PRIME BROKER NOT LIABLE FOR HEDGE FUND’S FAILURE

The New York Supreme Court dismissed investor claims against a failed hedge fund’s prime broker for fraud, breach of fiduciary duty, and aiding and abetting the fund’s manager. The plaintiffs claimed that the prime broker damaged the plaintiffs by shorting thinly traded securities and thereby contributing to the fund’s collapse. The court opined that the plaintiffs failed to show any direct injury independent from the injury to the fund itself. The court also stated that the plaintiffs failed to show that the prime broker had a fiduciary relationship with the investors. The court dismissed the aiding and abetting claim because the prime broker’s short selling was counter to the fund manager’s interests.

OUR TAKE: The courts continue to reject claims by investors against third party service providers to failed hedge funds. In most cases, the courts maintain that the investors can only seek redress from the fund and its manager. However, the fund itself (or the investors through a derivative action) may be able to seek damages based on a breach of contract claim.

http://decisions.courts.state.ny.us/fcas/fcas_docs/2008jul/3006008742007002sciv.pdf