The Trustee's Complaint Against JP Morgan Chase.
February 9, 2011
A few days ago, when I was just beginning to read the Trustee's complaint against JP Morgan Chase, I posted the fairly dramatic introduction to the complaint. Having now read the entire complaint, I would like to add a few comments.
The factual allegations of the complaint are essentially divided into three parts: facts related to JPMC's sale of so-called "structured products" that would put investors' monies into Madoff, facts related to the 703 account, which was the account into which and from which purported investment monies flowed, and loans made by JPMC. There were different JPMC groups and persons dealing with differing aspects, but the complaint says, and illustrates, that they were in touch with each other. Information, it seems, was not rigidly compartmentalized, but shared.
Of course, due to the heavy redaction which still exists in the complaint, especially of names, it can sometimes be a bit challenging to track what is going on or who was talking to whom, but still it all seems fairly comprehensible.
I shall not discuss the question of what was known by the developers and sellers of structured investment products, whose knowledge, if I understand the complaint, was at appropriate times passed on to JPMC people in charge of the 703 account and of loans. This knowledge was pretty much, or even entirely, of the same kinds of red flags first publicly revealed by Harry Markopolos and subsequently revealed to have been known by lots of people on Wall Street, though not to us innocent dupes. I speak here of such matters as concern, or potential concern, over the identity and competence of Madoff's auditor, over Madoff's refusal to be interviewed thoroughly or to permit thorough due diligence, over the fact that he self custodied and there was no way to know whether purported trades actually took place, over Madoff's refusal to name counterparties and funds' consequent lack of knowledge as to who their alleged counterparties were, over the fact that the business was operated at every level by members of Madoff's family, over the lack of knowledge of how Madoff secured his results and the inability of any experts on Wall Street to "reverse engineer" those results, and over a possible connection of feeders to Colombian drug gangs.
As well as the foregoing red flags that were widely known on Wall Street, there were some other points relating to Morgan's structured investments business. A Morgan executive was specifically told at lunch that there was a large cloud over Madoff because he was suspected of a Ponzi scheme. There also was concern because other investment schemes -- Refco and Petters -- had been exposed as Ponzi schemes, and, as has been said elsewhere, JPMC got sufficiently concerned about Madoff that it redeemed the money from its structured investments, taking a loss that would not have made sense but for its concerns. It also sought secrecy for this redemption from funds involved with its structured products -- which cannot have been a good sign; notified a British regulatory agency about its suspicions that Madoff was a fraud; and warned off its private bank customers from Madoff -- while continuing to service and make gazillions off the 703 account into which and from which we dupes were putting money and withdrawing what we thought were legitimate profits.
There equally are a raft of allegations regarding the 703 account, which started at Chemical Bank (my first checks went to Chemical), became part of Chase when Chase and Chemical merged, and became part of JPMC when Chase merged with J.P. Morgan to form JPMC. As said by Picard's lawyer, David Sheehan, the bank -- and therefore this account -- were critical to the fraud; without them, there could not have been a Ponzi scheme. The complaint's allegations regarding the 703 account are especially interesting to me for two reasons. One is that, as written here on June 16, 2010, JPMC and its predecessors had to know that, although the 703 account was the one used for Madoff's purported advisory business, no monies ever went out of it to pay brokers or others for securities or options bought by Madoff, and no money ever came into it from brokers or others to pay Madoff for securities or options sold by him. As was written on June 16th:
Chase and Morgan knew, in short, or assuredly should have known, that the account showed no transactions of the kind required by the investment advisory business that the account supposedly was servicing. They thus knew or certainly should have known -- probably since at least the mid or late 1980s -- that a fraud was in progress. Indeed, since there were no monies from securities dealers or options dealers being deposited in the account, yet investors were receiving monies from it, they certainly should have known, if they did not in fact know, that the exact nature of the fraud was that it was a Ponzi scheme. How else but through the operation of a Ponzi scheme, after all, could Madoff be paying billions of dollars to investors if he was not engaging in securities transactions from which he was making money that would have come into the account?
This point is made in Picard's complaint: I noticed it at least twice. E.g.:
Billions of dollars flawed through BLMIS' account at JPMC, the so-called "703 Account,' but virtually none of it was used to buy or sell securities as it should have been had BLMIS been legitimate." Para. 2.
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JPMC was aware that BLMIS was operating at least two businesses: a market making business and the IA Business. But the activity in the 703 Account did not match up with either of these enterprises. Para. 219.
If JPMC had believed Madoff was using the 703 Account for market making, the bank would have likely seen regular transactions with other brokerage firms with which BLMIS was trading. If Madoff had been using the 703 Account for the IA Business, JPMC would have seen billions of dollars leaving the 703 Account and going to purchase stocks and equities, and corresponding multi-billion dollar inflows as BLMIS sold those securities. In the interim, JPMC should have seen tens of billions of dollars -- nearly all of the IA Business's assets under management -- moved into T-bills, as that was part of BLMIS's purported investment strategy. Para. 220.
Instead, what JPMC saw was massive outflows of money that were in no way linked to customer accounts or stock and options trading. Money would come into the 703 Account as customers invested additional funds with BLMIS. An overwhelming majority of funds would then go directly back out to customers in the form of redemptions. Any balance that remained in the 703 Account was invested in short-term securities such as overnight sweeps, commercial paper, and certificates of deposit. Para. 221.