brl Doc 47 Filed 08/08/12 Entered 08/08/12 20:29:24 Main Document Pg 1 of 74

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1 Pg 1 of 74 Baker & Hostetler LLP 45 Rockefeller Plaza New York, New York Telephone: (212) Facsimile: (212) David J. Sheehan Regina L. Griffin Thomas L. Long Kathryn M. Zunno Catherine E. Woltering Attorneys for Irving H. Picard, Trustee for the Substantively Consolidated SIPA Liquidation of Bernard L. Madoff Investment Securities LLC and Bernard L. Madoff UNITED STATES BANKRUPTCY COURT SOUTHERN DISTRICT OF NEW YORK SECURITIES INVESTOR PROTECTION CORPORATION, v. Plaintiff-Applicant, BERNARD L. MADOFF INVESTMENT SECURITIES LLC, In re: BERNARD L. MADOFF, Defendant. Debtor. IRVING H. PICARD, Trustee for the Liquidation of Bernard L. Madoff Investment Securities LLC, Plaintiff, v. ABN AMRO BANK N.V. (presently known as THE ROYAL BANK OF SCOTLAND, N.V.), and RYE SELECT BROAD MARKET XL FUND, LP, Adv. Pro. No (BRL) SIPA Liquidation (Substantively Consolidated) Adv. Pro. No (BRL) AMENDED COMPLAINT Defendants.

2 Pg 2 of 74 Irving H. Picard (the Trustee ), as trustee for the liquidation of Bernard L. Madoff Investment Securities LLC ( BLMIS ), and the substantively consolidated estate of Bernard L. Madoff, individually, under the Securities Investor Protection Act ( SIPA ), 15 U.S.C. 78aaa et seq., for this Amended Complaint against ABN AMRO Bank N.V. (presently known as The Royal Bank Of Scotland, N.V.) ( ABN/RBS ), 1 and Rye Select Broad Market XL Fund, LP ( Rye XL LP ) 2 (collectively, ABN/RBS and Rye XL LP are referred to herein as the Defendants ) alleges the following: I. NATURE OF THE ACTION 1. This adversary proceeding is part of the Trustee s continuing efforts to recover BLMIS customer property 3 that was stolen as part of the massive Ponzi scheme perpetrated by Bernard L. Madoff ( Madoff ) and others. 2. With this Amended Complaint, the Trustee seeks to recover approximately $237 million in subsequent transfers of BLMIS customer property collectively made to Defendant ABN/RBS by Rye Select Broad Market Fund LP ( Broad Market ) and Rye Select Broad Market Portfolio Limited ( Portfolio Limited Fund ), which were Madoff feeder funds, as well as by the Rye Funds, as defined below. The Trustee also seeks to recover approximately $ ABN/RBS is wholly owned by RBS Holdings N.V., which is wholly owned by RFS Holdings B.V., which is 97.72% owned by The Royal Bank of Scotland Group plc. 2 The Trustee has settled with Rye XL LP; however, objectors have appealed the settlement approval order issued by Judge Lifland. On June 27, 2012, the district court dismissed the appeal for lack of standing. 11-Civ-7330 (S.D.N.Y) (GED) ECF No. 35. On July 30, 2012, the objectors filed a Notice of Appeal of 6/28/12 Final Judgment Dismissing Tremont Appeal bk (2d Cir.), ECF No.1. The Trustee has named Rye XL LP in this Amended Complaint to preserve his rights in case the settlement is not ultimately approved. The Trustee believes the objections to the settlement are without merit and will dismiss Rye XL LP upon receipt of a non-appealable order dismissing the objections to the settlement. 3 SIPA 78lll(4) defines Customer property as cash and securities at any time received, acquired, or held by, or for the account of, a debtor from, or for, the securities accounts of a customer, and the proceeds of any such property transferred by the debtor, including property unlawfully converted.

3 Pg 3 of 74 million in subsequent transfers of BLMIS customer property collectively made to Defendant Rye XL LP by Broad Market and Rye Select Broad Market Prime Fund LP ( Prime Fund ) Broad Market, Portfolio Limited, Prime Fund, and Rye Select Broad Market Insurance Portfolio LDC ( Insurance Portfolio Fund ) (collectively, the Tremont Feeders ) had direct customer accounts with BLMIS s investment advisory business ( IA Business ), investing virtually all of their assets in their BLMIS customer accounts. The Tremont Feeders are wholly owned, operated, and controlled by Tremont Partners, Inc. ( Tremont ). 4. In addition to the Tremont Feeders, as part of its larger network of funds, Tremont also wholly owned, operated, and controlled two private investment funds, Defendant Rye XL LP and Rye XL Portfolio (together, the Rye Funds ). At all relevant times, Rye XL LP and Rye XL Portfolio invested virtually all of their assets in the Tremont Feeders, or other Tremont funds that invested virtually all of their assets directly or indirectly in BLMIS. 5. Rye XL LP, Broad Market and Prime Fund are Delaware limited partnerships with their principal place of business in Rye, New York. Portfolio Limited Fund and Insurance Portfolio Fund are Cayman Island companies that also had their principal place of business in Rye, New York. 6. At all relevant times Defendant ABN/RBS was part of a sophisticated global financial network providing banking and investment services to retail, private, and commercial banking clients, including derivatives products and services. 7. As detailed herein, the Trustee seeks to recover: approximately $1.4 million of customer property fraudulently transferred by BLMIS to Broad Market, which it then 4 The Trustee s investigation is ongoing, and the Trustee reserves his right to supplement any transfer information with respect to initial transfers made by BLMIS to the Tremont Feeders, any subsequent transfers of such BLMIS Customer property to the Rye Funds, and/or any other affiliated Tremont entity, and any subsequent transfers of such BLMIS Customer property to any of the Defendants. 2

4 Pg 4 of 74 subsequently transferred to ABN/RBS; approximately $333.7 million of customer property fraudulently transferred by BLMIS to Broad Market and Prime Fund, which they then subsequently transferred to Defendant Rye XL LP, of which a minimum of $87.5 million was subsequently transferred by Rye XL LP to Defendant ABN/RBS; $74.4 million of customer property fraudulently transferred by BLMIS to Portfolio Limited Fund, which it then subsequently transferred to ABN/RBS; and $74.6 million of customer property fraudulently transferred by BLMIS to Portfolio Limited Fund and Insurance Portfolio Fund, which they subsequently transferred to Rye XL Portfolio, and which was subsequently transferred by Rye XL Portfolio to Defendant ABN/RBS. 8. As described more fully below, Defendants received these subsequent transfers of BLMIS customer property under circumstances in which they knew or should have known of the fraud at BLMIS. Moreover, rather than conduct further due diligence in response to indicia of fraud of which they were aware, Defendants ignored the warnings signs of fraud and chose to look the other way. II. JURISDICTION AND VENUE 9. The Trustee brings this adversary proceeding pursuant to his statutory authority under SIPA 78fff(b), 78fff-1(a), and 78fff-2(c)(3); sections 105(a), 544, 550(a), and 551 of title 11 of the United States Code, 11 U.S.C. 101 et. seq. (the Bankruptcy Code ); and the New York Fraudulent Conveyance Act (New York Debtor & Creditor Law) ( NYDCL ) (McKinney 2001), to recover avoided and avoidable transfers received by the Defendants as subsequent transferees of funds originating from BLMIS. 10. This is an adversary proceeding brought in this Court, in which the main underlying substantively consolidated SIPA case, Adv. Pro. No (BRL) (the SIPA Case ), is pending. The SIPA Case was originally brought in the United States District Court for 3

5 Pg 5 of 74 the Southern District of New York (the District Court ) as Securities Exchange Commission v. Bernard L. Madoff Investment Securities LLC, et al., No. 08 CV (the District Court Proceeding ). This Court has jurisdiction over this adversary proceeding under 28 U.S.C. 1334(b), and 15 U.S.C. 78eee(b)(2)(A), (b)(4). 11. Defendant ABN/RBS is subject to personal jurisdiction in this judicial district because it purposely availed itself of the laws and protections of the United States and the state of New York by, among other things, knowingly directing funds to be invested with New Yorkbased BLMIS through the Tremont Feeders which had a principal place of business in Rye, New York. Defendant ABN/RBS knowingly received subsequent transfers from BLMIS by receiving subsequent transfers of customer property from the Rye Funds and the Tremont Feeders. 12. By directing its investments through Broad Market, a Tremont managed Madoff feeder fund, ABN/RBS knowingly accepted the rights, benefits, and privileges of conducting business and/or transactions in the United States and New York. Defendant ABN/RBS entered into subscription agreements with Broad Market under which they agreed to submit to New York jurisdiction, wired funds to Tremont accounts through The Bank of New York in New York. Employees of ABN/RBS and/or their New York based affiliate corporation, ABN AMRO Incorporated ( ABNI ), met with and regularly communicated with Tremont representatives located in Tremont s Rye, New York office. Defendant ABN/RBS also entered into a swap agreement with Rye XL LP, and pursuant to this agreement, Defendant ABN/RBS agreed to submit to New York jurisdiction. 13. Defendant ABN/RBS thus derived significant revenue from New York and maintained minimum contacts and/or general business contacts with the United States and New York in connection with the claims alleged herein. 4

6 Pg 6 of Defendant ABN/RBS should reasonably expect to be subject to New York jurisdiction and are subject to personal jurisdiction pursuant to New York Civil Practice Law & Rules 301 and 302 (McKinney 2001) and Bankruptcy Rule Defendant Rye XL LP is subject to New York jurisdiction and personal jurisdiction pursuant to New York Civil Practice Law & Rules 301 (McKinney 2001) and Bankruptcy Rule This is a core proceeding pursuant to 28 U.S.C. 157(b)(2)(A), (F), (H), and (O). 17. Venue in this District is proper under 28 U.S.C III. BACKGROUND 18. On December 11, 2008 (the Filing Date ), Madoff was arrested by federal agents for violation of the criminal securities laws, including, inter alia, securities fraud, investment adviser fraud, and mail and wire fraud. Contemporaneously, the U.S. Securities and Exchange Commission ( SEC ) commenced the District Court Proceeding against Madoff and BLMIS. The SEC complaint alleges that Madoff and BLMIS engaged in fraud through the investment adviser activities of BLMIS. The District Court Proceeding remains pending. 19. On December 12, 2008, The Honorable Louis L. Stanton of the District Court entered an order appointing Lee S. Richards as receiver for the assets of BLMIS. 20. On December 15, 2008, under 78eee(a)(4)(A), the SEC consented to a combination of its own action with an application of the Securities Investor Protection Corporation ( SIPC ). Thereafter, under 78eee(a)(4)(B) of SIPA, SIPC filed an application in the District Court alleging, inter alia, that BLMIS was not able to meet its obligations to securities customers as they came due and, accordingly, its customers needed the protections afforded by SIPA. 5

7 Pg 7 of Also on December 15, 2008, Judge Stanton granted the SIPC application and entered an order under SIPA (known as the Protective Decree ), which, in pertinent part: a. removed the receiver and appointed the Trustee for the liquidation of the business of BLMIS under SIPA 78eee(b)(3); b. appointed Baker & Hostetler LLP as counsel to the Trustee under SIPA 78eee(b)(3); and c. removed the case to the United States Bankruptcy Court for the Southern District of New York (the Bankruptcy Court ) under 78eee(b)(4) of SIPA. 22. By orders dated December 23, 2008, and February 4, 2009, respectively, the Bankruptcy Court approved the Trustee s bond and found the Trustee was a disinterested person. Accordingly, the Trustee is duly qualified to serve and act on behalf of the estate of BLMIS. 23. At a plea hearing (the Plea Hearing ) on March 12, 2009, in the case captioned United States v. Madoff, Case No. 09-CR-213 (DC) (S.D.N.Y. March 12, 2009) (Docket No. 50), Madoff pled guilty to an eleven-count criminal information filed against him by the United States Attorney s Office for the Southern District of New York. At the Plea Hearing, Madoff admitted that he operated a Ponzi scheme through the investment advisory side of [BLMIS]. Id. at 23. Additionally, Madoff admitted [a]s I engaged in my fraud, I knew what I was doing [was] wrong, indeed criminal. Id. On June 29, 2009, Madoff was sentenced to 150 years in prison. 24. On August 11, 2009, a former BLMIS employee, Frank DiPascali, pled guilty to participating in and conspiring to perpetuate the Ponzi scheme. At a plea hearing on August 11, 2009, in the case entitled United States v. DiPascali, Case No. 09-CR-764 (RJS) (S.D.N.Y. Aug. 11, 2009), DiPascali pled guilty to a ten-count criminal information. Among other things, 6

8 Pg 8 of 74 DiPascali admitted that the Ponzi scheme had been ongoing at BLMIS since at least the 1980s. Id. at 46. IV. TRUSTEE S POWERS AND STANDING 25. As Trustee appointed under SIPA, the Trustee is charged with recovering and paying out BLMIS customer property to BLMIS customers, assessing claims, and liquidating any other assets of BLMIS for the benefit of the estate and its creditors. The Trustee is in the process of marshaling BLMIS s assets, and this liquidation is well underway. However, the estate s present assets will not be sufficient to reimburse BLMIS customers for the billions of dollars they invested with BLMIS over the years. Consequently, the Trustee must use his broad authority under SIPA and the Bankruptcy Code to pursue recoveries, including those from individuals and entities that received preferences and fraudulent transfers to the detriment of defrauded customers whose money was consumed by the Ponzi scheme. Absent this and other recovery actions, the Trustee will be unable to satisfy the claims described in subparagraphs (A) through (D) of SIPA 78fff-2(c)(1). 26. Under SIPA 78fff-1(a), the Trustee has the general powers of a bankruptcy trustee in a case under the Bankruptcy Code, in addition to the powers granted by SIPA under 78fff-1(b). Chapters 1, 3, 5 and subchapters I and II of chapter 7 of the Bankruptcy Code apply to this case to the extent consistent with SIPA. 27. Under SIPA 78fff(b) and 78lll(7)(B), the Filing Date is deemed to be the date of the filing of the petition within the meaning of section 548 of the Bankruptcy Code and the date of commencement of the case within the meaning of section 544 of the Bankruptcy Code. 28. The Trustee has standing to bring these claims under 78fff-1(a) of SIPA and the Bankruptcy Code, including sections 323(b), 544, and 704(a)(1), because the Trustee has the 7

9 Pg 9 of 74 power and authority to avoid and recover transfers under sections 544, 547, 548, 550(a), and 551 of the Bankruptcy Code and SIPA 78fff-1(a) and 78fff-2(c)(3). V. THE DEFENDANTS AND NON-PARTIES 29. Defendant ABN/RBS, now known as The Royal Bank of Scotland, N.V., is a Dutch commercial bank located at Gustav Mahleraan 10, 1082 PP Amsterdam, the Netherlands. Defendant ABN/RBS maintains a representative office at 565 Fifth Avenue, 25th floor, New York, New York 10017, and at all times relevant maintained a branch operation in London, England. ABN/RBS is wholly owned by RBS Holdings N.V., which is wholly owned by RFS Holdings B.V., which is 97.72% owned by The Royal Bank of Scotland Group plc. 30. Defendant ABN/RBS has undergone numerous corporate changes since Prior to 2007, ABN AMRO Bank N.V. ( ABN ) was a financial institution organized under the laws of The Netherlands with a branch operating in London, England. ABN was a wholly-owned subsidiary of ABN AMRO Holding, N.V. ( ABN Holding ), a public company whose shares were traded on several major stock exchanges. 31. On October 17, 2007, RFS Holdings B.V., a company jointly owned by The Royal Bank of Scotland ( RBS ), Fortis N.V., Fortis SA/NV, and Banco Santander S.A., and controlled by The Royal Bank of Scotland, acquired ABN and ABN Holding. On February 6, 2010, ABN AMRO Bank N.V. changed its name to The Royal Bank of Scotland N.V. (previously defined as ABN/RBS ). 32. ABN/RBS is part of The Royal Bank of Scotland Group ( RBS Group ), an international banking and financial services company. From its headquarters in Edinburgh, the RBS Group operates in the United Kingdom, Europe, the Middle East, the Americas and Asia, serving over 30 million customers worldwide. The RBS Group provides a wide range of products and services to personal, commercial, large corporate and institutional customers 8

10 Pg 10 of 74 through its two principal subsidiaries, The Royal Bank of Scotland plc and National Westminster Bank Plc, as well as through a number of other well-known brands including Citizens, Charter One, Ulster Bank, Coutts and Direct Line. 33. Upon information and belief, at all times relevant to this action, ABNI was authorized and/or directed to conduct due diligence, negotiate transactions, or act on behalf of ABN and/or ABN/RBS, and to disseminate and/or discuss the results of such diligence or communications to ABN and/or ABN/RBS. Upon information and belief, ABNI did, in fact, conduct due diligence of the Tremont Feeders and/or BLMIS on behalf of ABN and/or ABN/RBS, and disseminated and/or discussed the results of such diligence with ABN and/or ABN/RBS. 34. Defendant Rye XL LP is a Delaware limited partnership formed on July 13, 2006, with its principal place of business located at 555 Theodore Fremd Avenue, Rye, New York Rye XL LP sought to provide investors with synthetic returns equal to approximately three times those of Broad Market, a non-party described more fully below. 35. Non-party Tremont Partners, Inc. ( Tremont ) is a Connecticut corporation with its principal place of business at 555 Theodore Fremd Avenue, Rye, New York Tremont was the general partner of Rye XL LP, responsible for Rye XL LP s day-to-day operations, investment management, and decision-making, and at all relevant times, dominated and controlled Rye XL LP. Additionally, Tremont also served as the General Partner and investment manager of Broad Market and Prime Fund. Tremont is an investment adviser registered with the SEC under the Investment Advisers Act of 1940 ( Advisers Act ). 36. Non-party Rye XL Portfolio is a Cayman Islands exempted company that was incorporated with limited liability in the Cayman Islands on February 10, Rye XL 9

11 Pg 11 of 74 Portfolio s registered office during the relevant period was located at Walkers SPV Limited, Walker House, KY1-9002, Mary Street, George Town, Grand Cayman, Cayman Islands. Tremont acted as the investment manager for Rye XL Portfolio. Similar to Rye XL LP, Rye XL Portfolio sought to provide investors with synthetic returns equal to approximately three times those of Portfolio Limited Fund. 37. Non-party Rye Select Broad Market Fund, L.P. ( Broad Market ) is a Delaware limited partnership organized in May 1994 under its original name of American Masters Broad Market Fund, LP. Broad Market s principal place of business during the relevant period was located at 555 Theodore Fremd Avenue, Rye, New York Broad Market had a stated objective of seeking long term capital growth through, inter alia, investments primarily in securities through its direct account with BLMIS, which opened in 1994 with account number 1T0027. During all relevant times, nearly all Broad Market s assets were deposited in its account at BLMIS. 38. Non-party Rye Select Broad Market Prime Fund, L.P. ( Prime Fund ), is a Delaware limited partnership organized in May 1997 under its original name of American Masters Broad Market Prime Fund, LP (subsequently renamed American Masters Broad Market Prime Fund, LP in or around 1999, and then its current name of Rye Select Broad Market Prime Fund, LP in or around 2006). Prime Fund had the stated objective of providing investors with long-term capital growth through levered investments in BLMIS. Prime Fund had both a direct account with BLMIS that opened in 1997, with account number 1C1260, and investments with other Tremont funds that provided leveraged returns based upon BLMIS s performance. During all times applicable to this action, virtually 100% of the monies invested in Prime Fund were invested directly or indirectly with BLMIS. Through the use of leverage, 10

12 Pg 12 of 74 Prime Fund provided investors with approximately two times the economic return of Broad Market. Prime Fund accomplished its leverage through various credit facilities and vehicles. 39. Non-party Rye Select Broad Market Portfolio Limited ( Portfolio Limited Fund ) is an open-ended investment company organized as an exempted company under the laws of the Cayman Islands in 2001 under its original name of American Masters Broad Market Fund II Limited. Portfolio Limited Fund s registered office during the relevant period was located in the Cayman Islands, c/o Trulaw Corporate Services Ltd., P.O. Box 866, George Town, Grand Cayman. Tremont (Bermuda) Limited is the investment manager for Portfolio Limited Fund. Tremont (Bermuda) Limited delegated substantially all of its investment management duties to Tremont, which served as sub-advisor. Tremont was responsible for selecting investment managers, negotiating fee arrangements with those managers, allocating assets among managers, and monitoring Portfolio Limited Fund s investments. Portfolio Limited Fund had a direct account with BLMIS that opened in 2001, with account number 1FR080. During all times applicable to this action, virtually 100% of the monies invested in Portfolio Limited Fund were given to Madoff and deposited with BLMIS. 40. Non-party Rye Select Broad Market Insurance Portfolio, LDC ( Insurance Portfolio Fund ) is an open-ended investment company registered in the Cayman Islands as an exempted limited duration company in 1997 under its original name of Tremont-Broad Market Fund LDC. Insurance Portfolio Fund s principal office during the relevant period was located at Walkers SPV Limited, Walker House, KY1-9002, Mary Street, George Town, Grand Cayman, Cayman Islands. Tremont (Bermuda) Limited is the investment manager for the Insurance Portfolio Fund. Tremont (Bermuda) Limited delegated substantially all of its investment management duties to Tremont, which served as sub-advisor. Tremont was responsible for 11

13 Pg 13 of 74 selecting investment managers, negotiating fee arrangements with those managers, allocating assets among managers, and monitoring Insurance Portfolio Fund s investments. Insurance Portfolio Fund had a direct account with BLMIS that opened in 1997, with account number 1FR010. During all times applicable to this action, virtually 100% of the monies invested in Insurance Portfolio Fund were deposited with BLMIS. Insurance Portfolio Fund is in liquidation in the Cayman Islands. 41. At all times relevant, Rye XL LP and Rye XL Portfolio were managed and overseen by Tremont. 42. All deposits of funds into BLMIS by the Tremont Feeders and fraudulent transfers by BLMIS to the Tremont Feeders were made in connection with the direct customer relationship between the Tremont Feeders and BLMIS. VI. THE PONZI SCHEME 43. BLMIS was founded by Madoff in 1959 and, for most of its existence, operated from its principal place of business at 885 Third Avenue, New York, New York. Madoff, as founder, chairman, chief executive officer, and sole owner, operated BLMIS together with several of his friends and family members. BLMIS and its predecessor were registered with the SEC as securities broker-dealers under Section 15(b) of the Securities Exchange Act of 1934, 15 U.S.C. 78o(b). By virtue of that registration, BLMIS was a member of SIPC. BLMIS had three business units: market making, proprietary trading, and the IA Business. 44. Outwardly, Madoff ascribed the consistent success of the IA Business to the socalled split-strike conversion strategy ( SSC Strategy ). Under the SSC Strategy, Madoff purported to invest BLMIS customers funds in a basket of common stocks within the Standard & Poor s 100 Index ( S&P 100 ) a collection of the 100 largest publicly traded companies. Madoff claimed that his basket of stocks would mimic the movement of the S&P 100. He also 12

14 Pg 14 of 74 asserted that he would carefully time purchases and sales to maximize value, and BLMIS customers funds would, intermittently, be out of the equity markets. 45. The second part of the SSC Strategy was a hedge of Madoff s stock purchases with options contracts. Those option contracts acted as a collar to limit both the potential gains and losses on the basket of stocks. Madoff purported to use proceeds from the sale of S&P 100 call options to finance the cost of purchasing S&P 100 put options. Madoff told BLMIS customers that when he exited the market, he would close out all equity and option positions and invest all the resulting cash in United States Treasury bills or in mutual funds holding Treasury bills. Madoff also told customers that he would enter and exit the market between six and ten times each year. 46. BLMIS s IA Business customers received fabricated monthly or quarterly statements showing that securities were held in, or had been traded through, their accounts. The securities purchases and sales shown in the account statements never occurred, and the profits reported were entirely fictitious. At the Plea Hearing, Madoff admitted that he never made the investments he promised clients, who believed they were invested with him in the SSC Strategy. He further admitted that he never purchased any of the securities he claimed to have purchased for the IA Business s customer accounts. In fact, there is no record of BLMIS having cleared a single purchase or sale of securities in connection with the SSC Strategy on any trading platform on which BLMIS reasonably could have traded securities. Instead, investors funds were principally deposited into the BLMIS account at JPMorgan Chase & Co., Account #xxxxxxxxxxxx Prior to his arrest, Madoff assured clients and regulators that he purchased and sold the put and call options either on the Chicago Board Options Exchange ( CBOE ) or on the 13

15 Pg 15 of 74 over-the-counter ( OTC ) market after hours. Based on the Trustee s investigation to date, there is no evidence that the IA Business ever entered into any CBOE or OTC options trades on behalf of IA Business account holders. 48. For all periods relevant hereto, the IA Business was operated as a Ponzi scheme. The money received from investors was not invested in stocks and options, but rather used to pay withdrawals and to make other avoidable transfers. Madoff also used his customers investments to enrich himself, his associates, and his family. 49. The falsified monthly account statements reported that the accounts of the IA Business customers had made substantial gains, but in reality, due to the siphoning and diversion of new investments to fulfill payment requests or withdrawals from other BLMIS accountholders, BLMIS did not have the funds to pay investors for those new investments. BLMIS only survived as long as it did by using the stolen principal invested by customers to pay other customers. 50. It was essential for BLMIS to honor requests for payments in accordance with the falsely inflated account statements, because failure to do so promptly could have resulted in demand, investigation, the filing of a claim, and disclosure of the fraud. 51. Madoff s scheme continued until December 2008, when the requests for withdrawals overwhelmed the flow of new investments and caused the inevitable collapse of the Ponzi scheme. 52. Based upon the Trustee s ongoing investigation, it now appears there were more than 8,000 customer accounts at BLMIS over the life of the scheme. In early December 2008, BLMIS generated account statements for its approximately 4,900 open customer accounts. When added together, these statements purportedly showed that BLMIS customers 14

16 Pg 16 of 74 had approximately $65 billion invested through BLMIS. In reality, BLMIS had assets on hand worth only a fraction of that amount. Customer accounts had not accrued any real profits because virtually no investments were ever made. By the time the Ponzi scheme came to light on December 11, 2008, with Madoff s arrest, investors had already lost approximately $20 billion in principal. 53. Thus, at all times relevant hereto, the liabilities of BLMIS were billions of dollars greater than its assets. BLMIS was insolvent in that: (i) its assets were worth less than the value of its liabilities; (ii) it could not meet its obligations as they came due; and (iii) at the time of the transfers, BLMIS was left with insufficient capital. VII. FACTUAL BACKGROUND A. Leverage and the BLMIS Feeder Funds 54. Among the many investors in BLMIS were a number of so-called feeder funds, investment vehicles that invested all or substantially all of their assets in BLMIS via direct customer accounts with BLMIS s IA Business (collectively, the BLMIS Feeder Funds ). 55. It was well known among the BLMIS Feeder Funds that Madoff would only execute the strategy for IA Business customers on an unleveraged basis. Despite this, many BLMIS Feeder Funds still sought to use leverage to increase the amount of assets they invested in BLMIS, thereby increasing their management and performance fees and their BLMIS returns. Because they had to go to third parties, and could not directly leverage their accounts at BLMIS, they found eager leverage providers in large financial institutions, like ABN/RBS, which created various lending and alternative investment products designed for the same purpose to exploit Madoff s success for its own institutional gains. 15

17 Pg 17 of These gains included not only the fees and interest earned on the alternative investment products, but also the opportunity to distribute or otherwise provide services to these BLMIS Feeder Funds. 57. Like the BLMIS Feeder Funds, these leverage providers were also aware that Madoff would not permit leveraged investments. Accordingly, these leverage providers, including Defendant ABN/RBS, deliberately structured the leverage financing they provided in a way that was levels removed from BLMIS and the initial transferee BLMIS Feeder Funds that held BLMIS accounts. 1. Prime Fund s Investments in Defendant Rye XL LP Using Customer Property Redeemed from BLMIS 58. Beginning no later than July 2007, Prime Fund invested in Defendant Rye XL LP. 59. Upon information and belief, Prime Fund used redemptions from BLMIS to make investments in Defendant Rye XL LP in the form of subscription payments. 60. BLMIS fraudulently transferred a minimum of $945 million of customer property to Prime Fund during the 6-year period prior to the Filing Date (see Exhibit F), and between July 3, 2007 and October 23, 2008 Prime Fund transferred at least $285,317,636 of these funds to Rye XL LP as investments in the form of subscription payments. 5 The Prime Fund transfers of subscription payments to Defendant Rye XL LP are set forth below. (See also Exhibit G.) Date of Transfer Transfer Amount 7/3/2007 1,000,000 7/3/ ,000 7/3/ ,000 7/3/ ,000 8/1/2007 9,800,000 8/1/2007 6,200,000 5 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 16

18 Pg 18 of 74 8/1/2007 2,850,000 8/1/ ,000 8/1/ ,000 8/7/ ,691 8/7/ ,538 8/7/ ,538 1/2/2008 1,500,000 1/3/2008 1,500,000 2/1/ ,000 3/3/ ,000 3/26/ ,000,000 3/26/ ,000,000 4/4/2008 2,363 4/7/ ,962 4/7/2008 4,319 5/20/ ,329 6/2/ ,000,000 6/2/ ,000 6/17/ ,672 7/1/ ,000 7/22/2008 1,351,888 7/22/2008 1,017,835 7/22/ ,066 8/1/ ,000,000 9/2/ ,000 9/18/ ,456 10/2/2008 1,000,000 10/2/ ,000 10/23/2008 3,341, Broad Market s to Defendant Rye XL LP Using Customer Property Redeemed from BLMIS 61. Beginning no later than August 2006, Broad Market began transferring funds into Defendant Rye XL LP. 62. Upon information and belief, Broad Market used redemptions from BLMIS to make the transfers to Defendant Rye XL LP. 17

19 Pg 19 of As detailed below, BLMIS fraudulently transferred a minimum of $252 million in customer property to Broad Market during the 6-year period prior to the Filing Date (see Exhibit B), and between August 31, 2006 and November 21, 2008, Broad Market transferred at least $48,387,616 of these funds to Defendant Rye XL LP. 6 The Broad Market transfers to Defendant Rye XL LP are set forth below. (See also Exhibit D.) Date of Transfer Transfer Amount 8/31/2006 1,000,000 7/3/2007 1,000,000 7/3/2007 1,000,000 8/2/2007 5,000,000 9/4/ ,000,000 1/2/2008 2,065,535 4/10/ ,318 6/17/2008 2,585,965 7/2/2008 6,500,000 7/11/2008 1,310,004 7/11/ ,793 9/2/ ,000 11/12/ ,000 11/21/2008 1,200, Portfolio Limited Fund s to Rye XL Portfolio Using Customer Property Redeemed from BLMIS 64. Beginning no later than November 1, 2006, Portfolio Limited Fund began transferring funds into Rye XL Portfolio. 65. Upon information and belief, Portfolio Limited Fund used redemptions from BLMIS to make the transfers to Rye XL Portfolio. 66. As detailed below, BLMIS fraudulently transferred a minimum of $617.9 million in customer property to Portfolio Limited Fund during the 6-year period prior to the Filing Date 6 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 18

20 Pg 20 of 74 (see Exhibit I), and between November 1, 2006 and April 16, 2008, Portfolio Limited Fund transferred at least $74,298,573 of these funds to Rye XL Portfolio. 7 The Portfolio Limited Fund transfers to Rye XL Portfolio are set forth below. (See also Exhibit K.) Date Amount 11/1/2006 $22,000,000 1/2/2007 $10,000,000 1/2/2007 $10,000,000 8/1/2007 $6,550,000 8/28/2007 $6,550,000 9/4/2007 $8,000,000 1/2/2008 $7,297,644 1/2/2008 $3,016,051 1/3/2008 $2,356 1/30/2008 $500,000 4/15/2008 $156,516 4/16/2008 $160,346 4/16/2008 $65, Insurance Portfolio Fund s to Rye XL Portfolio Using Customer Property Redeemed from BLMIS 67. Beginning no later than January 2, 2008, Insurance Portfolio Fund began transferring funds into Rye XL Portfolio. 68. Upon information and belief, Insurance Portfolio Fund used redemptions from BLMIS to make the transfers to Rye XL Portfolio. 69. As detailed below, BLMIS fraudulently transferred a minimum of $93.9 million in customer property to Insurance Portfolio Fund during the 6-year period prior to the Filing Date (see Exhibit M), and on January 2, 2008, Insurance Portfolio Fund transferred at least 7 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 19

21 Pg 21 of 74 $318,000 of these funds to Rye XL Portfolio. 8 The Insurance Portfolio Fund transfers to Rye XL Portfolio are set forth below. (See also Exhibit N.) Date Amount 1/2/2008 $318,000 B. Defendant Rye XL LP s Onshore Swap Agreement with Defendant ABN/RBS 70. Defendant Rye XL LP promised its investors returns that were three times the return of Broad Market. At various times from inception through December 11, 2008, Defendant Rye XL LP made independent decisions to use the proceeds of investors subscription and/or other assets to fund swap agreements with third party leverage providers, including, but not limited to, ABN/RBS. These swap agreements provided Defendant Rye XL with three times the returns of Broad Market, the swaps so-called reference asset. 71. On November 1, 2007, Defendant Rye XL LP and Defendant ABN/RBS entered into one such swap agreement (the Onshore Swap ). Similar to a traditional loan, the Swap required Rye XL LP to post collateral with ABN/RBS. On November 1, 2007, Defendant Rye XL LP provided ABN/RBS with $7.5 million of initial collateral. Upon information and belief, Defendant Rye XL LP used BLMIS customer property subsequently transferred to it from Prime Fund and/or Broad Market to fund this $7.5 million of initial collateral. 72. As discussed more fully below, between February 2007 and August 2008, Rye XL LP transferred a total of $80 million in additional collateral to ABN/RBS. Upon information and belief, Defendant Rye XL LP used BLMIS customer property subsequently transferred to it from Prime Fund and/or Broad Market to fund the $80 million of additional collateral. Under the Onshore Swap, ABN/RBS agreed to provide Defendant Rye XL LP with an amount equal to 8 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 20

22 Pg 22 of 74 three times the return on a hypothetical investment in Broad Market. As such, the Onshore Swap provided Defendant Rye XL LP with a return equal to three times the return it would have received had it invested the collateral directly in Broad Market. 73. For structuring the Onshore Swap with Defendant Rye XL LP, Defendant ABN/RBS earned significant revenue in the form of fees and interest, which included, but was not limited to: (1) the spread on the floating interest rate charged to Rye XL LP above that charged internally for funding costs; and (2) an early termination fee on any reduction in the Equity Notional in the first 18 months of the transaction. C. Defendant ABN/RBS s Proprietary Decision to Hedge the Onshore Swap by Investing in Broad Market 74. Under the Onshore Swap, ABN/RBS was free to generate the returns owed to Defendant Rye XL LP as it saw fit. It could have invested the collateral in other hedge funds, bonds, or even its own operations. 75. ABN/RBS, however, chose to generate the returns owed to Defendant Rye XL LP by using the collateral received from Defendant Rye XL LP, together with its own funds equaling two times Defendant Rye XL LP s collateral, to purchase partnership interests in Broad Market. 76. Accordingly, in November 2007, ABN/RBS made the proprietary and voluntary decision to hedge its risk under the Onshore Swap by investing three times the collateral it received from Defendant Rye XL LP in Broad Market (the Onshore Hedge ). As a result, ABN/RBS had a perfect hedge against what it owed to Defendant Rye XL LP under the Onshore Swap. 77. As part of its Onshore Hedge, ABN/RBS was simply another investor in Broad Market, and was free to redeem its Broad Market shares as it wished. The investments in and 21

23 Pg 23 of 74 redemptions from Broad Market made by RBS as part of the Onshore Hedge were a proprietary trading position, and were not required or mandated by the Onshore Swap. 78. Below is a chart showing the Onshore Swap and the Onshore Hedge: The Onshore Swap Defendant Rye XL LP -- Subsequent Transferee 3x Returns Defendant ABN/RBS -- Subsequent Transferee The Onshore Hedge Prime Fund Transferee Broad Market Reference Fund / Transferee Bernard L. Madoff Investment Securities (BLMIS) Debtor D. The Onshore Subsequent at Issue 1. The Subsequent from Defendant Rye XL LP to Defendant ABN/RBS 79. Pursuant to the terms of the Onshore Swap, Defendant Rye XL LP could increase or upsize the value of the swap transaction by providing ABN/RBS with additional collateral. 22

24 Pg 24 of Upon information and belief, in 2008, Defendant Rye XL LP transferred the BLMIS customer property it received from Prime Fund and/or Broad Market, as detailed above, to ABN/RBS to increase the collateral and, therefore, the overall size of the Onshore Swap. 81. From February 1, 2008 to August 1, 2008, Defendant Rye XL LP increased the Onshore Swap from the original $7.5 million to $87.5 million through subsequent transfers of BLMIS customer property received from Prime Fund and/or Broad Market to ABN/RBS, as set forth below. (See also Exhibit O.) 9 Date Amount 11/1/2007 $7,500,000 2/1/2008 $15,000,000 3/26/2008 $15,000,000 6/2/2008 $25,000,000 8/1/2008 $25,000, Defendant ABN/RBS s Independent Redemption from Broad Market of a Portion of its Onshore Hedge 82. On November 3, 2008, ABN/RBS made the proprietary decision to redeem $1.4 million from Broad Market. 10 Upon information and belief, in order to fulfill ABN/RBS s redemption request, Broad Market used funds from redemptions out of its BLMIS account, and subsequently transferred $1.4 million of BLMIS customer property to ABN/RBS. 83. Below is a chart showing the subsequent transfers from the Tremont Feeders to Rye XL LP and then to ABN/RBS as part of the investment of the Onshore Swap, as well as the subsequent transfers to ABN/RBS as part of the Onshore Hedge. 9 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 10 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 23

25 Pg 25 of 74 The Onshore Swap Defendant Rye XL LP -- Subsequent Transferee $87.5 Million in Collateral 3x Returns Defendant ABN/RBS -- Subsequent Transferee $285,317,636 in Subscriptions Between 7/1/2007 and 10/23/2008 Prime Fund Transferee $48,387,616 In Subsequent $1.4 Million Return on Proprietary Hedge Investment The Onshore Hedge Broad Market Reference Fund / Transferee Purchase of Shares for Proprietary Hedge $945 Million in 6 Year $252 Million in 6 Year Bernard L. Madoff Investment Securities (BLMIS) Debtor E. Rye XL Portfolio s Offshore Swap Agreement with Defendant ABN/RBS 84. Similar to Rye XL LP, Rye XL Portfolio promised its investors returns that were three times the return of Portfolio Fund Limited. At various times from inception through December 11, 2008, Rye XL Portfolio made independent decisions to use the proceeds of investors subscription and/or other assets comprising customer property to fund swap agreements with third party leverage providers, including, but not limited to, ABN/RBS. These swap agreements provided Rye XL Portfolio with three times the returns of Portfolio Limited Fund, the swaps so-called reference asset. 24

26 Pg 26 of On September 1, 2006, Rye XL Portfolio and Defendant ABN/RBS entered into one such swap agreement (the Offshore Swap ). Similar to a traditional loan, the Offshore Swap required Rye XL Portfolio to post collateral with ABN/RBS. On or around September 1, 2006, Rye XL Portfolio provided ABN/RBS with $30 million of initial collateral. Upon information and belief, Rye XL Portfolio used BLMIS customer property subsequently transferred to it from Portfolio Limited Fund to fund some or all of this $30 million of initial collateral. 86. As discussed more fully below, between November 2006 and July 2007, Rye XL Portfolio transferred a total of $111 million in additional collateral to ABN/RBS. Upon information and belief, Rye XL Portfolio used BLMIS customer property subsequently transferred to it from Insurance Portfolio Fund and/or Portfolio Limited Fund to fund some or all of the $111 million of additional collateral. 87. Under the Offshore Swap, ABN/RBS agreed to provide Rye XL Portfolio with an amount equal to three times the return on a hypothetical investment in Portfolio Limited Fund. As such, the Offshore Swap provided Rye XL Portfolio with a return equal to three times the return it would have received had it invested the collateral directly in Portfolio Limited Fund. 88. For structuring the Offshore Swap with Rye XL Portfolio, Defendant ABN/RBS earned significant revenue in the form of fees and interest, which included, but was not limited to: (1) the spread on the floating interest rate charged to Rye XL Portfolio above that charged internally for funding costs; and (2) an early termination fee on any reduction in the Equity Notional in the first 18 months of the transaction. 25

27 Pg 27 of 74 F. Defendant ABN/RBS s Decision to Hedge the Offshore Swap by Investing in Portfolio Limited Fund 89. ABN/RBS structured the Offshore Swap in such a way the Equity Notional Amount was directly tied to the ABN AMRO becoming the legal and beneficial owner of the total number of Reference Fund Shares [ABN AMRO] was able to acquire or the actual proceeds on the redemption of the relevant number of Reference Fund Shares previously held by [ABN AMRO]. 90. Therefore, unlike the Onshore Swap, the Offshore Swap explicitly required ABN/RBS to generate the returns owed to Rye XL Portfolio by investing in Portfolio Limited Fund. 91. Accordingly, in September 2006, ABN/RBS used the collateral received from Rye XL Portfolio, together with its own funds equaling two times Rye XL Portfolio s collateral, to purchase partnership interests in Portfolio Limited Fund, hedging its risk under the terms of the Offshore Swap by investing three times the collateral it received from Rye XL Portfolio in Portfolio Limited Fund (the Offshore Hedge ). 92. Below is a chart showing the Offshore Swap and the Offshore Hedge: 26

28 Pg 28 of 74 The Offshore Swap Rye XL Portfolio -- Subsequent Transferee 3x Returns Defendant ABN/RBS -- Subsequent Transferee The Offshore Hedge Rye Select Broad Market Insurance Portfolio LDC Transferee Portfolio Limited Fund Reference Fund / Transferee Bernard L. Madoff Investment Securities (BLMIS) Debtor G. The Offshore Subsequent at Issue 1. The Subsequent from Rye XL Portfolio to Defendant ABN/RBS 93. Upon information and belief, Rye XL Portfolio made the decision to use the subscription payments and subsequent transfers it received from its investors, including, but not limited to, the BLMIS customer property it received from Portfolio Limited Fund and/or Insurance Portfolio Fund to fund or increase the Offshore Swap with ABN/RBS. 94. Pursuant to the terms of the Offshore Swap, Rye XL Portfolio could increase or upsize the value of the swap transaction by providing ABN/RBS with additional collateral. 95. Upon information and belief, in 2006 and 2007, Rye XL Portfolio transferred the BLMIS customer property it received from Portfolio Limited Fund and/or Insurance Portfolio 27

29 Pg 29 of 74 Fund, as detailed above, to ABN/RBS to increase the collateral and, therefore, the overall size of the Offshore Swap. 96. From November 1, 2006 to July 2, 2007, Rye XL Portfolio increased the Offshore Swap from the original $30 million to $141 million, as set forth below. (See also Exhibit P.) Date Amount 9/1/2006 $30,000,000 11/1/2006 $52,000,000 1/31/2007 $25,000,000 3/1/2007 $19,000,000 4/2/2007 $4,000,000 5/1/2007 $1,000,000 6/1/2007 $4,000,000 7/2/2007 $6,000, Of this $141 million, at a minimum, $74.6 million was customer property fraudulently transferred from BLMIS to Portfolio Limited Fund and/or Insurance Portfolio Fund, which they subsequently transferred to Rye XL Portfolio, and Rye XL Portfolio then subsequently transferred to Defendant ABN/RBS On or around September 1, 2007, Portfolio Limited Fund and ABN/RBS executed an amendment to the original Offshore Swap dated September 1, 2006 ( Offshore Amendment ). The Offshore Amendment served to extend the termination date of the swap to September 30, 2009, among other revisions, which included but were not limited to: (1) addressing a possible merger or acquisition of ABN, (2) agreeing that ABN/RBS had the right to conduct an annual onsite inspect of all relevant documentation, including but not limited to Portfolio Limited Fund s and/or Tremont s SEC Advisor s Form ADV Part 2, annual audited financial statements and the annual Independent Auditors Report on Internal Control prepared by the auditors 11 The Trustee expressly reserves his right to amend, revise, or supplement this transfer information upon further investigation and discovery. 28

30 Pg 30 of 74 pursuant to SEC Rule 17a-5; and (3) providing ABN/RBS will forfeit any early termination fee should it enter into any direct communications however arising with BLMIS or Madoff. 2. ABN/RBS s Redemption from Portfolio Limited Fund 99. While ABN/RBS was required under the Offshore Swap with Rye XL Portfolio to purchase shares of Portfolio Limited Fund, to Portfolio Limited Fund, ABN/RBS was simply another investor in the fund On September 4, 2007, ABN/RBS redeemed $25 million from Portfolio Limited Fund. Upon information and belief, in order to fulfill ABN/RBS s redemption request, Portfolio Limited Fund used funds from redemptions out of its BLMIS account, and subsequently transferred $25 million of BLMIS customer property to ABN/RBS Between October 1 and December 1, 2008, ABN/RBS redeemed a total of $ million from Portfolio Limited Fund. Upon information and belief, in order to fulfill ABN/RBS s redemption request, Portfolio Limited Fund withdrew funds from its BLMIS account, and subsequently transferred $ million of BLMIS customer property to ABN/RBS Below is a graph showing the subsequent transfers from the Tremont Feeders to Rye XL Portfolio and then to ABN/RBS as part of the investment of the Offshore Swap, as well as the subsequent transfers to ABN/RBS as part of the Offshore Hedge. 29

31 Pg 31 of 74 The Offshore Swap Rye XL Portfolio -- Subsequent Transferee $141 Million in Collateral 3x Returns Defendant ABN/RBS -- Subsequent Transferee $318,000 in Subsequent $74,298,573 In Subsequent $74.4 Million Return on Proprietary Hedge Investment The Offshore Hedge Purchase of Shares for Proprietary Hedge Insurance Portfolio Fund Transferee $93.9 Million in 6 Year Portfolio Limited Fund Reference Fund / Transferee $617.9 Million in 6 Year Bernard L. Madoff Investment Securities (BLMIS) Debtor VIII. ABN/RBS HAD UNIQUE AND NON-PUBLIC ACCESS TO INFORMATION AND DOCUMENTS IDENTIFYING NUMEROUS QUANTITATIVE AND QUALITATIVE RED FLAGS OF POSSIBLE FRAUD AT BLMIS 103. ABN/RBS and its related corporate entities had extraordinary visibility into BLMIS and Madoff by virtue of their own roles, as well as the multiple roles as investors and leverage providers to various feeder funds invested in BLMIS From the multiple roles, ABN/RBS s extraordinary visibility into BLMIS emanated from information it, as well as other members of the RBS Group, gathered As discussed more fully in Section IX, it was this extraordinary visibility into BLMIS and Madoff that exposed ABN/RBS to facts indicating potential fraud at BLMIS. Armed with such knowledge, rather than conduct further due diligence on BLMIS, ABN/RBS instead decided to ignore significant indicia of fraud. 30

32 Pg 32 of Upon information and belief, as a result of the October 2007 acquisition of ABN by RBS, any knowledge, information or materials regarding BLMIS, Madoff, or BLMIS Feeder Funds previously obtained by ABN or RBS independently were subsequently shared with, and imputed to, the resulting entity, Defendant ABN/RBS Further, upon information and belief, at all times relevant to this action, any knowledge, information or materials regarding BLMIS, Madoff, or BLMIS Feeder Funds obtained by ABNI was subsequently shared with, and imputed to, the ABN and/or Defendant ABN/RBS At all times relevant herein, ABN/RBS knew Broad Market, Portfolio Limited Fund, Prime Fund, Kingate Global Fund ( Kingate ), Ascot Partners LP ( Ascot ), and Fairfield Sentry Limited ( Fairfield Sentry ) were almost entirely, if not entirely, invested in BLMIS Through its communications and dealings with multiple BLMIS Feeder Funds, ABN/RBS had access to significant non-public information sufficient to identify numerous red flags of possible fraudulent activity at BLMIS Based on its role as a sophisticated financial institution, ABN came across different fund houses that were invested in Madoff. In fact, as early as August 2006, the same ABN representatives were responsible for negotiating and structuring transactions with the Tremont Feeders and Fairfield Sentry. As a result, the same ABN personnel gained cumulative and widespread knowledge regarding Madoff and BLMIS In fact, by virtue of signing non-disclosure agreements with both Tremont and Fairfield in 2006, ABN/RBS received considerable non-public information about BLMIS and Madoff, including unique access to BLMIS account statements and trade confirmation information. 31

33 Pg 33 of ABN/RBS also had unique access to information pertaining to BLMIS s trading activity, even among other large institutional investors in BLMIS Feeder Funds. Specifically, ABN/RBS received trade confirmation information and monthly account statements on a regular basis from Tremont and/or its administrator beginning as early September 2006, and continuing through Madoff s arrest in December Moreover, in July 2006, copies of the Madoff Account Opening Documents for the American Masters Broad Market Fund II Limited (renamed to become Portfolio Limited Fund) were sent to representatives of ABNI in New York and ABN in London Access to BLMIS s trade confirmation information, monthly account statements, and Portfolio Limited Fund s Madoff Account Opening Documents gave ABN/RBS unique insight into BLMIS s trading strategy and procedures, his role and discretion in serving as an investment advisor, prime dealer and custodian, and the fee structure for Madoff s services Receipt of these non-public documents provided ABN/RBS with a unique vintage point from which to evaluate Madoff, BLMIS, and the purported trading strategy, and alerted or should have alerted ABN/RBS to indicia of fraud at BLMIS Aside from ABN/RBS s access to Madoff Account Opening Documents and monthly BLMIS account statements and trading information, ABN/RBS was also privy to a wealth non-public documents and information BLMIS Feeder Funds distributed only to investors or potential investors, all of which provided ABN/RBS with knowledge of other indicia of possible fraud at BLMIS. 32

34 Pg 34 of 74 IX. ABN/RBS HAD KNOWLEDGE OF INDICIA OF FRAUD AT BLMIS AND WAS WARNED TO REDEEM ITS MADOFF RELATED INVESTMENTS A. ABN/RBS s Routine Request to Meet with Madoff was Repeatedly Denied 117. In February 2007, ABN s management began discussions with Richard Glantz, the control person for two entities called Lakeview and Vista, which were invested in one or more BLMIS Feeder Fund ABN was exploring the possibility of investing in either Lakeview or Vista, which would once again indirectly expose ABN to BLMIS. As part of its due diligence on Vista, ABNI s Schwartz wrote to Glantz to see how your discussions have gone with Madoff with respect to our ability undertake due diligence on them for this transaction. This is a critical issue for us and we would appreciate a response as soon as practical Glantz responded to Schwartz s saying: (emphasis added). In response to your request as to having access for due diligence with Madoff, I spoke to Frank DiPascali who is his operations chief who referred me directly to Bernie. Bernie simply said no. He does not do this. He was happy to allow Fortis who does not require this personal due diligence in the form you are requesting. He said he will not have a direct relationship with any bank on any account. Bernie is in this way difficult and problematic. AB[N] AMRO can get copies of all the transactions direct from Madoff at the same time I get them. I will be happy explore ways in which assist AB[N] AMRO to have sufficient control of the account. If credit needs to meet with Bernie or tour his plant, that it not possible now or in the future In response to Glatz s , Schwartz responds: Richard how do we invest in this fund if we do not have a direct relationship and the ability to perform due diligence on Madoff. We do not need to speak directly to Bernie but what about one of his subordinates? 33

35 Pg 35 of 74 Your thoughts would be appreciated. Any help you can provide to get our credit people comfortable would be appreciated. (emphasis added) 121. Less than an hour later, Glatz replies: The question of access [to Madoff] is not open. (emphasis added) 122. ABN s inability to conduct independent due diligence on Madoff and the BLMIS IA Business in connection with RBS s potential investment in Vista was another red flag of possible Madoff fraud. Refusal to deal directly with banks like ABN should have prompted ABN to seriously question structured products and other propriety investments ABN had in BLMIS Feeder Funds including its investment in Portfolio Limited Fund Less than two months later, Schwartz ed Tremont with a question from ABN s risk department: How frequent are the inspections from Madoff s regulators and what is the nature of these inspections (e.g. perhaps there are more frequent lighter checks and less frequent in-depth checks, etc.). Can you pls phrase the response in terms of which regulator is doing the inspection as well (i.e. the SEC and/or the NASD?) Tremont responded that Tremont cannot make any representations on the scope or frequency of inspections by US regulatory agencies related to Madoff Securities Tremont s lack of knowledge regarding which regulator inspected BLMIS, the scope of the inspections, and how frequently they took place should have prompted concern by ABN, as Tremont was one of BLMIS s largest IA clients, supposedly maintained a close relationship with Madoff, and claimed to have transparency into the custodian, prime-broker and investment advisor of its assets Yet, instead of demanding more information and access to Madoff or BLMIS, ABN/RBS entered into the Offshore Amendment in September 2007, and Onshore Swap in 34

36 Pg 36 of 74 November 2007, both of which specifically prohibited ABN from any direct communication with Madoff or BLMIS. The Onshore Swap provided that ABN AMRO will not be entitled to the above mentioned amounts or fees if... ABN AMRO enters into any direct communications however arising with the Account Manager [BLMIS] in respect of this transaction. The Offshore Amendment uses virtually identical language Madoff s refusal to allow ABN to conduct independent due diligence on the IA Business should have raised red flags, coupled with the lack of information and inability of Tremont to answer basic questions about BLMIS despite having more than $3 billion invested, and Tremont s mandate that ABN could have no direct communication with Madoff or BLMIS should have raised suspicions within ABN/RBS. B. RBS Was Specifically Warned by a Due Diligence Firm that it Should Redeem its Madoff-Related Investments 127. In August 2007, just two months before RBS acquired ABN, members of RBS s Fund Derivatives group and Global Banking & Markets group contacted a specialized due diligence firm (the DD Firm ) regarding a portfolio of funds for which it was considering doing a financing transaction. This portfolio included two BLMIS Feeder Funds, Ascot and Kingate In response to RBS s request, a representative of the DD Firm provided a risk report on the portfolio funds, including Kingate, as well comments on the funds for which the DD Firm had additional information or insight. Included in this list was a comment regarding Madoff. Specifically, RBS was told by the DD Firm in no uncertain terms that Kingate was a BLMIS Feeder Fund and that the DD Firm advised all of its clients to redeem their interests in BLMIS or BLMIS Feeder Funds due to a lack of transparency at BLMIS. 35

37 Pg 37 of A month later, in September 2007, internal Tremont documents indicate Tremont approached RBS about Madoff lending and, [RBS] indicated they were not comfortable with Madoff Just two months later, in October 2007, RBS acquired ABN, forming ABN/RBS. Once again, internal Tremont documents provide insight into this transaction, stating [i]t is apparent that after buying ABN[,] [RBS] is really not comfortable with Madoff and the newly created entity appeared to not be in control of their own business Despite being told by the DD Firm that ABN should redeem from any fund with exposure to Madoff, including Kingate and perhaps because it was not in control of its own business by January 2008, the same ABN representative (now employed by ABN/RBS) who received the DD Firm warning was in negotiations with FIM Advisers LLP to do a structured product on Kingate In fact, this ABN/RBS representative wrote to FIM Advisors LLP, [a]s per our previous conversation regarding RBS track records on deals with single strategy HFs, we have previously closed... multiple lending deals with single strategy fund of hedge funds... 2x leveraged notes on a basket of 5 single strategy hedge funds. But she notes, [t]he above trades are specific to RBS. As we have recently acquired ABN Amro, we are also in the process of double checking their capacity in terms of dealing with single strategy single hedge fund. We will revert to you once we have more updates on the ABN side As evidenced in this exchange, RBS not only acquired ABN in October 2007, but by January 2008 the two companies were functioning as one, sharing information, and specifically addressing single-manager issues related to BLMIS Feeder Funds and existing deals and future capacity. 36

38 Pg 38 of Despite the DD Firm s warnings and its knowledge about other red flags of potential fraud at BLMIS, ABN/RBS chose to ignore those red flags, and instead continued to seek out opportunities to finance transactions on BLMIS Feeder Funds. In fact, in April 2008, ABNI s David Schwartz ed Fairfield s head of risk indicating ABN/RBS had identified some appetite for unleveraged exposure to Madoff Risk. Would you be interested in working with us on this opportunity? 135. It was not just the fees and interest generated as a result of structured products underlying BLMIS Feeder Funds that motivated ABN/RBS. ABN/RBS was also motivated to disregard red flags of fraud and express warnings about Madoff due to the potential for future banking relationships and other business with these feeder funds In January 2008, ABN/RBS told Tremont they would quid pro quo Madoff capacity in return for distributing our [fund of funds] and in the April from ABN/RBS to Fairfield s head of risk referenced in Paragraph 56, Schwartz indicated if Fairfield was interested in RBS s appetite for unleveraged exposure to Madoff risk, then ABN/RBS would also like to have some idea of what ABN/RBS would earn for this distribution. In effect, ABN/RBS used derivative products as leverage for retrocession rebates or the commission/fees generated as a result of distribution rights for these funds Upon information and belief, the individuals responsible for entering into these transactions underlying BLMIS Feeder Funds received financial compensation in the form of bonuses for each deal closed or distribution relationship ABN/RBS was awarded. This compensation served as motivation for this small number of individuals comprising ABN/RBS s various fund derivative and structured product groups, which were all parties to the various 37

39 Pg 39 of 74 BLMIS related transactions to disregard the DD Firm s warning and the numerous red flags of potential fraud at BLMIS. C. ABN/RBS Knew Madoff s Performance Was Too Good To Be True 138. ABN/RBS knew or should have known that BLMIS produced returns that were simply too good to be true, reflecting a pattern of abnormal profitability, both in terms of consistency and in amounts that were simply not credible Beginning no later than May 2006, ABN entered into discussions with Tremont to provide structured products on Rye XL Portfolio and Rye XL LP, which included discussions about and a review of BLMIS and Madoff David Schwartz, a New York based employee of ABNI, worked in conjunction with, and on behalf of, representatives from ABN in London to help facilitate communications with various Tremont employees, arrange for due diligence, and obtain information necessary for the internal approvals required to structure the transactions As part of this process, Tremont provided the Defendants with, among other things, historical weekly returns for a BLMIS feeder managed by Tremont and portfolio balances for the previous five years on the same date to show the near-perfect consistency of BLMIS s investment strategy While simultaneously negotiating with Tremont, a representative of ABN s Fund Derivatives group in London contacted Fairfield Greenwich Group ( Fairfield ) in June 2006 about the possibility of structuring a $5 million 4x leveraged certificate on Fairfield Sentry Limited, which was at least 95% invested in BLMIS Through its conversations with Fairfield during the summer of 2006, ABN learned Fairfield Sentry had experienced only [t]hirteen down months in over 15 years (184 38

40 Pg 40 of 74 months), which resulted in 92.5% winning months. Fairfield further touted to RBS that over the 15 year life of the fund, the [l]argest peak to trough drawdown was -0.64% in November 1994 and [Fairfield Sentry] took two months to recover Moreover, during this same time period, ABN obtained the below graph from Tremont detailing the distribution of monthly returns from September 2001 through November In July 2006, ABN received further information showing BLMIS s improbable returns when it received a document from Tremont evidencing Broad Market s returns from May 1994 through May As shown below, this document provided ABN with the data necessary to analyze BLMIS s returns over a 12 year period. 39

41 Pg 41 of Moreover, beyond being provided with the above, ABN was provided with a summary showing the improbable consistency of BLMIS s positive returns: 147. ABN was provided with historical returns detailing that in the 145 months since Broad Market began investing substantially all of its assets in BLMIS, Madoff claimed to generate positive returns 95% of the time, or about 137 out of 145 months. Moreover, during the 12 year period covered by this document, Broad Market averaged an annual return of 13.03%, with its average negative return being only -0.16% Based on the substantial information provided to ABN by Fairfield and Tremont, ABN/RBS knew or should have known returns this good would have required Madoff to perfectly time the market for over 20 years Furthermore, this summary included utilizing an industry standard known as the Sharpe ratio to gauge portfolio performance. The Sharpe ratio, developed by William Sharpe, winner of the Nobel Prize in Economic Sciences, measures how well a trading strategy compensates the investor for the risk taken. A higher Sharpe ratio indicates the strategy provides a higher return relative the associated risk. For funds with monthly net asset values ( NAV ), such as the Feeder Funds, the Sharpe ratio is calculated as follows: (The Fund s Average Monthly Rate of Return) (That Month s Risk-Free Rate) Standard Deviation of the Fund s Monthly Returns 150. BLMIS s Sharpe ratio was remarkable. When compared to the over 800 other hedge funds that reported data to major hedge fund databases, the probability Madoff could maintain such high Sharpe ratios by providing positive returns with very little volatility, was less than 1%. When compared to funds that employed comparable strategies to Madoff s SSC 40

42 Pg 42 of 74 Strategy, that probability drops to less than 0.1%. In selling his services to FGG, Madoff noted that other star managers might have higher returns, but he produced steady returns without the volatility of those star managers. In fact, for a 13-year period, Fairfield Sentry had a higher Sharpe ratio than Warren Buffett, George Soros, Bruce Kovner, and John Paulson in all but six of 52 quarters between 1995 and The probability of Fairfield Sentry s Sharpe ratio outperforming these star money managers in almost every quarter for nearly 13 years is approximately 1 in 200,000, Based on its sophistication as a global financial institution, ABN/RBS knew or should have known BLMIS s returns could not be reproduced by other skilled hedge fund managers, and those managers who attempted to employ the split-strike conversion strategy purportedly used by BLMIS consistently failed even to approximate its results. Other similarly sophisticated industry professionals viewed Madoff s alleged perfect timing based on market flow as indicative of illegitimate and illegal trading activity Nor did ABN/RBS perform any reasonable or independent due diligence into the fact that BLMIS s Sharpe ratio was nearly impossible for the Tremont Feeder Funds or Fairfield Sentry to have retained such a consistently high Sharpe ratio ABN/RBS knew Madoff s trading purportedly involved the purchase of a basket of 35 to 50 S&P 100 stocks, most correlated to the S&P 100 Index, the sale of out-of-the-money calls on the index and the purchase of out-of-the-money puts on the index. The sale of the calls was designed to increase the rate of return, while allowing upward movement of the stock portfolio to the strike price of the calls. The puts, funded in large part by the sale of the calls, limited the portfolio s downside. Madoff s alleged trading strategy was typically known as a split-strike conversion strategy. The strategy, in effect, created a boundary on a stock, limiting 41

43 Pg 43 of 74 its upside while at the same time protecting against a sharp decline in the share price. RBS knew that based on the Madoff s purported trading strategy, returns were limited due to the sale of calls, however, the return streams for Broad Market, Portfolio Limited Fund and Fairfield produced results that were consistently too high to adhere to this trading strategy ABN/RBS understood that by design, BLMIS s returns were supposed to be very highly correlated to the performance of the S&P 100 Index. In fact, Annex 1 to the Offshore Swap specifically defines the split strike conversion strategy as requiring the purchase of a group or basket of equity securities that are highly correlated to the S&P 100 Index and provides that should BLMIS fail to adhere to the split strike conversion strategy as defined, the transaction could be terminated pursuant to the terms of the agreement. However, RBS had an abundance of information showing BLMIS s returns were not correlated to the S&P 100 Index ABN/RBS had historical return information for numerous BLMIS Feeder Funds, including, but not limited to, Fairfield Sentry Limited, Portfolio Limited Fund, and Broad Market dating back as early as The historical returns of each and every one of these funds showed a lack of correlation ABN/RBS had in its possession an undeniable visual evidencing this lack of correlation. Specifically, Tremont provided RBS with the graph below showing Portfolio Fund Limited s and thus BLMIS s returns on $1,000,000 from September 1, 2001 to November 30, 2006: 42

44 Pg 44 of Rather than correlate to the S&P performance, which the majority of the time had negative cumulative returns, BLMIS s returns were consistently positive and increasing indeed, a diagonal line going straight up. Armed with this knowledge, and with access to monthly BLMIS account statements and trading activity, ABN/RBS knew or should have known that BLMIS s returns were not the product of legitimate trading activity And finally, as reflected in the above return stream provided to ABN and reproduced in paragraph 156, ABN/RBS was also aware of BLMIS s performance versus the S&P 100 s performance during seven crisis periods between April 2000 and December 2007, including, but not limited to, the technology bubble burst and September 11, 2001 terrorist attack In every instance, BLMIS s performance was always positive, yet the S&P 100 s performance was negative. In response, ABN/RBS chose to ignore these remarkable, unrealistic results. 43

45 Pg 45 of 74 D. ABN/RBS Knew That Madoff Lacked Independent Verification That Assets Existed and Assets Were Not Segregated 160. ABN/RBS knew that BLMIS functioned as investment advisor, prime broker and the in-fact custodian of the purported securities. that: 161. Specifically, in July 2006, Fairfield provided ABN with documentation detailing a. BLMIS was the Custodian: Non-discretionary brokerage accounts have been established at BLM to house the assets of [Fairfield Sentry] employing this [splitstrike conversion] Strategy b. BLMIS was the Prime Broker: BLM executes all stock transactions using their sophisticated trade execution technology and under an agreement with [Fairfield Sentry], BLM executes the Strategy c. BLMIS was the Investment Advisor: BLM is authorized to determine the price and timing of stock and options transactions in [Fairfield Sentry s] account. And the services of BLM and its personnel are essential to the continued operation of the Fund, and its profitability, if any Shortly thereafter, an internal ABN from October 2006, reveals that while ABN was still pursuing potential business with Fairfield, was also aware of red flags of potential fraud and had serious questions about Madoff and the BLMIS IA Business Because BLMIS purported to operate as investment advisor, prime broker and the in-fact custodian, as shown in the July 2006 documents ABN obtained from Fairfield, there was no segregation between those who were responsible for trading and those who were are responsible for recording trade activities. Nor was there segregation of signing authority and authority over cash and securities transfers, deposits and withdrawals. 44

46 Pg 46 of A few months later, in October 2006, this red flag was specifically identified by ABN as an area of significant concern in an internal discussing a possible leveraged product underlying Fairfield Sigma Limited, which was 100% invested in Fairfield Sentry, which was in turn 95% invested in BLMIS As revealed in the , a large issue ABN had in approving the Offshore Swap was that BLMIS self-reported its trading positions. Some ABN employees questioned the situation in which BLMIS was acting simultaneously as the adviser, the prime broker and the custodian of the assets. Having all of these roles at the same time violated industry best practices, and as the exposes, ABN knew this and had concerns about the lack of an independent custodian for the assets in BLMIS s IA Business, who could verify the existence of the trading and the claimed assets This structure unusual for the hedge-fund industry eliminated a key check and balance by excluding an independent custodian of securities from the investment management process. The lack of an independent custodian also furthered BLMIS s lack of transparency Due to the questions ABN raised previously in connection with its Tremont transactions, as ABN continued to negotiate with Fairfield, it was anxious to know more about the relationship between Sentry and BLMIS, including how Sentry verified the trades reported by BLMIS. ABN further questioned how Madoff supposedly used the put options in the SSC Strategy. ABN also had questions regarding the counterparties to the OTC OEX options transactions and the creditworthiness of the counterparties. The October concluded by saying that it might be difficult to access the high limits available for Madoff risk at RBS to structure a 4x leveraged product, unless ABN could get more information concerning Madoff s 45

47 Pg 47 of 74 use of put options. In short, it is clear ABN identified significant issues and red flags of possible fraud concerning Madoff, the BLMIS IA Business and the SSC Strategy Armed with specific knowledge of BLMIS s conflict of interest, and notwithstanding ABN s unanswered questions concerning Madoff s alleged securities and options, ABN/RBS continued to explore opportunities for leveraged transactions involving Tremont and Sentry Additionally, ABN/RBS also knew or should have known that accounts at BLMIS were not segregated, and therefore not subject to independent verification. Adequate segregation allows independent checks and balances throughout the trading cycle, the movement of cash and the custody process, and is a fundamental area of inquiry for those performing independent and reasonable due diligence on investment managers. The absence of such segregation was a red flag of potential fraud. E. ABN Knew BLMIS Utilized Outmoded Technology, Including Paper Confirmations 170. ABN/RBS knew by virtue of their relationship with Tremont, and their unique access to monthly BLMIS account statements and trade information for Broad Market and Portfolio Limited Fund that BLMIS issued paper trade confirmations mailed out days after trades purportedly occurred. It was well known in the securities industry that Madoff was purportedly a pioneer in electronic over-the-counter trading mechanisms, but in the IA Business, Madoff provided his customers with only paper information. Madoff issued delayed paper tickets to hide the fact that he was backdating his trades. Madoff forged these phony confirmations already knowing the movements of the market. 46

48 Pg 48 of Madoff s use of paper confirmation sent days after the trades took place should have alerted ABN/RBS of the potential for fraud at BLMIS F. ABN/RBS Had Access to BLMIS Customer Statements and Trade Confirmation Information Showing Significant Trading Anomalies 172. By virtue of its unique access to BLMIS account statements and trading activity, ABN/RBS should have seen numerous trading anomalies that were red flags of potential fraud at BLMIS Furthermore, correspondence between Tremont and ABN/RBS shows not only did ABN/RBS receive monthly BLMIS customer statements and trade confirmation information, but it actively monitored this information. Specifically, on September 13, 2006, an ABN representative in the UK ed Tremont s Darren Johnston requesting the August BLMIS brokerage statement for Portfolio Limited Fund, plus copies of any intervening transactions, so that we can start building our monitoring spreadsheet. Upon information and belief, ABN/RBS continued to receive copies of Portfolio Limited Fund s monthly BLMIS brokerage account statements through November 2008, as well as other information concerning Portfolio Limited Fund s alleged trading through BLMIS This monitoring should have revealed Portfolio Limited Fund s BLMIS account statements for August 2006 through November 2008 had the following irregular trading activity: 152 instances of purported option trades that exceed the daily market volume on the CBOE for identical option contracts; 76 purported option trades out of 82 total trades between August 2006 and November 2008 (or approximately 93%) settled outside the T+1 industry standard; 67 instances where the purported dividend transactions on BLMIS customer statements and ledgers have a dividend being paid on a different day than the payable date, which is the date the company mails out the dividend to the holder on record and the date when industry standards would dictate the dividend is paid; 47

49 Pg 49 of months in which multiple money market dividend payments occurred whereas typically money markets declare dividends (interest) daily and pay them monthly. If an entity transacts in a money market multiple times a month, that activity is tracked, the proper dividend is accrued for the days invested and paid at one time. These are instances where BLMIS customer statements showed a dividend was paid upon each sale of the money market fund; 1 month of negative returns in the 28 month period from August 2006 to November 2008, compared with 12 months of negative returns experienced by the S&P 100; 5 instances where the put was purchased prior to the sale (writing) of the call, whereas under the Split Strike Conversion Strategy the hedging process was designed to be substantially cost neutral, whereby the sale of the call would provide the capital for the purchase of the put. Purchasing the put prior to the sale of the call increased the amount of capital necessary to execute the hedge; and 2 instances of purported gains resulting from speculative, one-sided, options transactions that are inconsistent with Madoff s purported SSC strategy. These 2 transactions resulted in gains of approximately $10 million in Furthermore, when ABN/RBS began receiving monthly BLMIS statements and trade activity information for Broad Market, it should have identified the following activity indicating red flags of potential fraud during the period from November 2007 through November 2008: 184 purported option trades out of 190 total trades between November 2007 and November 2008 (or approximately 97%) settled outside the T+1 industry standard; 78 instances of purported option trades that exceed the daily market volume on the CBOE for identical option contracts; 29 instances where the purported dividend transactions on BLMIS customer statements and ledgers have a dividend being paid on a different day than the payable date, which is the date the company mails out the dividend to the holder on record and the date when industry standards would dictate the dividend is paid; 48

50 Pg 50 of 74 8 months in which multiple money market dividend payments occurred whereas typically money markets declare dividends (interest) daily and pay them monthly. If an entity transacts in a money market multiple times a month, that activity is tracked, the proper dividend is accrued for the days invested and paid at one time. These are instances where BLMIS customer statements showed a dividend was paid upon each sale of the money market fund; 0 months of negative returns in the 13 month period from November 2007 to November 2008, compared with 9 months of negative returns experienced by the S&P 100; 5 instances where the put was purchased prior to the sale (writing) of the call, whereas under the Split Strike Conversion Strategy the hedging process was designed to be substantially cost neutral, whereby the sale of the call would provide the capital for the purchase of the put. Purchasing the put prior to the sale of the call increased the amount of capital necessary to execute the hedge; and 2 instances of purported gains resulting from speculative, one-sided, options transactions that are inconsistent with Madoff s purported SSC strategy. These 2 transactions resulted in gains of over $20 million in ABN/RBS knew or should have known of these trading anomalies, any one of which was an indication of potential fraud at BLMIS. G. ABN/RBS Knew or Should Have Known BLMIS s Fee Structure Was Unusual 177. Additionally, ABN/RBS knew or should have known that the fee structure between Madoff and the Feeder Funds was atypical of the hedge fund industry and was a red flag of potential fraud at BLMIS. Unlike with most hedge fund managers and for all practical purposes the IA Business was run like a hedge fund Madoff did not charge investors any management or performance fees, which were standard in the hedge fund industry. Madoff purported to be satisfied with simply earning the trading commissions of 4 per share of stock and $1 per option traded. By not charging the typical hedge fund management and performance fees, Madoff allowed the Feeder Funds to charge those fees to their investors. The Feeder Fund 49

51 Pg 51 of 74 made hundreds of millions of dollars for essentially doing nothing more than bringing in new money to feed Madoff s Ponzi scheme Specifically, ABN was provided with the opportunity to visit Tremont s offices in Rye, New York on April 25, 2007, and review BLMIS related documents including, but not limited to, BLMIS s August 2006 Form ADV and BLMIS s October 2006 audited financial statements. These documents provided ABN/RBS with unique access to information identifying this red flag of possible fraud of BLMIS, as well as others. Specifically, BLMIS s August 2006 Form ADV showed that: 1. Madoff charged only commissions on executed transactions for his investment advisory services. 2. Madoff was not a registered investment advisor. 3. Madoff claimed in 2005 that he provided investment advisory services to zero clients. 4. BLMIS claimed it had $11,711,451,428 in assets under management for its advisory business, the entirety of which were in 23 discretionary accounts. 5. BLMIS executed, advised, and had custody of advisory clients cash, bank accounts and securities, and thus, specifically showed BLMIS s conflict of interest and lack of independence Other industry professionals with less access to information on Madoff than the Defendants realized that Madoff s highly unusual fee structure was a serious red flag of possible fraud. For example, London due diligence firm Albourne Partners ( Albourne ) recognized that by not charging management or performance fees for his services, Madoff left hundreds of millions of dollars of money on the table each year. Identifying this as a red flag of possible fraud, Albourne urged its clients to avoid Madoff-related funds. 50

52 Pg 52 of 74 H. ABN/RBS Knew or Should Have Known Madoff Employed a Strip Mall Auditor, Not Capable of the Necessary Auditing Functions for BLMIS 180. ABN/RBS knew or should have known that BLMIS was audited by Friehling & Horowitz CPAs P.C. ( F&H ), as they specifically requested the right to review BLMIS s October 2006 audited financial statements during ABN s April 25, 2007 visit to Tremont s offices in Rye, New York ABN/RBS also knew or should have known that Madoff's auditor was not legitimate and independent, nor reasonably capable of performing the required domestic and international auditing functions for Madoff. BLMIS, which had tens of billions of dollars under management, was audited not by one of the major audit firms, but by F&H, an accounting firm of three employees, including a secretary and a (semi-retired) certified public accountant living in Florida Had ABN/RBS used publically available resources to inquire into F&H, it would have found F&H s offices were located in a strip mall in suburban Rockland County, New York. The size and qualifications of F&H and the nature of the services they provided were also readily accessible to RBS through publically available sources ABN/RBS knew or should have known that all accounting firms that perform audit work must enroll in the American Institute of Certified Public Accountants ( AICPA ) peer review program. This program involves having experienced auditors assess a firm s audit quality each year. The results of these peer reviews are on public file with the AICPA. F&H never appeared on the public peer review list because Friehling had notified the AICPA he did not perform audits. F&H s absence on the list was another red flag of possible fraud at BLMIS A simple investigation would have confirmed F&H s inability to properly audit and certify BLMIS s accounting records. Such a simple investigation is exactly what Aksia, 51

53 Pg 53 of 74 LLC ( Aksia ), an independent hedge fund research and advisory firm, did when it sent an investigator to F&H s office. What Aksia discovered was a simple office with what appeared to be a few chairs, a reception desk, one office and a conference table. Further, F&H s neighbors told Aksia s investigator that the office did not have regular hours. Having determined that it was hardly a facility from which one would expect the auditor of a multi-billion dollar fund to operate, Aksia advised its clients against investing with BLMIS, Madoff or any of his feeder funds. I. ABN Knew or Should Have Known that Despite Trading Billions, BLMIS Showed No Market Impact 185. ABN/RBS also knew or should have known that Madoff s alleged trades could not be legitimately accomplished without any impact on the price of the securities bought and sold and without anyone in the industry knowing or even hearing about Madoff s alleged trading activity The SSC Strategy marketed by Madoff involved moving money into the market over the course of one or more days, and then selling off all of those securities over a similar time span. Throughout the years, tens of billions of dollars would have moved into and then out of the U.S. stock and options markets over the course of a few days, six-to-ten times a year. Sales of tens of billions of dollars of stocks in a short period of time would have resulted in decreased prices of those stocks, cutting into the alleged profits from the sales of such stock. Further, when Madoff exited the market, he claimed to have placed his customers assets in Treasurys or mutual funds invested in Treasurys. The movement of tens of billions of dollars in and out of the market should have materially affected the price of Treasurys ABN/RBS knew based on documents ABN received from Fairfield that as of April 2006, Fairfield Sentry had $4.7 billion in assets, of which at least 95%, or $4.465 billion, 52

54 Pg 54 of 74 was invested with BLMIS. Additionally, Tremont specifically told ABN that as of 2007, it had at least $3 billion invested in BLMIS. Together with the information reported on BLMIS s Form ADV, as discussed above, ABN/RBS knew BLMIS traded at least $7.465 billion for Tremont and Fairfield, and had at least $11.7 billion in assets under management for the IA Business The lack of any impact on the markets by Madoff s purported trading was yet another red flag of fraudulent activity at BLMIS that ABN/RBS was in the unique position to identify. J. ABN/RBS Knew Madoff Would Not Identify His Options Counterparties 189. ABN/RBS also knew or should have known of other red flags of fraudulent activity at BLMIS due to the absence of any of Madoff's purported OTC option counterparties and the lack of any evidence in the marketplace of anyone trading options with Madoff Once some customers questioned Madoff whether or not the volume of this options trading under the SSC Strategy was available on the CBOE, Madoff claimed he was trading options in the OTC marketplace where each transaction requires a private contract between the two parties. Madoff refused, however, to identify the options counterparties, and the trade confirmations did not identify them. By not disclosing the counterparties, Madoff prevented his clients from dealing directly with them. However, Madoff sometimes stated that the counterparties were 8-12 large European financial institutions Even if Madoff had actually transacted billions of dollars worth of OTC options trades with undisclosed European counterparties, those entities would have needed to hedge their risks by entering into other offsetting options or futures contracts. The most likely place to enter into such options contracts was the CBOE. ABN/RBS, however, never saw any evidence of Madoff s alleged options counterparties laying off their exposure to BLMIS s customers by 53

55 Pg 55 of 74 entering into opposite and offsetting options contracts on the CBOE because no such trades ever occurred ABN/RBS knew the inability to identify Madoff s alleged options counterparties was an issue of concern during ABN s 2006 due diligence to approve the offshore swap. ABN explicitly raised Madoff s refusal to identify his option counterparties as a concern to Tremont. Following this request, internal Tremont s indicate they were unable to provide any information or answers with respect to who Madoff s counterparties were, saying, I don t think we have much to offer on our administration process nor the option counterparty. This should have raised red flags of possible fraud. K. ABN/RBS Knew or Should Have Known BLMIS s Option Volume Exceeded the Total Options Available on the CBOE 193. ABN/RBS knew or should have known that BLMIS purported to allocate trades to all IA Business customers on a pro-rata basis, and that Tremont alone was a significant percentage of the total IA Business (in terms of assets under management). ABN/RBS also knew that Fairfield Sentry was another large percentage of the IA Business. ABN/RBS could estimate BLMIS s options trading volumes for all customers based on its knowledge of Tremont s and Fairfield Sentry s trading volumes Because Defendant ABN/RBS had special knowledge of Madoff s trading activity, ABN/RBS knew or should have known that the options trading volumes reported by BLMIS were impossible if exchange-traded. To implement the SSC Strategy, BLMIS purportedly purchased OEX options, which are traded on the CBOE. If ABN/RBS had performed minimal due diligence and checked the number of listed options in the BLMIS accounts for the Feeder Funds against the number of the same options actually traded on the 54

56 Pg 56 of 74 CBOE, it would have been abundantly clear that Madoff s claimed trading strategy was impossible due to market volume alone The options volumes reported by BLMIS to have been traded for the Tremont accounts alone would have exceeded the total options available on the CBOE nearly all of the time A chart displaying the options needed to hedge just Tremont s BLMIS investment is illuminating. The volume of OEX put options BLMIS purported to trade on behalf of Tremont (the red line) completely dwarfs the volume of OEX put options traded on the entire CBOE (the black line). 55

57 Pg 57 of As shown below, the volumes of OEX put options BLMIS purportedly traded on behalf of all its customers (the red line) reveals there was rarely, if ever, a time when BLMIS traded fewer OEX put options than were actually traded on the CBOE (the black line) As a part of a sophisticated financial institution, ABN/RBS also knew or should have known that there is always less liquidity in OTC markets than on exchanges. Accordingly, if Madoff s reported options volumes exceeded the CBOE s capacity, there was virtually no chance that the OTC market could support the options trading volumes that Madoff reported ABN/RBS also knew or should have known that trading options in the OTC market likely would have been more expensive than trading on the CBOE. A review of the Feeder Funds BLMIS account statements would have revealed that these costs did not appear on 56