The Madoff case

Eleven months after the discovery of the fraud committed within the US-American entity Bernard L. Madoff Investment Securities (“BMIS“), the CSSF wishes to inform on the status of its interventions with the Luxembourg entities affected by the “Madoff case”. The CSSF took action, in accordance with its legal missions, at three levels:

  • In December 2008, the CSSF first analysed the potential effects of the case on the financial stability of entities under its supervision and of the financial sector in its entirety (cf. CSSF press releases of 22 December 2008, 2 January 2009 and 23 January 2009).
  • At the same time, the CSSF, under its prudential supervisory powers, opened investigations into those supervised Luxembourg entities concerned with the Madoff case. During its inquiries, the CSSF at first prioritised the examination of the quality of the general administrative organisation and of the internal and external control of the supervised entities in order to ensure, generally, the protection of all investors which entertained business relations with these entities. It was the CSSF’s role, in its capacity as prudential supervisory authority, to detect any potential violations by the different parties and service providers of their respective legal duties. In particular, the CSSF conducted inquiries relating to the different service providers (cf. CSSF press releases of 25 February and of 27 May 2009). In this context, the CSSF did not limit its investigations to those entities which acted on behalf of the UCIs directly impacted by the Madoff affair at the time of its breakout, but extended its inquiry to those entities which had been involved with the structure of these UCIs since they were set up.
  • Furthermore, the members of the administrative, management and supervisory bodies and the shareholders or associates of a supervised entity shall at any given moment prove their professional repute to the CSSF. Thus CSSF examines in particular whether the directors or members of the board of directors of each implicated supervised entity personally produced evidence of their professional repute in the course of their duties. A multitude of procedures were opened in this context. The investigations relating to natural persons fall under the CSSF’s duty of professional secrecy and the result of such investigations will in principle not be communicated to the public.

In accordance with general principles of Luxembourg law, the CSSF, in its capacity as public supervisory authority, has therefore taken all necessary administrative measures with regard to the supervised entities concerned and their respective directors. However, the final decision regarding contractual liability between private parties can only be taken conclusively by a competent Luxembourg court. Hence, in accordance with the principle of separation of powers, the competence of deciding on the civil liability of an entity towards individual investors (including tort, damage suffered and their causal link) lies exclusively within the power of the judiciary and therefore of the courts with civil and commercial jurisdiction.

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In line with the above, the CSSF’s investigations as regards prudential supervision included HSBC Securities Services (Luxembourg) S.A. (“HSSL“) in order to establish the nature and degree of responsibility of this entity in connection with the fund HERALD (Lux), incorporated on 18 February 2008 and registered on the official list of the Luxembourg undertakings for collective investment in accordance with Article 94(1) of the law of 20 December 2002. It should be noted, in this context, that HSSL acted as depositary bank and central administration for HERALD (Lux). It has to be added that Bank Medici AG, a credit institution set up under Austrian law, from which Finanzmarktaufsicht (FMA), the Austrian supervisory authority, withdrew its authorisation on 28 May 2009, had been appointed sponsor (promoteur) and investment manager of HERALD (Lux). The investment company HERALD (Lux) qualifies as a so-called self-managed investment company given the fact that it had not appointed a management company within the meaning of article 27 of the law of 20 December 2002. The company has been in judicial liquidation since 2 April 2009 (cf. CSSF press release of 15 April 2009).

In relation to its examination of the different responsibilities involving HERALD (Lux), the CSSF completed its first investigations on 9 March 2009 with an on-site inspection at HSSL’s premises. Following its analysis of the documents and information received by HSSL, the CSSF took the following decision towards HSSL on 17 November 2009:

« In accordance with article 59 of the Law of 5 April 1993 and pursuant to Circular IML 91/75 as well as to the Law of 20 December 2002, the Commission, while noting positive and satisfactory elements in existing procedures, orders HSSL to continue to review and complete the necessary internal rules and relevant forms in order to fulfil all the tasks relating to its function of depositary bank of a Luxembourg UCI in accordance with the Law of 20 December 2002 and with Circular IML 91/75 within a period of three months, specifically as regards: (i) its duty to request all specific and necessary responses from Luxembourg UCIs for which HSSL acts as depositary bank and, in case of questions relating to the structure actually set in place and the role potentially taken on in practice by sub-custodians or other correspondents at different levels of this structure and (ii) its obligations of “due diligence” within the HSBC group, by providing exact information in particular as regards the duties exercised by HSSL in Luxembourg or those carried out by a different group company. Furthermore, the Commission orders HSSL to, within a period of three months, continue to review and, where appropriate, complete on a case by case basis its process of liquidation of the transactions and more specifically to prove that the procedures and means in place enable an independent and objective reconciliation of the securities held with sub-custodians or other correspondents.

The Commission points out that HSSL will have to participate in the indemnification of damages in case it breached contractual obligations of a depositary bank under Luxembourg law, without prejudice to a possible court decision. The Commission emphasises that it falls exclusively to the courts and tribunals of the judicial order to decide whether HSSL committed a civil tort which would oblige it to contribute, together with all other persons held liable, to the indemnification of the damages. »

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Finally, as regards the three Luxembourg investment companies affected by the Madoff case and currently in judicial liquidation (the “Sicav“, cf. CSSF press releases of 15 April 2009 and of 13 May 2009), the CSSF wishes to recall and specify the following points:

  • During an authorisation process, the CSSF approves a UCI’s incorporation documents, i.e.: the prospectus and the articles of incorporation or the management regulations of the UCI in question. In accordance with the law of 20 December 2002 relating to undertakings for collective investment, a UCI’s prospectus has to contain all the necessary information for an investor to reach a properly informed decision on the proposed investment. Internal documents which merely govern the practical terms and conditions between professionals (such as operating memoranda) have to comply with the contents of the approved and published prospectus and cannot deviate therefrom. These internal documents are not submitted to the CSSF.
  • The documents submitted to the CSSF in the framework of the authorisation procedure for each of the three Sicav,1 on the basis of which they were registered on the official list of UCIs, included no reference neither to the identity of BMIS nor, more importantly, to the multiplicity of functions carried on de facto by one entity. Between the launch of the various Sicav and the breakout of the Madoff affair in December 2008, the CSSF was never informed in a transparent manner, by the professionals involved, of the structure actually set in place nor of the role played in practice by BMIS at different levels of this structure.


1 As regards the sicav Luxembourg Investment Fund which contained multiple compartments, this applies equally to the authorisation procedure of the sicav itself and that of the relevant compartment, US Equity Plus, which was set up at a later stage. At the time of their registration on the official list of UCIs, both Luxalpha Sicav and Herald (Lux) had a single compartment and no new compartment had been set up within their structures until their judicial liquidation.