Kenneth Ira Starr was arrested in May 2010 for a fraudulent scheme he ran for about a year and through which he had been able to misappropriate over $9 million from his advisory clients.
According to the claim brought by the SEC against him, Starr prior to his arrest managed over $700 million through Starr Investment Advisors LLC on behalf of around thirty high net worth clients.
The scheme was made possible since Starr had power of attorney or signatory authority over many banks and investment accounts belonging to his clients. Furthermore, Starr had custody of some of his clients’ assets also he was not a qualified custodian. Moreover, certain clients’ assets were held in a physical form in a safe at Starr’s office.
Showing posts with label Fraud Cases. Show all posts
Showing posts with label Fraud Cases. Show all posts
2010/07/01
The financial crisis’s “Ponzi schemes” blowing effect
(Photo:Ponzi aka "Charles Bianchi" under arrest circa 1910)
The last financial crisis has had a stunning side effect in uncovering "Ponzi schemes".
In fact, in order to keep a "ponzi scheme" going, the investment "fraudster" needs only one thing: liquidity. As long as the amounts subscribed into the fund exceed the amounts withdrawn, the credulous investors will probably feel confident that they made a good investment decision. The liquidity crisis engendered by the financial crisis had the effect of destabilizing the good operation of some Ponzi schemes especially the ones who were offering short liquidity terms.
A search on the SEC website for the word "Ponzi" returned 294 litigation matches for the period between September 1st 2008 and June 30th 2010 compared to 144 matches for the preceding 20 months period. The matches do not always represent separate cases but the difference between the two numbers unquestionably demonstrates the positive effect of a liquidity crisis in blowing up "Ponzi schemes".
The last complaint of the SEC against an alleged ponzi schemer was filed on June 17th 2010 against Daniel Spitzer and the investment companies and funds he controlled (click here to read the full text of the complaint). It is worth noting that once again the victims are individual US citizens invested in an LP vehicle with no third party administration. The complaint does not explain why the different entities involved in managing the funds were not registered as investment advisers with the SEC despite the fact that they were supposedly managing around $100ml for 400 investors.
We are now 20 months after the collapse of Lehman Brothers which triggered the huge run to the bank experienced by so many "liquid" funds; it is fair to assume that most of the pure "historical Ponzi schemes" have now been uncovered. However, investors beware not to become too complaisant as fraudsters are always waiting for the right moment to catch you off-guard.
2010/06/30
Conflict of interest versus independence: the board of directors’ dilemma
If you are not yet convinced about the damages that a conflicted board of directors can cause to investors, I suggest you read the article "The Other Offshore Disaster" published in the New York Times.
The author comes back on some of the circumstances that led to the loss of around $1.6 billion in 2007 by investors in the Bear Stearns's hedge funds.
He demonstrates that the existing conflict of interest due to the tight working relationship between Walkers Global and Bear Stearns led the two "independent directors" of the fund to take wrong decisions at the detriment of the funds' investors.
The article also demonstrates the failure of Bear Stearns to spot unlawful trading by the portfolio manager which probably contributed to the massive loss.
The quality of the board of directors should be a top priority for hedge fund investors as I have already advocated numerous time in my blog. Directors are potentially in a privileged position to spot problems that investors will only be able to catch after it is too late.
The needed change in hedge funds corporate governance needs to be investors led, so please before you invest looks who are the individuals who may be the last rampart to keep you investment safe.
To read the New York Times Articles click here.
2010/03/18
Directors’ pedigree as a red flag
On February 17th, a US federal judge has ruled, in the Lake Shore Asset Management case, that investors will get back 40% of the $268ml losses they claimed.
Lake Shore was shut down in 2007 after federal authorities charged that it concealed $30 million in trading losses.
The fund claimed it lost around $130 million in the bankruptcy of Sentinel Management Group Inc.
The former chairman of Lake Shore is Laurence Rosenberg, who was chairman of the Chicago Mercantile Exchange from 1977 to 1979.
This story remembers me another hedge fund fraud case back in 2005, the name of the manager was Paul Estace and the fund was called Philadelphia or PAAM (not link to PAAMCO!).
The analogy between the two cases does not stop with their common strategy, commodity trading, or the type of fraud, concealment of trading losses. Both companies had also as director a former chairman of an exchange.
Laurence Rosenberg who was chairman of the Chicago Mercantile Exchange from 1977 to 1979, was a director at Lake Shore and John Wallace, who was the vice-chairman of the Philadelphia Stock Exchange, served on the board of PAAM.
In both cases, it is worth noting that investors recovered around 40% of their assets.
All too often Hedge Fund managers seek to attract investors' interest by having the "Hall of fame" sitting on their board. Investors should be conscious that the experience without the involvement is not even worth the few thousands dollar paid to a board member.
So please, new time you do a due diligence on a fund don't stop with the directors' pedigree but try to understand what they really do.
Now you know that investing in a fund which has a former chairman of an exchange on its board will not protect you from fraud but at least you will recover something!!!
2009/11/20
Hedge Fund shareholder activism: Is it really worth the game? The Dynamic Decisions case.
On November 12th, 2009, the U.K.’s Serious Fraud Office (“SFO”), an independent government department that investigates and prosecutes fraud and corruption cases, announced that it is probing the London-based, Dynamic Decisions Capital Management Ltd., after the matter was referred to it by the Financial Services Authority.
The SFO’s investigation is the last act in a death spiral scenario that started in March 2009 before the Grand Court of the Cayman Islands. Because of the lack of transparency of the administrative processes (or probes) used by the U.K and Cayman Islands authorities, in comparison to what can be achieved from the U.S. authorities, it is difficult to acquire details on what really happened. Thus, the apparent lack of information surrounding this case is fuelling speculation about what really happened and numerous are those who already want to see Alberto Micalizzi, Dynamic’s founder, join the hedge fund fraudster Hall of Shame. Alberto is denying all allegations and believes that investors will recover 100% of their money.
At HF Appraisal, we have a different outlook on the events which led to the involvement of the SFO in Dynamic’s story, and we will try to extrapolate on what really happened since mid-December 2008. The current case will also allow us to illustrate the funds’ shareholders legal strategy to force the winding up of the fund.
In order to understand the story, we need first to analyze the chronology of the events.
February 20th, 2009: Micalizzi sent a letter to the investors explaining that the firm scaled back its equity and options holdings in December and bought “fixed income instruments backed by solid assets”. According to the letter, settlement of those purchases would be delayed until February because of “credit market conditions”,
Last week of February 2009: Two investors complained to the fund, and the board hired the law firm Dechert LLP for an opinion on the oil-backed bond transaction.
February 27th, 2009: In another letter to the investors, the investment manager announced that investors’ withdrawals would be suspended and that Micalizzi resigned from the board of the master fund to avoid a conflict of interest. According to the investment manager, Micalizzi was barred by the board to speak to the investors thereafter.
March 13th, 2009: A conference call was organized between the funds’ shareholders and the board of directors. In this call, Humphrey Polanen, a former director of the funds, relayed Micalizzi’s message to investors that the fund had “substantial” losses last year and assets may have fallen to as low as $20 million, excluding illiquid assets according to a court document.
March 23rd, 2009: A petition was submitted by Zolfo Cooper, a restructuring firm, appointed by two investors in the two feeders funds, Strathmore Capital LLP, based in London, and Cadogan Management LLC of New York. The shareholders won their petitions for the nomination of a provisional liquidator on the feeder funds, but Dynamic Decisions investment manager opposed the request on the master fund.
March 26th, 2009: Humphrey Polanen resigned as a director.
April 2009: Grant Thornton LLP is named provisional liquidator.
May 22nd, 2009: Hugh Dickson and Stephen Akers, partners at Grant Thornton LLP, were named the fund’s official liquidators by the Grand court of Cayman Islands. The liquidators said they expect to organize a meeting of creditors within the next 28 days to report on their findings.
November 12th, 2009: The fund’s liquidators, Grant Thornton LLP, said they were investigating corporate bonds the fund bought late last year. On the same day, the SFO announced its investigation.
In the Cayman Islands, which are British territories, companies can be liquidated, according to the UK Government’s Insolvency Service, for the following reasons:
Members' voluntary liquidation (or members' voluntary winding up). This is done when the shareholders of a company decide to put the company into liquidation, and there are sufficient assets to pay all the debts of the company, i.e. the company is solvent.
Creditors' voluntary liquidation (or creditors' voluntary winding up). This is done when the shareholders of a company decide to put the company into liquidation, but there are not sufficient assets to pay all the creditors, i.e. the company is insolvent.
Compulsory liquidation (or compulsory winding up). This is done when the court makes an order for the company to be wound up (a “winding-up order”) on the petition of an appropriate person. If there is more than one director, all the directors must jointly present the winding-up petition. A single director cannot present a winding-up petition.
If you are a director or a shareholder and you are also a creditor of your company, you may wish to present a winding-up petition on the grounds that the company cannot pay its debts.
In a fund structure, shareholders become creditors of the fund has soon as they submit a redemption request and that the fund accepts this withdrawal. We can safely assume that the two investors, Strathmore and Cadogan, placed redemption orders and received confirmation, from the fund’s administrator PNC, before the fund announced on February 27th that redemptions were suspended. The fact that the two shareholders became creditors on that day and, in the eventuality of a liquidation (i.e. “winding-up”) of the company, they would have been placed in a preferential position, in the scheme of collocation, with respect to the other investors. In other words, being preferred to other claimants (i.e. investors), Strathmore and Cadogan would have a higher chance of receiving any payment from the proceeds of sale (i.e. liquidation of the fund).
One of the remaining conditions to wind-up a company is for a claimant to demonstrate that the fund was insolvent. In this connection, Strathmore and Cadogan alleged, in their petition, that the “[…] board had little information concerning the investment in bonds, and were not even sure if the bond were genuine”. The two investors also claimed that there was “[…] gross mismanagement and misfeasance”; thereby leaving the judge almost no choice but to appoint a provisional liquidator. The petition was further supported by a Dechert LLP report which cited “[…] vague concerns about one of the potential buyers [for the bonds] on the table”.
The resignation announcement of March 26th by Humphrey Polanen from the fund’s board is also puzzling since he is the one that indirectly triggered the liquidation process after his phone call with the fund’s investors on March 13th.
Thus, in April 2009, the Grand Court of the Cayman Islands appointed Grant Thornton as the provisional liquidator. The role of the firm, at this point, was to investigate the business to discover, protect and recover assets as well as produce a report to the court, which then decides whether or not to liquidate the company. In a statement dated May 25th, Grant Thornton announced that “[…] a number of allegations have been made as to the remaining asset value and the nature of the assets held, and the master fund has been unable to pay a number of large redemption requests”. Apparently, this statement does not bring anything new to the table, as the Grand Court had already decided on May 22nd to call for the liquidation of the funds and appoint the provisional liquidator for the task.
Today, almost 9 months after the suspension of the redemptions by the fund, the liquidator is still investigating the purchase of the oil-linked bonds and the investors are still waiting to see how much they will recover from their investments in the funds. Moreover, the existence of the fraud is yet to be demonstrated.
In sum, it appears that the forced liquidation strategy adopted by Strathmore and Cadogan is a good one, as it may enable them, as creditor, to recover their investments, especially if the fund has sufficient assets and the legal requirements of a winding-up order are satisfied. However, it seems that the investors’ action in court has not helped speed up the asset recovery process. We are surprised not to see more investors in the Hedge Fund industry use this legal action (or mechanism), especially following the wave of redemption suspensions announced at the beginning of the year.
The role of the board of directors in this kind of process will have to be investigated to see if they understand the implications of liquidation and if they took the proper decisions in either accepting or contesting a petition for liquidation.
No matter the issue, the Dynamic story appears to be strong testimony for implementing a board of directors with the necessary skills, experience and involvement to choose the best alternatives during a crisis and for the ultimate benefit of the shareholders. It appears, in the present case that all the processes seem to have escalated beyond anyone’s control and not necessarily for the benefit of the shareholders. We will have to wait longer to find out the outcome of this story, but for the time being the Dynamic case has assuredly, and perhaps unnecessarily, tarnished the already fragile reputation of the hedge fund industry.
Disclaimer: Hedge Fund Appraisal has not performed any due diligence on the funds mentioned in this article. All the information was collected from public sources, which have not been verified. Nor does this article constitute a legal opinion.
The SFO’s investigation is the last act in a death spiral scenario that started in March 2009 before the Grand Court of the Cayman Islands. Because of the lack of transparency of the administrative processes (or probes) used by the U.K and Cayman Islands authorities, in comparison to what can be achieved from the U.S. authorities, it is difficult to acquire details on what really happened. Thus, the apparent lack of information surrounding this case is fuelling speculation about what really happened and numerous are those who already want to see Alberto Micalizzi, Dynamic’s founder, join the hedge fund fraudster Hall of Shame. Alberto is denying all allegations and believes that investors will recover 100% of their money.
At HF Appraisal, we have a different outlook on the events which led to the involvement of the SFO in Dynamic’s story, and we will try to extrapolate on what really happened since mid-December 2008. The current case will also allow us to illustrate the funds’ shareholders legal strategy to force the winding up of the fund.
In order to understand the story, we need first to analyze the chronology of the events.
February 20th, 2009: Micalizzi sent a letter to the investors explaining that the firm scaled back its equity and options holdings in December and bought “fixed income instruments backed by solid assets”. According to the letter, settlement of those purchases would be delayed until February because of “credit market conditions”,
Last week of February 2009: Two investors complained to the fund, and the board hired the law firm Dechert LLP for an opinion on the oil-backed bond transaction.
February 27th, 2009: In another letter to the investors, the investment manager announced that investors’ withdrawals would be suspended and that Micalizzi resigned from the board of the master fund to avoid a conflict of interest. According to the investment manager, Micalizzi was barred by the board to speak to the investors thereafter.
March 13th, 2009: A conference call was organized between the funds’ shareholders and the board of directors. In this call, Humphrey Polanen, a former director of the funds, relayed Micalizzi’s message to investors that the fund had “substantial” losses last year and assets may have fallen to as low as $20 million, excluding illiquid assets according to a court document.
March 23rd, 2009: A petition was submitted by Zolfo Cooper, a restructuring firm, appointed by two investors in the two feeders funds, Strathmore Capital LLP, based in London, and Cadogan Management LLC of New York. The shareholders won their petitions for the nomination of a provisional liquidator on the feeder funds, but Dynamic Decisions investment manager opposed the request on the master fund.
March 26th, 2009: Humphrey Polanen resigned as a director.
April 2009: Grant Thornton LLP is named provisional liquidator.
May 22nd, 2009: Hugh Dickson and Stephen Akers, partners at Grant Thornton LLP, were named the fund’s official liquidators by the Grand court of Cayman Islands. The liquidators said they expect to organize a meeting of creditors within the next 28 days to report on their findings.
November 12th, 2009: The fund’s liquidators, Grant Thornton LLP, said they were investigating corporate bonds the fund bought late last year. On the same day, the SFO announced its investigation.
In the Cayman Islands, which are British territories, companies can be liquidated, according to the UK Government’s Insolvency Service, for the following reasons:
Members' voluntary liquidation (or members' voluntary winding up). This is done when the shareholders of a company decide to put the company into liquidation, and there are sufficient assets to pay all the debts of the company, i.e. the company is solvent.
Creditors' voluntary liquidation (or creditors' voluntary winding up). This is done when the shareholders of a company decide to put the company into liquidation, but there are not sufficient assets to pay all the creditors, i.e. the company is insolvent.
Compulsory liquidation (or compulsory winding up). This is done when the court makes an order for the company to be wound up (a “winding-up order”) on the petition of an appropriate person. If there is more than one director, all the directors must jointly present the winding-up petition. A single director cannot present a winding-up petition.
If you are a director or a shareholder and you are also a creditor of your company, you may wish to present a winding-up petition on the grounds that the company cannot pay its debts.
In a fund structure, shareholders become creditors of the fund has soon as they submit a redemption request and that the fund accepts this withdrawal. We can safely assume that the two investors, Strathmore and Cadogan, placed redemption orders and received confirmation, from the fund’s administrator PNC, before the fund announced on February 27th that redemptions were suspended. The fact that the two shareholders became creditors on that day and, in the eventuality of a liquidation (i.e. “winding-up”) of the company, they would have been placed in a preferential position, in the scheme of collocation, with respect to the other investors. In other words, being preferred to other claimants (i.e. investors), Strathmore and Cadogan would have a higher chance of receiving any payment from the proceeds of sale (i.e. liquidation of the fund).
One of the remaining conditions to wind-up a company is for a claimant to demonstrate that the fund was insolvent. In this connection, Strathmore and Cadogan alleged, in their petition, that the “[…] board had little information concerning the investment in bonds, and were not even sure if the bond were genuine”. The two investors also claimed that there was “[…] gross mismanagement and misfeasance”; thereby leaving the judge almost no choice but to appoint a provisional liquidator. The petition was further supported by a Dechert LLP report which cited “[…] vague concerns about one of the potential buyers [for the bonds] on the table”.
The resignation announcement of March 26th by Humphrey Polanen from the fund’s board is also puzzling since he is the one that indirectly triggered the liquidation process after his phone call with the fund’s investors on March 13th.
Thus, in April 2009, the Grand Court of the Cayman Islands appointed Grant Thornton as the provisional liquidator. The role of the firm, at this point, was to investigate the business to discover, protect and recover assets as well as produce a report to the court, which then decides whether or not to liquidate the company. In a statement dated May 25th, Grant Thornton announced that “[…] a number of allegations have been made as to the remaining asset value and the nature of the assets held, and the master fund has been unable to pay a number of large redemption requests”. Apparently, this statement does not bring anything new to the table, as the Grand Court had already decided on May 22nd to call for the liquidation of the funds and appoint the provisional liquidator for the task.
Today, almost 9 months after the suspension of the redemptions by the fund, the liquidator is still investigating the purchase of the oil-linked bonds and the investors are still waiting to see how much they will recover from their investments in the funds. Moreover, the existence of the fraud is yet to be demonstrated.
In sum, it appears that the forced liquidation strategy adopted by Strathmore and Cadogan is a good one, as it may enable them, as creditor, to recover their investments, especially if the fund has sufficient assets and the legal requirements of a winding-up order are satisfied. However, it seems that the investors’ action in court has not helped speed up the asset recovery process. We are surprised not to see more investors in the Hedge Fund industry use this legal action (or mechanism), especially following the wave of redemption suspensions announced at the beginning of the year.
The role of the board of directors in this kind of process will have to be investigated to see if they understand the implications of liquidation and if they took the proper decisions in either accepting or contesting a petition for liquidation.
No matter the issue, the Dynamic story appears to be strong testimony for implementing a board of directors with the necessary skills, experience and involvement to choose the best alternatives during a crisis and for the ultimate benefit of the shareholders. It appears, in the present case that all the processes seem to have escalated beyond anyone’s control and not necessarily for the benefit of the shareholders. We will have to wait longer to find out the outcome of this story, but for the time being the Dynamic case has assuredly, and perhaps unnecessarily, tarnished the already fragile reputation of the hedge fund industry.
Disclaimer: Hedge Fund Appraisal has not performed any due diligence on the funds mentioned in this article. All the information was collected from public sources, which have not been verified. Nor does this article constitute a legal opinion.
2009/11/13
The bad guy is not always on the investment side
During their due diligence, investors usually concentrate most of their efforts in investigating hedge funds’ investment manager. But in the light of the two following cases, the risk of fraud can also come from the fund’s back-office.
At the end of June this year, a hedge fund's chief operating officer has been charged with forging documents so he could steal $250,000 from one of the funds he managed. Prosecutors say Mark A. Focht of Suffern, N.Y., used a forged authorization form in April 2007 to take money from a bank account belonging to Pierce Diversified Strategy Master Fund.
This week, The CFO of New York hedge fund Boston Provident Partners has been arrested and charged with stealing more than $1.3 million from the firm. Ezra Levy has been hit with 11 counts of securities and wire fraud. According to federal prosecutors in New York, Levy transferred $726,000 from Boston Provident accounts to his own, and also sold shares of Atlas Energy from an account he controlled to the hedge fund at an inflated price, earning a $600,000 profit.
Segregation of duties between the front and the operations is a must but without the adequate checks and balances at the back office level a window of opportunity for fraudster remains open. The two cases advocate for an increase role of the funds’ administrator in providing an independent oversight on the fund’s operations.
At the end of June this year, a hedge fund's chief operating officer has been charged with forging documents so he could steal $250,000 from one of the funds he managed. Prosecutors say Mark A. Focht of Suffern, N.Y., used a forged authorization form in April 2007 to take money from a bank account belonging to Pierce Diversified Strategy Master Fund.
This week, The CFO of New York hedge fund Boston Provident Partners has been arrested and charged with stealing more than $1.3 million from the firm. Ezra Levy has been hit with 11 counts of securities and wire fraud. According to federal prosecutors in New York, Levy transferred $726,000 from Boston Provident accounts to his own, and also sold shares of Atlas Energy from an account he controlled to the hedge fund at an inflated price, earning a $600,000 profit.
Segregation of duties between the front and the operations is a must but without the adequate checks and balances at the back office level a window of opportunity for fraudster remains open. The two cases advocate for an increase role of the funds’ administrator in providing an independent oversight on the fund’s operations.
2009/05/04
Rogue traders are not found only in prop desk
The Financial Services Authority (FSA) has banned and fined Mr Loic Albert Antoine Montserret, a former portfolio manager at BlueCrest Capital Management Limited (BlueCrest), £35,000 for deliberately mismarking his positions in an attempt to avoid losing his job over losses he was making on his trading book according to an FSA’s press release dated April 29th, 2009.
According to the final notice, the FSA makes no criticism of BlueCrest in this notice. In fact, no harm was caused to the Bluecrest Credit fund’s shareholders since the misvaluation occurred only from April 22nd, 2008 to May 1st, 2008 and therefore no transactions (subscription/redemption) occurred based on the wrong price. As mentioned in the notice, at the end of each month, all the positions in the Fund are valued by an independent administrator. The misvaluation would have been probably caught by the administrator anyway.
Also it is the first case, I heard of, involving a price manipulation by a hedge fund’s trader it is for us a reminder that hedge fund are not very different from banks’ prop desk. The Kerviel case at Societe Generale is probably the most well-known but the banking history had other similar cases. The hedge funds are at a disadvantage compared to banks since they rarely have the resources to invest in expensive trading and risk systems that may detect this type of frauds (this was not the case at Bluecrest).
Investors have to investigate very closely the pricing policy used at hedge funds using OTC derivatives. The requirement for an independent pricing agent, at least for month end valuation, is mandatory. The investment manager should also have a strong internal pricing policy to ensure that he has a correct assessment of the risk in the fund portfolio.
According to the final notice, the FSA makes no criticism of BlueCrest in this notice. In fact, no harm was caused to the Bluecrest Credit fund’s shareholders since the misvaluation occurred only from April 22nd, 2008 to May 1st, 2008 and therefore no transactions (subscription/redemption) occurred based on the wrong price. As mentioned in the notice, at the end of each month, all the positions in the Fund are valued by an independent administrator. The misvaluation would have been probably caught by the administrator anyway.
Also it is the first case, I heard of, involving a price manipulation by a hedge fund’s trader it is for us a reminder that hedge fund are not very different from banks’ prop desk. The Kerviel case at Societe Generale is probably the most well-known but the banking history had other similar cases. The hedge funds are at a disadvantage compared to banks since they rarely have the resources to invest in expensive trading and risk systems that may detect this type of frauds (this was not the case at Bluecrest).
Investors have to investigate very closely the pricing policy used at hedge funds using OTC derivatives. The requirement for an independent pricing agent, at least for month end valuation, is mandatory. The investment manager should also have a strong internal pricing policy to ensure that he has a correct assessment of the risk in the fund portfolio.
2009/04/29
Westgate Capital Management LLC
This post is the first under the label "Fraud Cases". In that section of the blog, I will look closely at fraud cases,past or current, involving hedge funds. The idea is not to provide a listing of cases but to look beyond the facts in order to understand what went wrong and to provide to you usefull tips on how this type of fraud could have been identified. I will try to avoid the pitfall of being "smart after the facts" and concentrate on obvious red flags.
James Michael Nicholson established his company, Westgate Capital Management LLC, in late 1999 to manage several hedge funds following a long/short equity strategy. According to the SEC the fraudulent scheme started in 2004 and the total loss to investors could be as high as $150 million.
The indictment, filled in April 23rd, 2009 describes the following fraudulent acts:
James Michael Nicholson (CRD #1876182, Registered Represen tative, Stony Point, New York)
submitted a Letter of Acceptance, Waiver, and Consent in which he was barred from association with any NASD member in any capacity. Without admitting or denying the allegations, Nicholson consented to the described sanction and to the entry of findings that he furnished the NASD with a false and misleading response to a request for information and failed to respond to NASD requests for information. (NASD Case #C9B000043)
Entrusting your assets with a person that has been "barred from association with any NASD member" is certainly involving some risks!
WESTGATE ALPHA FUND, LTD.
WESTGATE ALPHA MASTER FUND, LTD.
WESTGATE OPPORTUNITY FUND, LTD.
WESTGATE OPPORTUNITY MASTER FUND LTD.
Only the Westgate Opportunity Master Fund Ltd. was named as a relief defendant in the SEC's complaint. Therfore, it seems like no assets was invested by offshore investors. Nicholson created those entities in 2006. The master feeder structure employed is used to aggregate in one portfolio the assets from a US onshore fund and an offshore fund.
In conclusion, I believe that enough red flags should have been identified, through an appropriate due diligence, to deter any investor from investing in any of the Westgate suite of funds.
"No short cut. Due diligence is the only way to protect your assets"
James Michael Nicholson established his company, Westgate Capital Management LLC, in late 1999 to manage several hedge funds following a long/short equity strategy. According to the SEC the fraudulent scheme started in 2004 and the total loss to investors could be as high as $150 million.
The indictment, filled in April 23rd, 2009 describes the following fraudulent acts:
- Misrepresentation to prospective investors through false and misleading materials
- Misrepresentation orally to current and prospective investors
- Misrepresentation through creating a fictitious accounting firm
- Misrepresentation through the alteration of brokerage statements for Westgate Capital accounts
- Misappropriation of clients assets
The savvy investor should have identified the following red flags:
Background Check. Without hiring an investigation firm, any investor should have detect the following information. In the NASD Notice to Members-Disciplinary Actions of February 2001, available on the Financial Industry Regulatory Authority (FINRA) website, you can read:
James Michael Nicholson (CRD #1876182, Registered Represen tative, Stony Point, New York)
submitted a Letter of Acceptance, Waiver, and Consent in which he was barred from association with any NASD member in any capacity. Without admitting or denying the allegations, Nicholson consented to the described sanction and to the entry of findings that he furnished the NASD with a false and misleading response to a request for information and failed to respond to NASD requests for information. (NASD Case #C9B000043)
Entrusting your assets with a person that has been "barred from association with any NASD member" is certainly involving some risks!
Fake accounting firm. James Nicholson established in 2008 a fake accounting firm, called Havener and Havener. He personally set up this front at 49 East 41 st Street, New York, through a virtual office arrangement, using his own telephone numbers and driver's license. A simple check with the New York State's Division of Corporations would have revealed that such company does not exist. Futhermore, The American Institute of Certified Public Accountants, which monitors most firms in the US that audit private companies, does not count Havener and Havener amongst its members according to the institute's public files available on their website.
Too good Too be true.According to the Westgate Growth L.P. track record published in the SEC's complaint the fund exhibited, for the period October 1999-December 2007, a cumulative return of 487.14%, a compound anualized return of 23.93% and a monthly volatility of 2.93%. For the same period, the S&P 500 had a cumulative return of 31.07%, a compound annualized return of 3.33% and a monthly volatility of 4.01%. Furthermore, the fund's track record exhibits a strong auto correlation which is sometimes the proof of some price manipulation.
Altered brokerage statements. In the absence of an independent administrator, as it is often the case for US onshore hedge funds, the investors must check the fund's level of assets directly with the custodians. Nicholson would have not given direct access to the fund's custodians to current and prospective investors. This behaviour would have raise a strong flag against an investment in the funds.
According to the following information, it seems that Nicholson thought to expand his scheme to investors outside the US. In fact, I found that the following funds are registered as Professional Funds with the British Virgin Islands Financial Services Commission:WESTGATE ALPHA FUND, LTD.
WESTGATE ALPHA MASTER FUND, LTD.
WESTGATE OPPORTUNITY FUND, LTD.
WESTGATE OPPORTUNITY MASTER FUND LTD.
Only the Westgate Opportunity Master Fund Ltd. was named as a relief defendant in the SEC's complaint. Therfore, it seems like no assets was invested by offshore investors. Nicholson created those entities in 2006. The master feeder structure employed is used to aggregate in one portfolio the assets from a US onshore fund and an offshore fund.
In conclusion, I believe that enough red flags should have been identified, through an appropriate due diligence, to deter any investor from investing in any of the Westgate suite of funds.
"No short cut. Due diligence is the only way to protect your assets"
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