Hedge funds win ‘ring fence’ ruling
By Megan Murphy for the Financial Times, December 16, 2009
Hedge funds controlled by Goldman Sachs and GLG have won a vital court ruling over how billions of dollars of clients’ cash held by Lehman Brothers when the US investment bank collapsed should be distributed.
In a decision that may force other investment banks to review how they segregate client funds from their own accounts, the High Court in London on Tuesday ruled money that was not properly ring-fenced by Lehman’s European arm could not be claimed out of a $1bn pool controlled by the bank’s administrators.
While a victory for Goldman and GLG, whose money was properly separated, the decision means that several Lehman affiliates as well as other hedge fund clients will not be able to pursue about $3bn worth of claims against the pool.
The judgment is also a blow to the Financial Services Authority, the UK’s main markets regulator, whose rules on the segregation of client funds were found to be deficient in multiple areas.
Tuesday’s decision is only one in a series of legal disputes thrown up by the sudden demise of Lehman in September 2008, during one of the most complex insolvency cases in history.
PwC, the administrators of Lehman Brothers International Europe (LBIE), had asked the High Court for guidance on no fewer than 30 discrete issues about how rules governing the segregation of client money should have been applied.
Lehman was a leading provider of so-called prime brokerage services to the hedge fund industry, such as financing and clearing. When the bank went bust, those funds discovered billions of dollars had not been properly ring-fenced.
Mr Justice Briggs ruled LBIE fell “spectacularly short” of ensuring client money was not used by the firm for its own account, or that it would be returned to clients in full in the event of an insolvency.
“This shocking under-performance has occurred for a number of reasons,” Mr Justice Briggs said. “The first is that … LBIE failed to identify as client money, and therefore also failed to segregate, vast sums received from or on behalf of a significant number of its clients.”
Lehman affiliates and hedge funds whose money was not properly segregated, which include CRC Credit Fund and Claren Road, will be forced to pursue claims as unsecured creditors.
Separately, Briggs set a deadline for making claims on about $19bn in assets held on trust for March 19 in the hope the collapsed bank can begin to distribute it next year. The assets held in segregated client accounts are securities and money from assets collected after LBIE went into administration.