SECURITIES INVESTOR PROTECTION CORPORATION 1667 K …...AARON BLECKER, et al., Appellants, v. IRVING H. PICARD, Trustee for the Liquidation of Bernard L. Madoff Investment Securities

SECURITIES INVESTOR PROTECTION CORPORATION 1667 K St., NW, Suite 1000 Washington, D.C. 20006 Telephone: (202) 371-8300 JOSEPHINE WANG General Counsel KEVIN H. BELL Senior Associate General Counsel for Dispute Resolution NATHANAEL S. KELLEY Associate General Counsel UNITED STATES DISTRICT COURT SOUTHERN DISTRICT OF NEW YORK

SECURITIES INVESTOR PROTECTION CORPORATION,

Plaintiff-Applicant, v.

BERNARD L. MADOFF INVESTMENT SECURITIES LLC,

Defendant.

Adv. Pro. No. 08-01789 (SMB) SIPA LIQUIDATION (Substantively Consolidated)

In re: BERNARD L. MADOFF,

Debtor.

Chapter 7 Case No. 09-11893

Case 1:18-cv-07449-PAE Document 19 Filed 12/14/18 Page 1 of 31

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BRIEF FOR INTERVENOR SECURITIES INVESTOR PROTECTION CORPORATION

AARON BLECKER, et al., Appellants, v. IRVING H. PICARD, Trustee for the Liquidation of Bernard L. Madoff Investment Securities LLC, Appelle.

Appeal No. 18-cv-07449 (PAE)


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CORPORATE DISCLOSURE STATEMENT

Pursuant to Rule 8012 of the Federal Rules of Bankruptcy Procedure,

Intervenor Securities Investor Protection Corporation certifies that it has no

corporate parents, affiliates, and/or subsidiaries that are publicly held.


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TABLE OF CONTENTS PAGE

CORPORATE DISCLOSURE STATEMENT .......................................................... i

STATEMENT OF ISSUES ....................................................................................... 1

STATEMENT OF THE CASE .................................................................................. 2

SUMMARY OF THE ARGUMENT ........................................................................ 7

STANDARD OF REVIEW ....................................................................................... 8

ARGUMENT ............................................................................................................. 8

I. Claimants ratified the PW Transactions ................................................ 8

II. Claimants cannot sustain their burden of proof .................................. 14

III. The doctrine of in pari delicto does not bar the Trustee’s determination of customer claims in accordance with SIPA .............. 19

IV. The Federal Rules of Evidence apply in a SIPA liquidation .............. 20

CONCLUSION ........................................................................................................ 22

CERTIFICATE OF COMPLIANCE WITH RULE 32(a) ...................................... 23


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TABLE OF AUTHORITIES

CASES: PAGE

In re Adler Coleman Clearing Corp., 198 B.R. 70 (Bankr. S.D.N.Y. 1996) ............................................................ 10 In re Adler Coleman Clearing Corp., 204 B.R. 111 (Bankr. S.D.N.Y. 1997) .............................................. 15, 16-17 Altschul v. Paine, Webber, Jackson & Curtis, Inc., 518 F. Supp. 591 (S.D.N.Y. 1981) ................................................................ 14 Appleton v. First Nat’l Bank of Ohio, 62 F.3d 791 (6th Cir. 1995) .............................................................................. 9 In re A.R. Baron Co., Inc., 226 B.R. 790 (Bankr. S.D.N.Y. 1998) .......................................................................... 15 In re Bernard L. Madoff Inv. Sec. LLC, 654 F.3d 229 (2d Cir. 2011) cert. dismissed, 132 S. Ct. 2712, and cert. denied, 132 S. Ct. 24 and 133 S. Ct. 25 (2012) ............................ 4, 9 CarVal Inv’rs UK Ltd. v. Giddens (In re Lehman Bros., Inc.), 506 B.R. 346 (S.D.N.Y. 2014), aff’d, 791 F.3d 277 (2d Cir. 2015) ................................................................................................. 16 CarVal UK Ltd. v. Giddens (In re Lehman Bros., Inc.), 791 F.3d 277 (2d Cir. 2015) .......................................................................... 21 In re C.J. Wright & Co. Inc., 162 B.R. 597 (Bankr. M.D. Fla. 1993) ..................... 17 In re John Dawson & Assocs., Inc., 289 B.R. 654 (Bankr. N.D. Ill. 2003) ............................................................ 10 In re Klein, Maus & Shire, Inc., 301 B.R. 408 (Bankr. S.D.N.Y. 2003) .................................................... 10, 16 In re Mason Hill & Co., Inc., 2004 WL 2659579 (Bankr. S.D.N.Y. Oct. 18, 2004) ........................ 10, 11, 12


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TABLE OF AUTHORITIES

cont. CASES: PAGE

Modern Settings, Inc. v. Prudential-Bach Secs., Inc., 936 F.2d 640 (2d Cir. 1991) .................................................................... 11, 12 Montes v. Manufacturers Hanover Trust Co., 440 N.Y.S.2d 22 (N.Y. App. Div. 1981) ....................................................... 12 Nat’l Union Fire Ins. Co. of Pittsburgh, PA v. Camp (In re Gov’t Sec. Corp.), 972 F.2d 328 (11th Cir. 1992) ....................................................................... 21 Omega Overseas Partners, Ltd. v. Griffith, No. 13-CV-4202, 2014 WL 3907082 (S.D.N.Y. Aug. 7, 2014) ................... 20 Picard v. JPMorgan Chase & Co. (In re Bernard L. Madoff Inv. Sec. LLC), 721 F.3d 54 (2d Cir. 2013) ...................................................................... 19-20 Pitheckoff v. Sec. Inv’r. Prot. Corp. (In re Great Eastern Secs., Inc.), 2011 WL 1345152 (S.D.N.Y. Apr. 5, 2011) ........................................... 10, 11 In re Primeline Secs. Corp., 295 F.3d 1100 (10th Cir. 2002) ................................. 15 Richardson Greenshields Secs., Inc. v. Lau, 819 F. Supp. 1246 (S.D.N.Y. 1993) .............................................................. 11 SEC v. Baroff, 497 F.2d 280 (2d Cir. 1974) ............................................................ 16 Sec. Inv’r Prot. Corp. v. Bernard L. Madoff Inv. Sec. LLC, Adv. Pro. No. 08-01789, 2018 WL 3617813 (Bankr. S.D.N.Y. July 27, 2018) ........................................................ 1, 6, 7, 8 Sec. Inv’r Prot. Corp. v. Bernard L. Madoff Inv. Secs. LLC, 496 B.R. 744 (Bankr. S.D.N.Y. 2013), aff’d, 779 F.3d 74 (2d Cir. 2015) .... 10 Sec. Inv’r. Prot. Corp. v. Bernard L. Madoff Inv. Secs. LLC, 515 B.R. 161 (Bankr. S.D.N.Y. 2014) .......................................................... 14


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TABLE OF AUTHORITIES cont.

CASES: PAGE

Sec. Inv’r Prot. Corp. v. Morgan, Kennedy & Co., 533 F.2d 1314 (2d Cir.), cert. den., 426 U.S. 936 (1976) ............................. 16 Sec. Inv’r Prot. Corp. v. Pepperdine Univ (In re Brentwood Securities, Inc.), 925 F.2d 325 (9th Cir. 1991) ................................................................... 15-16 Sec. Inv’r Prot. Corp. v. Stratton Oakmont, 229 B.R. 273 (Bankr. S.D.N.Y.), aff’d sub nom. Arford v. Miller, 239 B.R. 698 (S.D.N.Y. 1999), aff’d, 210 F.3d 420 (2d Cir. 2000) ......... 4, 16 Sec. Inv’r Prot. Corp. v. Wise (In re Stalvey & Associates, Inc.), 750 F.2d 464 (5th Cir. 1985) ......................................................................... 16 Stafford v. Giddens (In re New Times Secs. Servs., Inc.), 463 F.3d 125 (2d Cir. 2006) ...................................................................... 9, 16 U.S. Information Systems, Inc. v. Int’l Bhd. of Elec Workers Local Union Number 3, AFL-CIO, 2006 WL 2136249 (S.D.N.Y. Aug. 1, 2006) ................................................................................ 18 Valentine Transit, Inc. v. Kernizan, 594 N.Y.S.2d 180 (N.Y. App. Div. 1993) ..................................................... 12 Whalen v. Chase Manhattan Bank, N.A., 2000 WL 1801839 (S.D.N.Y. Dec. 7, 2000) aff’d, 14 F. App’x 120 (2d Cir. 2001) ........................................................... 12 Zerman v. Jacobs, 510 F. Supp. 132 (S.D.N.Y.), aff’d, 672 F.2d 901 (2d Cir. 1981) ................ 20


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TABLE OF AUTHORITIES cont.

STATUTES AND RULES: PAGE

Securities Investor Protection Act, as amended, 15 U.S.C. ' 78cc(b) ...................................................................................................................... 20 78eee(b)(4) ................................................................................................................. 3 78eee(d) ...................................................................................................................... 1 78fff(b) ..................................................................................................................... 21 78fff-2(b) ........................................................................................................ 3, 15, 20 78lll(2) .................................................................................................................... 8, 9 78lll(2)(B) .................................................................................................................. 9 78lll(4) ........................................................................................................................ 9 Exchange Act § 29(b) ......................................................................................................................... 20 Fed. R. Evid. 406 ............................................................................................................................ 18 1101(a) ..................................................................................................................... 21 1101(b) ..................................................................................................................... 21 PUBLICATIONS AND PERIODICALS:

Joseph M. McLaughlin, Jack B. Weinstein, Margaret A. Berger, 2 Weinstein’s Fed. Evid. § 406.03 (2d ed. 2014) .......................................... 18


This appeal arises in the context of a liquidation proceeding under the

Securities Investor Protection Act, 15 U.S.C. §§ 78aaa–78lll (“SIPA”). Under

SIPA § 78eee(d), the Securities Investor Protection Corporation (“SIPC”) is

deemed to be a party-in-interest as to all matters arising in a SIPA proceeding, with

the right to be heard on all such matters. SIPC submits this brief in opposition to

the appeal (“Appeal”) from the decision (the “PW Decision”)1 of the United States

Bankruptcy Court for the Southern District of New York (“Bankruptcy Court”),

regarding the treatment of transactions notated with “PW” on customer account

statements issued by Bernard L. Madoff Investment Securities LLC (“BLMIS” or

“Debtor”). SIPC joins Irving H. Picard, as trustee (the “Trustee”) for the

substantively consolidated liquidation proceedings of BLMIS under SIPA, and

Bernard L. Madoff (“Madoff”), in opposition to the Appeal and addresses briefly

herein issues raised by the Appellants regarding SIPA and claims in SIPA

liquidations. For the reasons stated below and in the Trustee’s brief, the

Bankruptcy Court’s PW Decision should be affirmed.

STATEMENT OF THE ISSUES

SIPC agrees with the Trustee’s statement of the issues on appeal and writes

separately to address the following issues:

1 Sec. Inv’r Prot. Corp. v. Bernard L. Madoff Inv. Sec. LLC, Adv. Pro. No. 08-01789 (SMB), 2018 WL 3617813, at *1 (Bankr. S.D.N.Y. July 27, 2018)


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1. Whether a brokerage client, who (i) acknowledged receipt of account statements over 10 years prior to the start of the liquidation and (ii) noticed certain disputed transactions on those account statements which represented debits from his account, ratified such transactions as debits?

SIPC respectfully asserts that the answer is yes.

2. Whether a claimant for customer protection in a SIPA liquidation has met the enhanced burden for allowance of a claim with regards to transactions in his account represented by a notation of “PW” where the trustee has proven that, as a general matter, a “PW” indicates that the brokerage firm sent a check to the client as a withdrawal from the account?

SIPC respectfully asserts that the answer is no.

3. Whether the doctrine of in pari delicto bars a SIPA trustee from enforcing customer agreements against claimants in the course of determining their claims?

SIPC respectfully asserts that the answer is no.

4. Are the Federal Rules of Evidence applicable to a SIPA liquidation?

SIPC respectfully asserts that the answer is yes.

STATEMENT OF THE CASE

For a full statement of the case, SIPC refers to and adopts the statement in

the Trustee’s brief. In order to address the limited issues in its brief, SIPC provides

the following background.

SIPC was created in 1970 under SIPA as a non-profit membership

corporation whose mission is to instill confidence in the securities market by

protecting investors against the disruptions caused by the failure of a broker-dealer.

In the liquidation of a broker-dealer under SIPA, the trustee works to return to

customers the investments held by the broker-dealer on their behalf. The value of a


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customer’s claim is determined by calculating a customer’s “net equity”—the

amount owed by the broker-dealer to the customer minus the amount owed by the

customer to the broker-dealer—based upon the broker-dealer’s books and records

or otherwise established to the satisfaction of the trustee. SIPA § 78fff-2(b).

On December 15, 2008, upon an application by SIPC, BLMIS, a securities

broker-dealer and member of SIPC, was placed in SIPA liquidation by order of this

Court. The Court appointed the Trustee and, consistent with SIPA section

78eee(b)(4), removed the liquidation proceeding to the Bankruptcy Court. The

Bankruptcy Court approved procedures for filing claims with the Trustee. In

accordance with SIPA, the procedures provided, among other things, for the

submission of claims to the Trustee, a determination by the Trustee of the claims,

satisfaction by the Trustee of allowed claims, and an opportunity for any customer

who disagreed with the determination of its claim to seek Bankruptcy Court

review.

Madoff infamously operated his brokerage firm, BLMIS, as a Ponzi scheme,

where investor withdrawals were funded by deposits from new investors. No

securities were purchased for customers’ accounts, and any securities positions and

resulting profit reflected on a customer’s account statements were purely fictitious.

Thus, “profits” in any customer account were invented by Madoff, who ascribed

backdated prices to fictitious securities positions. The only actual transactions, not


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manipulated by Madoff, consisted of cash deposits and withdrawals. Madoff never

maintained custody of customers’ investments; those investments were effectively

stolen as soon as they were deposited.

Within this context, the Trustee decided that reliance upon the fictitious

account statements for determining a customer’s net equity would be inappropriate

under SIPA. Instead, he determined each BLMIS customer’s net equity by using

the “Net Investment Method,” calculating the total deposits minus the total

withdrawals. The Bankruptcy Court and, on appeal, the Second Circuit Court of

Appeals approved the Trustee’s use of the “Net Investment Method,” rejecting the

position that a customer’s net equity should include fictitious profits generated on

paper by Madoff in furtherance of his Ponzi scheme. See In re Bernard L. Madoff

Inv. Sec. LLC, 654 F.3d 229, 238–39 (2d Cir. 2011) (the “Net Equity Decision”)

(“In this case, the Net Investment Method allows the Trustee to make payments

based on withdrawals and deposits, which can be confirmed by the debtor’s books

and records, and results in a distribution of customer property that is proper under

SIPA.”), cert. dismissed, 132 S. Ct. 2712, and cert. denied, 132 S. Ct. 24 and 133

S. Ct. 25 (2012).

The Trustee analyzed BLMIS’s books and records and third-party records in

order to identify the cash deposits into and withdrawals from BLMIS, as the only

unmanipulated transactions. In particular, the Trustee reviewed the periodic


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account statements issued by BLMIS to investors with accounts at the firm,

including the Appellants. The account statements issued by BLMIS to its account-

holders identified “transaction types” and “transaction descriptions.” Transaction

type notations included “PW” for profit withdrawal. Where BLMIS customer

statements indicated a “PW” transaction type, the amount of the transaction would

be debited on the account statement.

The Trustee determined that, based upon the BLMIS’s books and records, a

notation marked as “PW” (a “PW Transaction”) on a claimant’s account statement

indicated a cash distribution to that claimant in the form of a check. For the period

from December 1998 through the commencement of the liquidation in December

2008, the Trustee’s experts reconciled 99% of the PW Transactions to BLMIS

bank account records and to the bank account records of the recipients of the

transfers. AA114–116. Accordingly, a PW Transaction, as a profit withdrawal of

cash paid by BLMIS to the investor, reduced a customer’s net equity claim under

the “Net Investment Method.”

In accordance with the provisions of the Bankruptcy Court’s claims

procedures order, the Trustee issued and mailed to each claimant a determination

notice describing his disposition of the relevant claim and the basis for the same.

Certain claimants objected to the Trustee’s treatment of PW Transactions as cash

withdrawals, arguing that they never received any distributions from the PW


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Transactions and thus the PW Transactions should not reduce their net equity. For

example, in the case of the appellant Aaron Blecker, if the PW transactions on his

account statements are treated as cash withdrawals, his net equity is $0; if not, his

net equity would have been $577,350.33.

As in the case of Mr. Blecker, these claimants, however, produced no

evidence that they complained to BLMIS at any time prior to the commencement

of this liquidation about any of the PW Transactions. Yet each of the Appellants

entered into and signed a “Customer Agreement” with BLMIS which included a

paragraph requiring the customer to object in writing to the contents of an account

statement within ten days of receipt. See e.g., TA239–268; TA269–279.

After briefing and an evidentiary hearing (the “PW Hearing”), where it

admitted evidence from the Debtor’s books and records, third party records, expert

testimony, and the testimony of former BLMIS employees, the Bankruptcy Court

concluded, as an omnibus matter, that “a PW notation appearing in a monthly

statement supports the finding, in the absence of credible contrary evidence offered

by a claimant in that claimant’s case, that the customer received a cash distribution

in the amount indicated.” AA384; Sec. Inv’r Prot. Corp. v. Bernard L. Madoff Inv.

Sec. LLC, Adv. Pro. No. 08-01789 (SMB), 2018 WL 3617813, at *1 (Bankr.

S.D.N.Y. July 27, 2018). In the same hearing, the Bankruptcy Court additionally

tried Mr. Blecker’s individual objection to the denial of his claim and “conclude[d]


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that Mr. Blecker has waived any objection to the treatment of PW Transactions in

the Blecker Accounts as cash withdrawals, and additionally, has failed to sustain

his burden of proving the amount of his Blecker Claims.” AA385; PW Decision,

2018 WL 3617813, at *1.

This appeal followed.

SUMMARY OF THE ARGUMENT

The PW Hearing arose from challenges by a group of “customer” claimants,

including Mr. Blecker, to the decision by the Trustee, in applying the Net

Investment Method to compute net equity, to treat the PW Transactions as cash

withdrawals. Following the PW Hearing, the Bankruptcy Court upheld the

Trustee’s treatment of PW Transactions and, as to Mr. Blecker only, overruled his

objection. Mr. Blecker now challenges the Bankruptcy Court’s decision to overrule

his objection and deny his claim based upon, in part, his ratification of the PW

Transactions as cash withdrawals and his failure to meet his burden of proof for his

customer claim. The Bankruptcy Court’s holdings should be affirmed. As

discussed below, each claimant entered into an account agreement with BLMIS

that required the claimant to object in writing to any errors on an account statement

provided to the claimant by BLMIS. The same provision required the claimant to

make any such objection within ten days after receipt of the relevant statement.

Mr. Blecker does not deny receiving the relevant statements, and he provided no


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evidence of any written objection to any of those statements. He therefore ratified

the transactions in question as a matter of law.

Beyond ratification, claimants have the burden of proving their entitlement

to protection under SIPA as to each and every disputed transaction—in this case by

proving that they had entrusted funds to BLMIS and had not withdrawn those

funds from BLMIS as PW Transactions. As discussed in detail in the Trustee’s

brief and more briefly below, the PW Transactions are corroborated by BLMIS and

investor bank records. That evidence is sufficient to demonstrate the existence of a

corporate practice by BLMIS to debit customer accounts for PW Transactions and

send checks to those customers. Mr. Blecker has not rebutted this evidence, and the

Bankruptcy Court found Mr. Blecker’s own testimony to be incredible. AA415–

16; PW Decision, 2018 WL 3617813, at *14. As such, Mr. Blecker has not met his

burden of establishing his customer status.

STANDARD OF REVIEW

SIPC adopts the Trustee’s standard of review.

ARGUMENT

I. Claimants ratified the PW Transactions

“Customer” status under SIPA is contingent upon the entrustment of cash or

securities to the broker-dealer for the securities account of an investor for one or

more purposes identified in SIPA. See SIPA §§ 78lll(2) (2008) (defining a


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customer as a person who has a claim on account of securities received, acquired,

or held for the securities account of such person “with a view to sale, to cover

consummated sales, pursuant to purchase, as collateral security, or for purposes of

effecting transfer”) and 78lll(2)(B) (2008) (“The term ‘customer’ includes—any

person who has deposited cash with the debtor for the purpose of purchasing

securities”); see also, e.g., Net Equity Decision, 654 F.3d at 236 (“‘[T]he critical

aspect of the ‘customer’ definition is the entrustment of cash or securities to the

broker-dealer for the purposes of trading securities’” (quoting Appleton v. First

Nat’l Bank of Ohio, 62 F.3d 791, 801 (6th Cir. 1995) (emphasis added by Second

Circuit)); Stafford v. Giddens (In re New Times Secs. Servs., Inc.), 463 F.3d 125,

128 (2d Cir. 2006) (same). SIPA’s protection of customers includes coverage for

not only assets entrusted to and held by a broker-dealer but also assets that were

held by the broker-dealer and subsequently converted. See SIPA §§ 78lll(2) (2008)

(extending “customer” status to “any person who has a claim against the debtor

arising out of sales or conversions of such [custodied] securities”) and 78lll(4)

(2008) (including in “customer property” any customer cash or securities

“unlawfully converted” by the debtor).

Conversion, however, may be a basis for customer status only with respect

to property held in custody by the broker-dealer for a customer, and SIPA’s

“customer” provisions merely seek to restore to customers property held in custody


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for them by the broker-dealer. See, e.g., Sec. Inv’r Prot. Corp. v. Bernard L.

Madoff Inv. Secs. LLC, 496 B.R. 744, 759 (Bankr. S.D.N.Y. 2013), (noting that

“beyond including converted property as a customer claim, SIPA provides no

protection for any other losses caused by ‘conversion, fraud, or other broker

wrongdoing’”), aff’d, 779 F.3d 74 (2d Cir. 2015). Even then, customer relief under

SIPA is limited to the return of cash or securities held in custody by the broker-

dealer for the customer. It does not include damages for breach of contract. See id.

at 759 (“[I]t is well settled that claims are not protected under SIPA when they are

for ‘damages resulting from a broker’s misrepresentations, fraud or breach of

contract’” (quoting In re Klein, Maus & Shire, Inc., 301 B.R. 408, 421 (Bankr.

S.D.N.Y. 2003) (“Klein, Maus”)).

Unauthorized transactions by a broker-dealer in a customer account may

give rise to a customer claim under SIPA. See, e.g., Pitheckoff v. Sec. Inv’r Prot.

Corp. (In re Great Eastern Sec., Inc.), 2011 WL 1345152, at *4 (S.D.N.Y. Apr. 5,

2011) (“Great Eastern”); In re Mason Hill & Co., 2004 WL 2659579, at *5

(Bankr. S.D.N.Y. Oct. 18, 2004); In re John Dawson & Assocs., Inc., 289 B.R.

654, 662 (Bankr. N.D. Ill. 2003); In re Adler Coleman Clearing Corp., 198 B.R.

70, 75 (Bankr. S.D.N.Y. 1996). For this purpose, an unauthorized transaction by a

broker-dealer in a customer account is treated as a conversion of customer assets.

See, e.g., Mason Hill, 2004 WL 2659579, at *5; John Dawson, 289 B.R. at 662.


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Where a claimant subsequently ratifies an unauthorized transaction,

however, customer status is unavailable. See, e.g., Mason Hill, 2004 WL 2659579,

at *6. An investor ratifies an unauthorized transaction by acquiescing in it, and will

be found to have acquiesced if the investor knew the pertinent facts surrounding

the trade and manifested a clear intent to approve it. See, e.g., Great Eastern, 2011

WL 1345152, at *6; Richardson Greenshields Sec., Inc. v. Lau, 819 F. Supp. 1246,

1259 (S.D.N.Y. 1993) (“Richardson Greenshields”). Failure to object to a

transaction over a long period of time is compelling evidence of such intent. See

Great Eastern, 2011 WL 1345152, at *6; Richardson Greenshields, 819 F. Supp.

at 1259. Moreover, if the investor knew of the challenged transaction, the investor

bears the burden of demonstrating that this knowledge did not rise to the level of

ratification. See Richardson Greenshields, 819 F. Supp. at 1259.

Ratification may be deemed to have occurred as a matter of law if the

contract between a broker-dealer and an investor requires the investor to object in

writing within a specified period of time—usually ten days—to a transaction

reflected on an account statement, trade confirmation, or other communication

from the broker-dealer. See, e.g., Modern Settings, Inc. v. Prudential-Bach Sec.,

Inc., 936 F.2d 640, 645–46 (2d Cir. 1991); Great Eastern, 2011 WL 1345152, at

*6; Mason Hill, 2004 WL 2659579, at *6. Enforcement of these provisions

prevents the “cherry picking” of transactions by an investor after the fact and


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mitigates the prospect of an evidentiary vacuum in post-trade disputes between

investor and customer. See Modern Settings, 936 F.2d at 645–46; Mason Hill, 2004

WL 2659579 at *6. The Second Circuit explained this rationale in detail in Modern

Settings:

The purpose of the ten-day written complaint clause in the customer agreement is to require the customer to memorialize his or her complaint soon after receipt of the account statement rather than waiting to see if the trade is profitable. The writing requirement of the clause insures that unauthorized trading disputes are not relegated to “swearing contests” between broker and customer. For these reasons, broker-customer agreements requiring written notice of objection within a limited amount of time after the customer receives confirmation of the transaction generally have been enforced by courts.

936 F.2d at 645–46.

Mr. Blecker argues that this rationale should not apply to him because he

could not have been waiting to see if a PW Transaction was profitable, but his

argument is too narrowly focused. The same reasoning given in Modern Settings

applies with equal force to allegedly unauthorized account debits. Ratification is a

defense to an investor claim based upon such a withdrawal. Cf. Whalen v. Chase

Manhattan Bank, N.A., 2000 WL 1801839, at *3 (S.D.N.Y. Dec. 7, 2000)

(ratification available as a defense to conversion under Section 3-419 of U.C.C.),

aff’d, 14 F. App’x 120 (2d Cir. 2001); Valentine Transit, Inc. v. Kernizan, 594

N.Y.S.2d 180, 182 (N.Y. App. Div. 1993) (same); Montes v. Manufacturers

Hanover Trust Co., 440 N.Y.S.2d 22, 24 (N.Y. App. Div. 1981). As in the case of


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an allegedly unauthorized account trade, application of a contractual written-

complaint requirement to an allegedly unauthorized account withdrawal limits the

potential for “swearing contests” between broker and investor. Such requirements

therefore should be given effect with respect to allegedly unauthorized account

withdrawals to the same degree, and under the same circumstances, as allegedly

unauthorized trades.

In this case, the Customer Agreements which the claimants entered into with

BLMIS required the claimants to object in writing to the contents of an account

statement within ten days after receipt of that statement. While Mr. Blecker had no

knowledge of BLMIS’s fraud, for purposes of ratification, he only needed to know

the pertinent facts of the transaction: that for each PW Transaction, a

corresponding debit hit his account, with no corresponding purchase of

securities—in other words, that cash left his account. Mr. Blecker has admitted that

he received these statements on a timely basis; furthermore, the evidence shows

that he took notice of specific PW Transactions. Mr. Blecker presented no

evidence that he complained in writing about any of the PW Transactions. He

therefore ratified those transactions as a matter of law.

Even setting aside Mr. Blecker’s contractual obligation to complain about

unauthorized transactions in writing within ten days, Mr. Blecker waited over ten

years prior to the start of the liquidation to raise any issue with the debits from the


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PW Transactions.2 During that time, memories faded and bank records were

destroyed. Such long period following receipt of the statements and notice of the

PW Transactions is more than enough to find that Mr. Blecker ratified the PW

Transactions as debits, even without relying upon the 10-day complaint

requirement in the customer agreement. See Altschul v. Paine, Webber, Jackson &

Curtis, Inc., 518 F. Supp. 591, 594 (S.D.N.Y. 1981) (holding that customers had

ratified disputed transactions in their accounts “[b]y failing to object to the course

of trading in the accounts for approximately two years despite ample opportunity

to do so”).

II. Claimants cannot sustain their burden of proof

In compliance with the Bankruptcy Court’s claims procedures order, the

Trustee issued to each claimant a written determination describing his disposition

of the claimant’s claim and the reasons therefor. Under SIPA, the claimants then

have the burden to rebut the Trustee’s reasons and to demonstrate how the claim

should have been determined. See, e.g., Sec. Inv’r. Prot. Corp. v. Bernard L.

Madoff Inv. Secs. LLC, 515 B.R. 161, 166 (Bankr. S.D.N.Y. 2014) (Bernstein, J.)

2 Mr. Blecker also argues that the earliest admitted customer agreement, from 1992, cannot be used to ratify pre-1992 PW Transactions. These transactions, however, occurred over sixteen years prior to the start of the liquidation, all without complaint from Mr. Blecker.


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(“The [customer] claimant [under SIPA] has the burden to establish his status as a

‘customer,’ and ‘such a showing is not easily met.’” (citations omitted)).

SIPA provides that a trustee is obligated to satisfy customer claims for net

equity to the extent a broker’s obligations—as to both nature and amount—are

ascertainable from the books and records of the debtor or “are otherwise

established to the satisfaction of the trustee.” See SIPA § 78fff-2(b). SIPA requires

claimants who challenge a trustee’s claim determination to rebut that determination

“to the satisfaction of the trustee”—i.e., the customer bears the burden to

demonstrate that the trustee’s determination is in error and to establish the

claimant’s net equity.3 In re Adler Coleman Clearing Corp., 204 B.R. 111, 115

(Bankr. S.D.N.Y. 1997) (“[T]he Claimants must prove that they are ‘customers’

and that the equity in the Deposit Accounts is ‘customer property’ under SIPA. To

do so, they must show both that they meet SIPA's definition of customer and that

they entrusted their assets to debtor as a broker-dealer to trade them in the

securities market.” (citation omitted)); cf. In re Primeline Secs. Corp., 295 F.3d

1100, 1107 (10th Cir. 2002); Sec. Inv’r Prot. Corp. v. Pepperdine Univ (In re

3 Allocation of the burden of proof to the claimant also comports with general bankruptcy policy. “In an ordinary bankruptcy, claimants seeking a preferred status bear the burden of showing that they are within the class of eligible persons and that their transactions are protected under the Bankruptcy Code.” In re A.R. Baron Co., Inc., 226 B.R. 790, 795 (Bankr. S.D.N.Y. 1998). The rule applies with respect to “customer” status in a SIPA proceeding. Id.


16

Brentwood Securities, Inc.), 925 F.2d 325, 328 (9th Cir. 1991); CarVal Inv’rs UK

Ltd. v. Giddens (In re Lehman Bros., Inc.), 506 B.R. 346, 353 (S.D.N.Y. 2014),

aff’d, 791 F.3d 277 (2d Cir. 2015). The claimant’s burden to establish customer

status is a heavy one, and the Second Circuit and other courts have repeatedly

emphasized the term customer must be construed narrowly. See Sec. Inv’r Prot.

Corp. v. Morgan, Kennedy & Co., 533 F.2d 1314, 1317 (2d Cir.), cert. den., 426

U.S. 936 (1976); Brentwood Sec., 925 F.2d at 327; Sec. Inv’r Prot. Corp. v. Wise

(In re Stalvey & Associates, Inc.), 750 F.2d 464, 472 (5th Cir. 1985); Klein, Maus,

301 B.R. at 418.

Further, as the language of SIPA suggests, customer status under SIPA is

transaction specific. A claimant bears the burden to establish that the claimant is a

customer with respect to every cash balance, security, or transaction as to which

the claimant asserts customer status. In re New Times Sec. Servs., Inc., 463 F.3d at

130 (“‘[C]ustomer status in the course of some dealings with a broker will not

confer that status upon other dealings, no matter how intimately related, unless

those other dealings also fall within the ambit of the statute.’” (quoting In re

Stalvey, 750 F.2d at 471)); see, e.g., SEC v. Baroff, 497 F.2d 280, 282 n.2 (2d Cir.

1974); Sec. Inv’r Prot. Corp. v. Stratton Oakmont, 229 B.R. 273, 277 (Bankr.

S.D.N.Y.), aff’d sub nom. Arford v. Miller, 239 B.R. 698 (S.D.N.Y. 1999), aff’d,

210 F.3d 420 (2d Cir. 2000); In re Adler Coleman Clearing Corp., 204 B.R. at


17

115. This specificity is necessary to ensure that the relief available to genuine

customers is as complete as possible, within the limits imposed by SIPA.

Accordingly, a claimant challenging a trustee’s determination with respect to a

particular transaction bears the burden to rebut that determination. See

In re C.J. Wright & Co. Inc., 162 B.R. 597, 611 (Bankr. M.D. Fla. 1993) (holding

that, in a dispute between the trustee and a claimant regarding the amount of a

payment, the claimant must rebut the trustee’s contention, and, in the absence of

evidence from either side, the court must accept the trustee’s finding).

For the reasons discussed at length in the Trustee’s brief and that were

presented to and accepted by the Bankruptcy Court, the evidence submitted by the

Trustee proves that the PW Transactions were cash withdrawals. For example, for

the period from December 1998 through December 2008, the Trustee’s experts

have determined that, in nearly all cases, the PW Transactions on account

statements issued by BLMIS to its customers correspond to BLMIS and investor

bank records demonstrating delivery to investors of funds in the amounts shown on

the statements. That evidence is sufficient to establish receipt by claimants of the

amounts now challenged by them, particularly in the absence of any compelling

documentary evidence to the contrary.

It is also sufficient to demonstrate that BLMIS maintained a consistent

corporate practice of sending investor funds in the amounts reflected in


18

corresponding PW Transactions on the account statements issued and mailed to the

same investors. Under Rule 406 of the Federal Rules of Evidence, the existence of

that practice over a ten-year period is sufficient to support the inference that

BLMIS maintained the same practice prior to 1998 and that the Profit Withdrawal

notations on account statements issued for earlier periods are also accurate. See

Fed. R. Evid. 406 (“Evidence of a person’s habit or an organization’s routine

practice may be admitted to prove that on a particular occasion the person or

organization acted in accordance with the habit or routine practice.”); see also, e.g.,

U.S. Information Systems, Inc. v. Int’l Bhd. of Elec. Workers Local Union Number

3, AFL-CIO, 2006 WL 2136249, at *18 (S.D.N.Y. Aug. 1, 2006) (“Routine

practice evidence is more probative than character evidence because routines

consist of automatic, nonvolitional acts.”); Joseph M. McLaughlin, Jack B.

Weinstein, Margaret A. Berger, 2 Weinstein’s Fed. Evid. § 406.03 (2d ed. 2014)

(“Evidence of a routine practice is particularly persuasive in the business context

because of the profit-driven need for regularity”). In addition, for the reasons

discussed in detail in the Trustee’s brief, expert extrapolation from existing

evidence is both permissible and persuasive in a Ponzi scheme featuring

incomplete records.

The Appellants, and Mr. Blecker in particular, contend that the Trustee erred

in determining that they received the amounts reflected in the PW Transactions on


19

their BLMIS account statement and that the Trustee should not have deducted

those amounts from their aggregate deposits into their BLMIS accounts in

computing their net equities. As with all SIPA claimants, the Appellants have the

burden of establishing that they were customers BLMIS, which entails establishing

not only that they entrusted assets to BLMIS but also that they did not withdraw

those assets. In other words, in light of the Trustee’s evidence of BLMIS’s practice

of sending checks corresponding with the PW Transactions, the Appellants have

the burden to prove that they never received the subject amounts. As the

Bankruptcy Court held, Mr. Blecker did not meet that burden.

III. The doctrine of in pari delicto does not bar the Trustee’s determination of customer claims in accordance with SIPA

The doctrine of in pari delicto plainly has no application to this proceeding.

It has been applied in this liquidation to limit the Trustee’s standing to bring claims

against third parties who allegedly engaged in wrongdoing along with Madoff. In

that case, stepping into BLMIS’s shoes, the Trustee was prohibited by the doctrine

of in pari delicto from bringing claims where BLMIS was equally at fault. Picard

v. JPMorgan Chase & Co. (In re Bernard L. Madoff Inv. Sec. LLC), 721 F.3d 54,

58 (2d Cir. 2013) (“[T]he doctrine of in pari delicto bars the Trustee (who stands

in Madoff's shoes) from asserting claims directly against the Defendants on behalf

of the estate for wrongdoing in which Madoff (to say the least) participated.”). It

does not prohibit the Trustee from determining claims for customer protection


20

under SIPA, which he must do in accordance with the debtor’s books and records

or to the extent the claims are established to his satisfaction. SIPA § 78fff-2(b).

Although closer to the point, the Appellants’ invocation of section 29(b) of

the Exchange Act likewise misses the mark. 15 U.S.C. § 78cc(b). Under Section

29(b), “only unlawful contracts may be rescinded, not unlawful transactions made

pursuant to lawful contracts.” Zerman v. Jacobs, 510 F. Supp. 132, 135 (S.D.N.Y.),

aff’d, 672 F.2d 901 (2d Cir. 1981). Where “[t]here is no suggestion that the basic

customer agreement plaintiff signed is not lawful,” Section 29(b) cannot be

invoked. Id.; see also Omega Overseas Partners, Ltd. v. Griffith, No. 13-CV-4202

RJS, 2014 WL 3907082, at *4 (S.D.N.Y. Aug. 7, 2014) (gathering cases).

Mr. Blecker’s customer agreement itself is not unlawful, and for purposes of

determining Mr. Blecker’s customer claim, its requirement that he timely complain

about any unauthorized activity should be upheld.

IV. The Federal Rules of Evidence apply in a SIPA liquidation

Finally, the Appellants raise the issue of whether the Federal Rules of

Evidence apply in a SIPA liquidation, asserting that the Bankruptcy Court held that

they do not. Their argument is a straw man. No party has ever argued, and no court

has ever held, that the Federal Rules of Evidence do not apply in a SIPA

proceeding. They do.


21

SIPA section 78fff(b) provides that, to the extent consistent with SIPA, a

SIPA liquidation proceeding is to be conducted 1) “in accordance with” and 2) “as

though it were being conducted under chapters 1, 3, and 5 and subchapters I and II

of chapter 7 of title 11.” The provisions of Title 11 referred to in section 78fff(b)

are the bankruptcy liquidation provisions of the Code, except for the stockbroker

and commodity broker provisions. In explicitly incorporating these provisions,

“[t]he plain language of § 78fff(b) makes no [] distinction [between substantive

and procedural aspects of the Bankruptcy Code] . . . .” Nat’l Union Fire Ins. Co. of

Pittsburgh, PA v. Camp (In re Gov’t Sec. Corp.), 972 F.2d 328, 330 n.1 (11th Cir.

1992). “SIPA trustees administer what is in effect a ‘bankruptcy within a

bankruptcy’ for investors who had property on account with the broker-dealer.”

CarVal UK Ltd. v. Giddens (In re Lehman Bros., Inc.), 791 F.3d 277, 281 (2d Cir.

2015). And under Federal Rule of Evidence 1101, the Rules apply to proceedings

before United States bankruptcy judges and in civil case and proceedings,

including bankruptcy cases. Fed. R. Evid. 1101(a), (b). The Rules plainly apply to

SIPA liquidations.

What the Appellants describe as a legal error and a failure to apply the

Federal Rules of Evidence to the PW Hearing is actually a disagreement with the

Bankruptcy Court’s application of the Rules to exercise its discretion in admitting

evidence. For the reasons described in the Trustee’s brief, the Bankruptcy Court


22

rightly admitted evidence from the Debtor’s books and records, among other

sources, in support of its decision that the PW Transactions represented cash

withdrawals by the claimants.

CONCLUSION

For the reasons stated, the Court should affirm the Bankruptcy Court’s PW

Decision.

Date: December 14, 2018 Washington, D.C. Respectfully submitted, JOSEPHINE WANG General Counsel KEVIN H. BELL Senior Associate General Counsel For Dispute Resolution _/s/ Nathanael S. Kelley________ NATHANAEL S. KELLEY Associate General Counsel SECURITIES INVESTOR PROTECTION CORPORATION 1667 K St., NW, Suite 1000 Washington, D.C. 20006 Telephone: (202) 371-8300


23

CERTIFICATE OF COMPLIANCE WITH RULE 8015

This brief complies with the type-volume limit of Fed. R. Bankr. P.

8015(a)(7)(B) because, excluding the parts of the brief exempted by Fed. R. Bankr.

P. 8015(g), the brief contains 5,297 words.

This brief complies with the typeface requirements of Fed. R. Bankr. P.

8015(a)(5) and the type-style requirements of Federal Rule of Bankruptcy

Procedure 8015(a)(6) because this brief has been prepared in a proportionately

spaced typeface using Microsoft Word in 14-point Times New Roman font.

Dated: Washington, D.C. December 14, 2018 Respectfully submitted, SECURITIES INVESTOR PROTECTION CORPORATION /s/ Nathanael S. Kelley NATHANAEL S. KELLEY 1667 K Street, N.W., Suite 1000 Washington, D.C. 20006 Telephone: (202) 371-8300


Documents

SECURITIES INVESTOR PROTECTION CORPORATION 1667 K …...AARON BLECKER, et al., Appellants, v. IRVING H. PICARD, Trustee for the Liquidation of Bernard L. Madoff Investment Securities