Sep. 22, 2008

Lehman Brothers Bankruptcy: ISDA Issues

The recent bankruptcy filing by Lehman Brothers Holdings Inc. has generated pressing and complicated questions for hedge funds. Among the most salient topics on the minds of many hedge fund lawyers and managers is how the Lehman filing will affect hedge funds who entered into trades with Lehman or an affiliate under the ISDA Master Agreement. More generally, even for hedge funds that do not have direct Lehman exposure, the filing raises questions about what happens when your counterparty to a trade documented on the ISDA Master goes into liquidation. Leading derivatives attorneys from law firm Sutherland have contributed an article to the Hedge Fund Law Report that addresses these timely issues.

Lehman Brothers Holdings and Certain of its Subsidiaries File for Bankruptcy Protection

In one of the first responses by a law firm to the bankruptcy filing by Lehman Brothers Holdings Inc. (Lehman Holdings), Willkie Farr & Gallagher LLP produced a memorandum highlighting some of the salient questions raised by the filing, including questions relating to the following topics: prime brokerage arrangements with Lehman Holdings subsidiaries; Lehman Holdings subsidiaries serving as lenders or administrative agents under credit facilities; Lehman Holdings subsidiaries as swap counterparties; and Lehman securitizations, participations and repurchase agreements. The memorandum, included in this issue of the Hedge Fund Law Report, should help hedge fund lawyers and managers ask the right questions as they evaluate their counterparty risk exposure in light of the Lehman situation.

Pushed by Regulators, Industry Sets Ambitious Goals to Modernize OTC Derivatives Infrastructure

Major dealers and industry associations have agreed with international regulators to actively pursue ambitious infrastructure improvements in the over-the-counter derivatives market. The goal of the improvements is to reduce systemic risk and enhance transparency in the $450 trillion (notional) market for instruments that Warren Buffett has famously called “financial weapons of mass destruction.” At the core of the infrastructure improvement proposal is a dramatic expansion of the use of electronic platforms. The goal is to achieve automated matching on trade date, known in the industry as T+0, thereby “creating an environment that will mirror performance in mature markets and eliminate material confirmations backlogs.”

SageCrest Files for Chapter 11 Bankruptcy, a Rare Move by a Hedge Fund

In what legal experts have called a rare move by a hedge fund, troubled Greenwich, CT hedge fund SageCrest II has filed for bankruptcy protection in an effort to head off a forced asset sale. In a letter to investors, a copy of which was obtained by the Hedge Fund Law Report, SageCrest said that Deutsche Bank’s recent refusal to allow the fund to draw on a $400 million line of credit was one of the reasons for the bankruptcy filing. Liquidity of fund assets may play a role in whether bankruptcy is within the range of considerations in distressed situation. For example, in the midst of a wave of redemption requests, a fund with a substantial percentage of illiquid assets may consider a bankruptcy filing as one method of preserving the value of those assets. However, experts caution that even for funds in distress, a bankruptcy filing should only be considered once other options have been exhausted, since a filing diminishes the control of the fund manager over the disposition of assets.

Rothstein Kass Study Suggests that Hedge Fund Managers are Inadequately Prepared for Succession Challenges

According to a recently-released study, only a small minority of partners and senior managers at hedge funds have adequately planned for succession in the event of the death, disability or termination of an owner, partner or other key person. At the same time, experts interviewed by the Hedge Fund Law Report suggested that increasing numbers of institutional and high net worth individual investors are beginning to demand succession plans as a condition of an investment in a fund. The study was sponsored by accounting and financial services firm Rothstein Kass, and co-authored by private wealth experts Russ Alan Prince and Hannah Shaw Grove. A key finding: fewer than 30% of the partners surveyed are prepared to deal with the death of one of their management-level colleagues.

Ex-Hedge Fund Manager Ordered to Pay Nearly $300 Million for Defrauding Clients

On August 13, 2008, the United States District Court for the Eastern District of Pennsylvania ordered Paul M. Eustace, the former president and founder of Philadelphia Alternative Asset Management Co. (PAAMCO), a hedge fund manager, to pay $279 million in restitution and a $12 million civil penalty for defrauding clients, and permanently banned him from trading activities. Eustace incurred losses of approximately $200 million trading commodity futures and options in various commodity pools, and issued false trading account statements concealing those losses.

Interview with Kenneth Springer of Corporate Resolutions Inc. on Hedge Fund Manager Due Diligence

An investment in a hedge fund is more than just an investment in assets or instruments in which the fund invests. It’s also an investment in the managers of the fund – and not just in the investment prowess of the managers, but also in their integrity, transparency and forthrightness. An analysis of these factors should figure prominently into initial investment due diligence and ongoing investment monitoring, yet many investors pay inadequate attention to managers’ backgrounds, or lack the tools or know-how to adequately gather and evaluate such information. In this exclusive interview, Kenneth S. Springer, a Wall Street private investigator, former FBI agent and founder of Corporate Resolutions Inc., discusses hedge fund manager due diligence with the Hedge Fund Law Report.

Bingham Continues Securities Practice Growth in New York and Washington D.C.; Former Bear Stearns and Foley Lawyers Join Bingham’s International Team

Following the arrival of four key lawyers in Washington, D.C. in August, law firm Bingham continued the expansion of its international securities practice with the addition of two former Bear Stearns lawyers in New York and two former Foley & Lardner partners in Washington.