Canada: Nine Thirty FEF Investments: New York Appellate Division Applies Financial Institution Bond's Securities Broker Exclusion To Madoff Ponzi Losses

Last Updated: November 4 2015
Article by David S. Wilson and Christopher McKibbin

In United States Fire Insurance Company v. Nine Thirty FEF Investments, LLC, the New York Supreme Court, Appellate Division, held that Financial Institution Bonds did not cover losses sustained in a Ponzi scheme orchestrated by Bernie Madoff.  Drawing on its own recent decision in Jacobson Family Investments, Inc. v. National Union Fire Insurance Company of Pittsburgh, Pa. (which we discussed in our June 23 post), the Court held that the Securities Broker exclusion brought the loss outside the Bonds' Outside Investment Advisor coverage, notwithstanding  the insureds' argument that the coverage and the exclusion could not both operate without resulting in an ambiguity.

The Facts

Nine Thirty FEF Investments, LLC ("FEF") and Nine Thirty VC Investments, LLC ("VC") were formed to invest and trade in securities.  In 2005 and 2006, VC opened accounts with Bernard L. Madoff Investment Securities LLC ("BLMIS") pursuant to Customer Agreements referring to BLMIS as the "Broker".  In 2008, VC and FEF obtained Financial Institution Bonds from United States Fire Insurance Company ("USFI").  During the time that VC was a BLMIS client, Madoff was running a massive Ponzi scheme through BLMIS that is now considered to be the largest financial fraud in American history.  On December 11, 2008, the SEC filed a complaint against BLMIS and Madoff.  The complaint alleged that BLMIS had operated as both a broker-dealer and an investment advisor.

Outside Investment Advisor Coverage / Securities Broker Exclusion

Each of the Bonds contained an Outside Investment Advisor rider (rider 9), whereby USFI agreed to indemnify VC and FEF for:

Loss resulting directly from the dishonest acts of any Outside Investment Advisor, named in the Schedule below, solely for their duties as an Outside Investment Advisor, on behalf of the Insured.

The rider named BLMIS as an Outside Investment Advisor.

The Bonds contained Exclusion x, which provided that coverage did not extend to:

Loss resulting directly or indirectly from any dishonest or fraudulent act or acts committed by any non-Employee who is a securities ... broker

VC and FEF submitted a claim to USFI under the Outside Investment Advisor rider coverage.  USFI concluded that BLMIS was acting as a broker in its dealings with VC and FEF and, consequently, Exclusion x applied.

The Decision

USFI commenced an action for declaratory relief to confirm the validity of its coverage position.  On USFI's motion for summary judgment, the motions court concluded that, although the Outside Investment Advisor rider was clear on its own terms, it "became" ambiguous when read together with Exclusion x.  As such, the matter could not be determined summarily and USFI's motion was dismissed.

The Supreme Court, Appellate Division reversed the decision and granted summary judgment in favour of USFI.  Drawing on its own recent decision in Jacobson Family Investments, the Court observed that Exclusion x only required that the non-employee be a securities broker, not that it act as a securities broker in causing the loss:

Exclusion x excludes coverage for losses "resulting directly or indirectly from any dishonest or fraudulent act or acts committed by any non-Employee who is a securities ... broker" .... It does not provide that the non-Employee must have been "acting as" a securities broker.  It is undisputed that Bernard Madoff was not defendants' employee (as that term is defined in the bonds) and that [BLMIS] was a registered broker-dealer during the entire period in which it dealt with defendants.

Turning to the issue of whether Exclusion x rendered the Outside Investment Advisor rider ambiguous, the Court rejected this contention, holding that the rider and exclusion could stand together and that there was still significant scope for the rider to operate:

The Outside Investment Advisor Rider (Rider 9) does not mention exclusion x and does not contradict or alter the exclusion's clear and unambiguous terms.  Further, our interpretation of exclusion x does not leave Rider 9 "without force and effect".  The bonds could still provide coverage for losses resulting directly from the dishonest acts of outside investment advisers who are not brokers.  Defendants did not show that all — or even the majority — of the outside investment advisers listed on Rider 9 were also brokers. Accordingly, our interpretation of the bonds does not render them illusory. [citations omitted]

In reaching this conclusion, the Court took note of the surrounding context of the Bonds, observing that VC and FEF had had significant input into the underwriting process, and had ensured that several of the other riders contained provisions deleting certain exclusions:

It bears mentioning that defendants knew how to delete an exclusion. For example, riders 2, 8, and 19–20 provide that certain exclusions do not apply to the coverages created by those riders. If defendants had wanted the broker exclusion to be inapplicable to outside investment advisers (rider 9), they should have said so.

Consequently, Exclusion x applied to the loss and there was no coverage available to VC or FEF.


Like its predecessor Jacobson Family Investments, Nine Thirty FEF Investments is useful in clarifying the intended parameters of the Outside Investment Advisor rider under the Financial Institution Bond.  The Court arguably went further than in Jacobson Family Investments, reinforcing that coverages and exclusions can be drafted on either an "activity" or "status" basis, or both.  Here, the Outside Investment Advisor rider focused on the loss-causing actions, whereas Exclusion x focused on the status of the defaulter as a securities broker, notwithstanding that the loss might not be attributable to its conduct as a broker.

In reaching this conclusion, the Court also drew on the fact that the insureds had negotiated numerous other riders and had ensured that certain exclusions would not apply to the coverages provided thereunder.  In so doing, the Court refused to mechanically apply principles of policy interpretation which may be applicable when a policy is a true contract of adhesion, but which do not make sense where a policy is a product of negotiation and joint authorship.

United States Fire Insurance Company v. Nine Thirty FEF Investments, LLC, 2015 WL 5794368 (N.Y.A.D. 1st Dept.)

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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David S. Wilson
Christopher McKibbin
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