at 247 (presumption of reliance and fraud-on-the-market was a narrow response to the difficulties of proving reliance in efficient securities markets); McLaughlin v. Am. Tobacco Co., 522 F.3d 215, 224 (2d Cir. 2008) (consumer goods market is anything but efficient; presumption of reliance does not work to the extent that defendant’s misrepresentation concerning smoking cannot be internalized to the market at large); Gunnells v. Healthplan Servs., Inc., 348 F.3d 417, 435–36 (4th Cir. 2003) (presumption of reliance does not apply in the purchase of healthcare plans where absence of capital market that presumes rapid assimilation of public information into stock prices; plaintiff may have been unaware of representations or had other information but nonetheless purchased the plan); Dunnigan v. Metro. Life Ins. Co., 214 F.R.D. 125, 140 (S.D.N.Y. 2003) (presumption of reliance and fraud-on-the-market is unnecessary where unreasonable delay in ERISA action can be easily proven by direct proof). 142 Rejecting a presumption of good faith would be consistent with the law of a bona fide purchaser for value, the equitable root of the statutory good faith affirmative defense. The law provides for no presumption, but a defense available to a party who can demonstrate that they acted “‘without notice’ in the transaction that is the basis of the claim.” Restatement (Third) of Restitution and Unjust Enrichment §§ 66, 69, cmt. A (2011.)

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 44 of 52

much” of the purported transfers to establish an entity as a subsequent transferee of the funds.143

The Trustee’s complaints against the subsequent transferees allege that: (i) the Initial Transferees received transfers of property from BLMIS; (ii) those transfers are avoidable under one or more sections of the Bankruptcy Code; and (iii) some or all of those transfers were transferred, either directly or indirectly, to the subsequent transferees named therein.144

VII. THE COURT SHOULD DENY THE THEMA DEFENDANTS’ MOTION TO DISMISS

The signatory Defendants to the Thema Defendants’ Brief are Thema International Fund plc, Thema Fund Ltd, Thema Wise Investments Ltd., Hermes International Fund, Ltd., Lagoon

Investment Ltd. (for itself and as trustee of the Lagoon Investment Trust); Geo Currencies Ltd.

S.A. and Pictet et Cie, and are joined by other initial or subsequent transferee defendants, including hedge funds, management companies, related companies and principals of management companies, investment banks, custodian banks and insiders (collectively, the

“Thema Defendants”). Their varied attempts to conflate, confuse and overturn sections of the

Bankruptcy Code should be rejected. By arguing that the term good faith is “inherently subjective” and that “[c]ourts holding to the contrary have strayed too far from the statutory language,”145 the Thema Defendants ask this Court to rewrite the law as determined by cases applying an objective standard when considering a defense of good faith under section 548(c).146

143 Silverman v. K.E.R.U. Realty Corp. (In re Allou Distribs., Inc.), 379 B.R. 5, 32 (Bankr. E.D.N.Y. 2007). 144 See, e.g., Credit Agricole Compl. ¶¶ 35–77; Standard Chartered Compl. ¶¶ 42–67; Credit Suisse Compl. ¶¶ 54–101. 145 Thema Def. Br. at 1 n.2. 146 Tr. Main Br. at 10–23. The Thema Defendants continue to mistakenly consider BLMIS a securities broker when Madoff was also acting as an investment advisor.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 45 of 52

A. The Thema Defendants’ Purported Restitution Claim Is Irrelevant to the Good Faith Affirmative Defense

The Thema Defendants assert that their purported claim for restitution on their principal investment necessarily shields them from claims under the Bankruptcy Code. Contrary to their assertion, the Bankruptcy Code permits the Trustee to recover a fraudulent transfer regardless of whether a transferee has a restitution claim—an irrelevant issue here. This argument is properly directed to the issue of “antecedent debt.”147 A transferee’s claim for restitution is relevant to the question of whether the transferee took “for value,” not the question of whether the transferee took in “good faith.”148 Therefore, even if the Thema Defendants do have a viable restitution claim,149 they are not entitled to retain their transfers unless they can prove good faith.150

147 Merrill v. Abbott (In re Indep. Clearing House Co.), 77 B.R. 843, 859 (D. Utah 1987) (Even where the transferees had a claim for restitution and thus provided value preventing avoidance under constructive fraud statute, “[a] transfer made for reasonably equivalent value can still be fraudulent and hence avoidable if it was made ‘with actual intent to hinder, delay, or defraud’ persons to whom the debtor was or later became indebted” under section 548(a)(1)); Bayou III, 439 B.R. at 304 (“A transfer that constitutes an actual or intentional fraudulent conveyance . . . may be avoided in its entirety—as to both invested principal and profits—whether or not the debtor received value in exchange for the transfer.”); Bayou II, 396 B.R. at 826 (“Under Section 548(a)(1)(A) the entire amount of ‘any transfer’ . . . may be avoided. The entire amount is avoidable whether or not the debtor received value in exchange.”) 148 Perkins v. Haines, 661 F.3d 623, 629 (11th Cir. 2011) (transfers from the debtors up to the amount of the investment satisfied the investors’ restitution or fraud claims and provided value to the debtors); In re Indep. Clearing House, 77 B.R. at 857 (transfers that repay a transferee’s principal undertaking satisfies an antecedent debt and the debtors received value in exchange for the transfers); Picard v. Merkin (In re BLMIS) (“Merkin”), 440 B.R. 243, 262 (Bankr. S.D.N.Y. 2010) (restitution claims constitute antecedent debt). The question of what constitutes antecedent debt or “value” in this case has already been briefed and argued before this Court and is not relevant in this briefing. See Order, SIPC v. BLMIS, Misc. No. 12-115 (JSR) (S.D.N.Y. May 16, 2012), ECF No. 107. 149 The Thema Defendants assume the viability of their restitution claim, but “only innocent investors who reasonably believed that they were investing in a legitimate enterprise are entitled to claims for restitution.” Merkin, 440 B.R. at 262 (collecting cases). 150 See Donell v. Kowell, 533 F.3d 762, 771–72 (9th Cir. 2008) (noting the inquiry of “good faith as separate from the inquiry of whether the transfer was “for value” when stating: “the receiver may recover the entire amount paid to the winning investor, including amounts which could be considered ‘return of principal.’ However, there is a ‘good faith’ defense that permits an 37

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 46 of 52

Accordingly, the Thema Defendants’ further arguments—whether a restitution claim can stand despite a plaintiff’s negligence and whether a restitution claim defendant has an in pari delicto defense—are equally irrelevant to good faith.151 Moreover, the suggestion that the Trustee must show that a BLMIS investor was in pari delicto with Madoff in order to recover fraudulent transfers distorts the language and intent of the Bankruptcy Code and SIPA.

The next argument the Thema Defendants advance does not even purport to address the concept of “good faith.” It instead implies that by investing principal, the Thema Defendants

“augment[ed] the estate”152 rather than diminished it, and for this reason the Trustee cannot meet the “intent to hinder, delay, or defraud” element of section 548(a)(1)(A). Once again, the

Thema Defendants’ argument confuses the “intent to hinder, delay, or defraud” element of the cause of action with the concept of whether a transferee receives a transfer “for value.” As discussed above, if the Thema Defendants have a restitution claim, it is relevant to whether they received withdrawals “for value,” but not to whether the debtor intended to “hinder, delay, or defraud” other creditors, which focuses on Madoff’s intent when making transfers out of

BLMIS.153 That intent is clear.154 The Thema Defendants’ argument flatly ignores the entire

innocent winning investor to retain funds up to the amount of the initial outlay.’”); Bayou III, 439 B.R. at 309 (“Appellants gave value in the form of their initial investments, and have tort claims of rescission to recover all of their initial investment based on fraudulent inducement. Whether Appellants took their transfers in ‘good faith,’ however, is hotly contested.”)(citation omitted); see also Order, Picard v. Katz, 11-cv-3605 (JSR) (S.D.N.Y. Mar. 5, 2012), ECF No. 142 (holding that the Trustee could recover defendants’ investments of principal in BLMIS made during the two-year period prior to BLMIS’s bankruptcy filing unless defendants could show that those investments were made “in good faith” and citing 11 U.S.C. § 548(c)). 151 See United States v. Berman, 21 F.3d 753, 757 (1994); Ins. Co. of N. Am. v. Whitlock, 216 A.D. 78, 86 (N.Y. App. Div. 1st Dept. 1926); Ford v. Henry, 155 Misc. 2d 192, 193 (N.Y. App. Term 1993). 152 Thema Def. Br. at 3. 153 See Bayou III, 439 B.R. at 302–04 (plaintiff stated a prima facie case for actual fraudulent conveyance where it “specifically pled and demonstrated that the redemption payments hindered, delayed, and defrauded Bayou’s creditors, by inter alia, forestalling disclosure of the fraudulent 38

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 47 of 52

body of case law on the presumption of an intent to “hinder, delay, or defraud” creditors in the context of a Ponzi scheme.155 Finally, the argument is also incorrect. Transfers into a Ponzi scheme do not augment the estate,156 and the Thema Defendants cite no alternative authority to support their assertion.157 The cases on which the Thema Defendants rely for their statement:

[t]here was nothing about the investments themselves that conceivably could have constituted a fraud from the perspective of BLMIS’s other creditors, and fraudulent transfer laws cannot be invoked to modify the restitution obligations that BLMIS incurred in connection with those investments158

scheme.” The intent to hinder, delay, or defraud creditors “need not target any particular entity or individual as long as the intent is generally directed toward present or future creditors of the debtor.”). 154 Katz, 462 B.R. at 453 (“[S]ince it is undisputed that Madoff’s Ponzi scheme began more than two years before the filing of the bankruptcy petition and continued almost to the very day of filing, it is patent that all of Madoff’s Securities’ transfers during the two-year period were made with actual intent to defraud present and future creditors, i.e., those left holding the bag when the scheme was uncovered.”). 155 See Tr. Main Br. at 5–6 (explaining the Ponzi scheme presumption and listing Ponzi scheme presumption cases); Manhattan I, 310 B.R. at 505–09 (applying the Ponzi scheme presumption); In re Agape World, 467 B.R. at 570; In re Dreier, 452 B.R. at 424 (same); In re 1031 Tax Grp., 439 B.R. at 72 (same). 156See Armstrong v. Collins, No. 01 Civ. 2437 (PAC), 2010 WL 1141158, at *22 (S.D.N.Y. Mar. 24, 2010) (“By ‘investing’ in a Ponzi scheme run by the debtor, even unwittingly, a person does not—strictly speaking—provide ‘value.’ This is because the money invested simply perpetuates the debtor’s fraudulent scheme; ‘the longer a Ponzi scheme is kept going the greater the losses to the investors.’”) (quoting Scholes v. Lehmann, 56 F.3d 750, 757 (7th Cir. 1995)); see also In re Slatkin, 243 F. App’x 255, 259 (9th Cir. 2007) (rejecting “any suggestion that a Ponzi scheme operator’s use of investors’ money has value and that investors are entitled to a credit for the “use value” of that money); see also In re Indep. Clearing House Co., 77 B.R. at 859 (“We conclude, however, that the use of investors’ money to perpetuate a Ponzi scheme is not the type of ‘property’ and hence ‘value’ Congress had in mind when it passed section 548(a)(2).”). 157 The two cases cited by the Thema Defendants—Van Iderstine v. Nat’l Disc. Co., 227 U.S. 575, 582 (1913) and Nordberg v. Sanchez (In re Chase & Sanborn Corp.), 813 F.2d 1177, 1181 (11th Cir. 1987)—do not involve a Ponzi scheme. They stand for the unremarkable proposition that a Trustee may avoid a transfer from the debtor as a fraudulent transfer when the debtor intends to hinder and delay its creditors. 158 Thema Def. Br. at 3–4.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 48 of 52

do not describe good faith as harm to other creditors, nor do those cases address restitution claims.159

B. The Trustee’s Claim Against the Thema Defendants Is Consistent With the Purpose of SIPA and the Bankruptcy Code

The Thema Defendants incorrectly argue that they are victims, and therefore, they are on equal footing with all other BLMIS customers, including those against whom the Trustee has not brought actual claims. The Thema Defendants did not act in good faith and are not victims—in fact, in some instances, the Trustee has alleged they were exceptionally close with Madoff.160

159 Van Iderstine, 227 U.S. at 583 (affirming the decision reached by the Circuit Court of Appeals, after examining the proffered evidence at trial, that the fraudulent conveyance could not be set aside because they found that the transferee “had no knowledge of any intent to defraud” not because of a lack of diminution in estate assets); In re Chase & Sanborn, 813 F.2d at 1182 (with no discussion of good faith, finding that the transfers could not be avoided because the debtor was merely a custodian of the transfers, thus the transfers were not property of the debtor and could not possibly diminish the debtor’s estate); Melamed v. Lake Cnty. Nat’l Bank, 727 F.2d 1399, 1402 (6th Cir. 1984) (with no discussion of good faith, finding that a transfer could not be avoided because “a payment which would never have been made to [debtor] without the intervention of the [transferee] and was subject to the [transferee]’s security interest ended up in the [transferee]’s hands” and thus could never have impacted the other creditors); Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv. Fund), 275 B.R. 190, 196 (S.D.N.Y. 2002) (with no discussion of good faith, declining to make “diminution of estate” an element of section 548(a)(1)(A) but concluding that it “only permits a trustee to avoid a transfer of an interest of the debtor in property, when, but for the transfer, such property interest would have been available to at least one of the debtor’s creditors” and placing the burden of proving lack of diminution on the transferee); McCloskey v. Wells Fargo Bank Wis., N.A. (In re Art Unlimited, LLC), No. 07-C-54, 2007 WL 2670307, at *9 (E.D. Wisc. Sept. 6, 2007) (with no discussion of good faith, finding that the transfers could not be avoided because the debtor had no interest in the assets that “were fully encumbered by bank liens, which would make the assets unavailable to unsecured creditors.”). 160 For example, in the case of Thema Defendant Robert and Phyllis Greenberger, the Trustee alleged they “collected and/or received hundreds of thousands of dollars in cash payments from BLMIS. At Madoff’s direction, [the Greenbergers] and their family members collected these payments, made over a fifty-year period, by picking up unmarked envelopes from BLMIS’s office. Each envelope contained thousands of dollars in cash. BLMIS made these off-the-book cash payments to [the Greenbergers] with other people’s money.” Amended Complaint ¶ 1, Picard v. Greenberger, No. 11 Civ. 04928 (S.D.N.Y. May 25, 2012), ECF No. 28 (“Greenberger Am. Compl.”). Moreover, the Greenbergers “did not include the off-the-books cash payments on their income tax returns, deciding only after Madoff’s fraud was exposed to report at least 40

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 49 of 52

These allegations undermine the Thema Defendants’ pleas for special treatment that other bankruptcy defendants would not receive. Defendants in a bankruptcy case must prove that they received transfers in good faith. So too must the Thema Defendants.

some of the cash payments.” Id. ¶ 2. Similarly, in the case of Thema Defendants Brad and David Blumenfeld, the Trustee alleged that they “not only received nearly $40 million of fictitious profits over the life of Madoff’s Ponzi scheme, but they also knowingly accepted $11 million that Madoff transferred to them just days before his arrest and confession in December 2008.” Complaint ¶ 2, Picard v. Blumenfeld, Adv. Pro. No. 10-04730 (BRL) (Bankr. S.D.N.Y. Dec. 1, 2010), ECF No. 1 (“Blumenfeld Compl.”). Internal BLMIS documentation reflects that Madoff “owed” Blumenfeld an annual rate of return of 20%, indicating that this was a promised rate of return that Madoff had pre-arranged with Blumenfeld. Id. ¶ 7. The customer statements “showed that Madoff was achieving the promised 20% rate of return through sporadic options trading which bore utterly no resemblance to the ‘split-strike conversion’ strategy . . . . The unusual option trading activity ‘spiked’ the gains in these two accounts in order to reach the pre- arranged return of 20%.” Id. ¶ 8.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 50 of 52

C. The Trustee’s Claim Against the Thema Defendants is Consistent With the Plain Language of the Bankruptcy Code

In lawsuits in which the Trustee has sued to recover principal, Defendants have the opportunity to prove that they received such transfers in “good faith,” the express purpose of sections 548(c) and 550(b). This sets them apart from preference claims under section 547 of the

Bankruptcy Code to which there is no good faith defense. The Thema Defendants inaccurately assert that “what the Trustee is really trying to do through his allegations is to transform

‘fraudulent transfer’ law into a form of ‘preference’ law.”161 The case that they quote as supposed support for this proposition is In re Unified Commercial Capital, Inc.162 But Unified

Capital is consistent with the Trustee’s position:

[B]y definition all transfers in furtherance of a Ponzi scheme are preferential, yet under the Code the trustee may recover only those transfers made within ninety days before bankruptcy. Although he may recover earlier transfers as fraudulent conveyances, a defendant may keep such transfers to the extent he gave value for the transfer and took it in good faith.163

Unified Capital deals with the “narrow issue” of “reasonably equivalent value” or “fair consideration” with respect to reasonable interest on a loan.164 It has nothing to do with Hedge

Fund Investors under sections 548(c) and 550(b), the recovery of principal, the Ponzi scheme presumption, or even the “intent to hinder, delay, or defraud” under section 548(a)(1)(A). The other cases cited by Defendants are also inapposite.165

161 Thema Def. Br. at 7. 162 260 B.R. 343, 350 (Bankr. W.D.N.Y. 2001). 163 Id. at 349. 164 Id. at 349–50. 165 Neither of those cases involved a Ponzi scheme. Van Iderstine, 227 U.S. at 583 (bankruptcy trustee sought to set aside a transfer of accounts made by the debtor to a lender in exchange for a loan; court found that where the lender only knew that the debtor was borrowing money to pay a legitimate existing debt, the lender did not have knowledge of any intent to defraud on the part of 42

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 51 of 52

D. The Thema Defendants Did Not Demand the Return of Their Investments

The Thema Defendants ask this Court to outline a hypothetical proper course of conduct for an investor who suspects that they are invested in a Ponzi scheme. The Thema Defendants suggest “that a customer who learns or suspects that fraud may be underway is obligated, in good faith, to leave her monies in the hands of the wrongdoer.”166 The Trustee has made no such allegation. The Trustee simply maintains that an investor that redeemed while on inquiry notice cannot sustain a good faith defense.167 Moreover, this is hypothetical—the Thema Defendants do not point to a single transferee who withdrew their entire investment from BLMIS as a result of inquiry notice. If the Thema Defendants are instead referring to their specific redemptions, then their redemptions made while aware of the fraud are exactly what the Bankruptcy Code contemplates.168 The Thema Defendants’ cry of “self-sacrifice” rings hollow.169

the debtor); Bos. Trading Grp. Inc. v. Burnazos, 835 F.2d 1504, 1512 (1st Cir. 1988) (applying Massachusetts fraudulent conveyance law to a non-bankruptcy action in which a receiver brought suit to recover proceeds from the sale of a commodities investment firm from its former owner). 166 Thema Def. Br. at 5. 167 See Bayou II, 396 B.R. at 848 (“Any rational investor or financial advisor, on inquiry notice of a warning signal respecting an investment, would be entirely justified in requesting or recommending redemption and could not be criticized for doing so. Indeed, it would be quite reasonable for an investor to decide to redeem solely on the basis of the red flag without making any inquiry, since the investor has no obligation to any third party to make any inquiry. But if he does so, the courts have held that he cannot invoke the good faith defense under Section 548(c).”). 168 When courts are determining the existence of good faith under section 548(c) the “test is whether the defendant requested redemption after learning of a ‘red flag’ which, under an ‘objective’ standard, should have put the defendants on ‘inquiry notice.’” Id. at 848. 169 Tr. Main Br. at 19–20.

Case 1:12-mc-00115-JSR Document 355 Filed 09/24/12 Page 52 of 52

CONCLUSION

For the foregoing reasons and the reasons set forth in the Trustee’s Main Brief, the

Trustee respectfully requests that Defendants’ motions to dismiss be denied.

Date: September 14, 2012 By: s/ Oren J. Warshavsky New York, New York BAKER & HOSTETLER LLP 45 Rockefeller Plaza New York, New York 10111 Telephone: (212) 589-4200 Facsimile: (212) 589-4201 David J. Sheehan Email: [email protected] Oren J. Warshavsky Email : [email protected] Lan Hoang Email: [email protected] Mark A. Kornfeld Email: [email protected] Geoffrey A. North Email: [email protected] Michelle R. Kaplan Email: [email protected]

Attorneys for Irving H. Picard, Trustee for the Substantively Consolidated SIPA Liquidation of Bernard L. Madoff Investment Securities LLC and Bernard L. Madoff

Case 1:12-mc-00115-JSR Document 347-1 Filed 09/14/12 Page 1 of 4 Case 1:12-mc-00115-JSR Document 347-1 Filed 09/14/12 Page 2 of 4 Case 1:12-mc-00115-JSR Document 347-1 Filed 09/14/12 Page 3 of 4 Case 1:12-mc-00115-JSR Document 347-1 Filed 09/14/12 Page 4 of 4