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Discursive Comments On The Oral Argument In The Court of Appeals In The Madoff Case On March 3, 2011. Part 3

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Lawrence Velvel
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            Judge Raggi seemed unable to accept Sheehan's argument, saying that "Even the government of the United States, the SEC thinks it's the current value of the money, not just what they put in 30 years ago."   (Tr. 53.)   Sheehan contested this position, saying "I don't know if I agree with that.   I think it's only what they put in.   If in fact it was never invested, if in fact there's no profits, no transaction, how did the fund grow?   Where does it come from?"   (Tr. 53.)   Judge Raggi responded "That the injury from the fraud, is that if the individuals had known it wasn't going to be invested, they would have put it somewhere else and hoped to profit from it."   (Tr. 53.)   Sheehan's response was that this is a general creditor claim.   (Tr. 53.)   The answer put him in the contradictory position of arguing on the one hand that the broker would not owe the victims, and would have no obligation to pay them, the fake profits, but that there is a claim for fake profits that should be leveled against the general estate.

 

            Sheehan then undertook a more elaborate explanation of his position.   He said the Trustee is trying "to recover the monies that belong in the [customer property] fund" because it had been "other people's money."   (Tr. 53.)   For example, from Picower they got "$5 billion . . . that wasn't profits . . . . Mr. Picower had "$5 billion of other customers' money, and he gave it back."   (Tr. 54.)   Once the Trustee gets back about $20 billion and pays it out, everyone will have received their principal back and all will be on an "equal footing."   (Tr. 54.)

 

            The Trustee, he said, has instituted suits to "recover not just the $20 billion but the damages" also.   (Tr. 55.)   The hope is that there will then be a "general creditor fund" and "then, but only then" "all of these appellants here will have the opportunity . . . to participate."   This, said Sheehan, "is the only reasonable construction of the statute, it's the only reasonable exercise of discretion."   (Tr. 55.)   "Anything short of that," he said, "leads to the absurd result" Judge Raggi had alluded to.   (Tr. 56.)  

 

            In the foregoing colloquy Sheehan took the position that the only reasonable position is to use CICO because it would be absurd for people who have already received back their principal or more to participate in customer property when there are those who have not yet gotten back what they put in.   This position has in effect been extensively discussed and refuted previously in connection with what Congress intended, small investors' necessities for living, and the fact that under CICO most of the money will go to the very rich.   To me, as indicated before, it is Sheehan's position that is ridiculous because ignores all the dynamics of life and economics except one -- how much cash did a person put in and take out -- and it thereby destroys Congressional intent.

 

            Sheehan also argued -- amazingly, I think -- that Madoff himself would have owed defrauded investors nothing except repayment of their cash.   But Sheehan contradicted himself by saying there would be a fraud claim against Madoff for the fake profits shown on the investor's statement.   At least one judge seemed to be incredulous at Sheehan's claim that Madoff would have been obligated to victims only for their cash-in, and Sheehan appeared to me to backpedal defacto by admitting that victims would have a fraud claim against the broker for lost profits damages, a claim he says for some reason that they can recover here only out of the general estate, not customer property.

 

            As well Sheehan initially took the position that what the Trustee was seeking from people whom he has or will sue was simply the amount they received in other people's money (rather than) damages for failing to put a stop to a fraud they should have realized was occurring or which they should have been aware was possible and should have investigated).   This strikes me -- and I think one or two others with whom I regularly discuss matters -- as possibly a bizarre false claim and, were it a true claim, as very questionable.   Though the Trustee has said he has sued some malefactors only for what they received in other people's money, has he not -- as Sheehan subsequently explicitly admitted (Tr. 55) -- also sued various huge institutions for damages for being complicit in a fraud because they ignored red flags?   This makes Sheehan's initial explanation to the Court quite misleading.  

 

            At this point Judge Leval asked Sheehan what SIPC would do in a hypothetical situation in which a broker gambled away some investors' money, so it is no longer there, but other people's money was legitimately invested and there are securities and cash in their accounts.   Sheehan said the people with cash and securities in their accounts would get this back, and the others would get a SIPC advance.   (TR. 57-58.)   But in Madoff the whole thing is a Ponzi scheme, and people who did not get their principal out are getting advances and will receive customer property.   They are getting "priority" but this is "not going to work" if money is also given to people who did withdraw more than their principal.   (Tr. 59.)   Why this would not work when the Trustee has recovered ten billion dollars already and may recover tens or scores of billions more was not explained.   Nor was this question asked.   To me Sheehan's claim of nonavailability in the Madoff case sounds dubious.

 

            Judge Leval then asked, "How do you reconcile it with the obligation of the debtor . . . if the debtor owes each customer what is on their statement, what the SIPA statute speaks of is the obligation of the debtor, that the Trustee shall promptly discharge all the obligations of the debtor."   (Tr. 59.)   Sheehan's reply was that this is "why there is the [books and records provision].   You can't just use the statement."   (Tr. 59.)   To which Judge Leval said, "But you don't dispute that those statements represent the obligation of the debtor?"   (Tr. 60.)   Sheehan replied that "No, I do dispute that.   I think they are one piece of evidence that evidences the obligation of the debtor.   That's it, one piece, one of many, all of which we have to look at.   We have to look at the entire books and records.   This Trustee is mandated by this statute to do a complete and thorough investigation.   That's what he's done.   And that complete and thorough investigation yielded the truth that what we have here is no trades, no profits."   (Tr. 60.)  

 

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Lawrence R. Velvel is a cofounder and the Dean of the Massachusetts School of Law, and is the founder of the American College of History and Legal Studies.
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