Abf Capital Management v. Askin Capital Management, 96 Civ. 2578 (RWS).

CourtUnited States District Courts. 2nd Circuit. United States District Courts. 2nd Circuit. Southern District of New York
Citation957 F.Supp. 1308
Docket NumberNo. 96 Civ. 2578 (RWS).,96 Civ. 2578 (RWS).
PartiesABF CAPITAL MANAGEMENT, et al., Plaintiffs, v. ASKIN CAPITAL MANAGEMENT, L.P., Kidder, Peabody & Co., Inc., Bear Stearns & Co., Inc. and Donaldson, Lufkin & Jenrette Securities Corp., Defendants.
Decision Date24 January 1997
957 F.Supp. 1308
ABF CAPITAL MANAGEMENT, et al., Plaintiffs,
ASKIN CAPITAL MANAGEMENT, L.P., Kidder, Peabody & Co., Inc., Bear Stearns & Co., Inc. and Donaldson, Lufkin & Jenrette Securities Corp., Defendants.
No. 96 Civ. 2578 (RWS).
United States District Court, S.D. New York.
January 24, 1997.

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Berlack, Israels & Liberman, New York City (Steven E. Greenbaum, John P. Biedermann, Anne M. Cunningham, Robert J. Stark, of counsel), for Plaintiffs.

Shereff, Friedman, Hoffman & Goodman, New York City (Andrew J. Levander, Shari L. Steinberg, David S. Hoffner, of counsel), for Askin Capital Management.

Cleary, Gottlieb, Steen & Hamilton, New York City (Thomas J. Moloney, Mitchell A. Lowenthal, Robin A. Henry, Carmine D. Boccuzzi, Jr., of counsel), for Kidder, Peabody & Co., Inc.

Fried, Frank, Harris, Shriver & Jacobson, New York City (William McGuinness, David M. Morris, Douglas W. Henkin, of counsel), for Bear, Stearns & Co., Inc.

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Morgan, Lewis & Bockius, New York City (Catherine A. Ludden, Gary G. Staab, Scott S. Balber, Maureen C. Weiss, of counsel), for Donaldson, Lufkin & Jenrette Securities.


SWEET, District Judge.

In this action alleging violations of the Racketeer Influenced and Corrupt Organizations statute ("RICO") and state law fraud, breach of fiduciary duty, negligent misrepresentation and unjust enrichment claims, defendants Askin Capital Management, L.P. ("ACM"), Kidder Peabody & Co. Incorporated ("Kidder"), Bear, Stearns & Co. Inc. ("Bear Stearns"), and Donaldson, Lufkin & Jenrette Securities Corporation ("DLJ") (collectively, "Defendants") have moved, pursuant to Rule 12(b)(6) and Rule 9(b), Fed. R.Civ.P., to dismiss the complaint against them for lack of standing, failure to state a claim and failure to plead fraud with particularity.

For the reasons set forth below, Defendants' motions will be granted in part and denied in part.


The Plaintiffs are thirty-eight shareholders and/or limited partners in Granite Partners, L.P. ("Granite Partners"), a limited partnership registered in the State of Delaware, Granite Corporation ("Granite Corp."), incorporated in the Cayman Islands, and/or Quartz Hedge Funds ("Quartz"), also incorporated in the Cayman Islands (collectively, the "Funds"). Complaint ¶ 9. The Funds are not parties to this action. Among the Plaintiffs are retirement plans governed by ERISA, corporations, investment partnerships, and individuals. Id.

At all relevant times, Defendant ACM, a Delaware limited partnership with a principal place of business in New York, was a registered investment adviser. Non-party David J. Askin ("Askin") was the Chief Executive Officer of ACM. In January 1993, Askin formed ACM. Complaint ¶ 13. At that time, ACM became the investment advisor to Granite Partners and Granite Corp.; at all times thereafter, ACM was the sole general partner of Granite Partners and the investment advisor to each of the Funds. Id. at ¶¶ 13-14.

Kidder Peabody, Bear Stearns and DLJ (collectively, the "Brokers" or "Broker Defendants"), all Delaware Corporations with principal places of business in New York, are broker-dealers.


I. Factual Allegations

On a motion to dismiss under Rule 9(b) or Rule 12(b)(6), the facts alleged in the complaint are presumed to be true, and all factual inferences are drawn in the plaintiff's favor. Mills v. Polar Molecular Corp., 12 F.3d 1170, 1174 (2d Cir.1993). Accordingly, the facts presented here are drawn from the allegations of Plaintiff's complaint (the "Complaint") and do not constitute findings of fact by the court.

This action arises from the collapse in early 1994 of three "hedge funds" managed by ACM: Granite Partners, Granite Corp. and Quartz (the "Funds"). Compl. ¶ 1. The Funds made leveraged investments in the volatile mortgage-backed securities market. Id. Each Plaintiff purchased an interest in one or more of the Funds; the earliest such transaction occurred in September 1990, and the latest occurred in March 1994. Compl. ¶ 9. Several of the Plaintiffs acquired additional interests in the Funds after their initial investment. Id. In the aggregate, Plaintiffs allege that they lost approximately $230 million that they invested in the Funds. Id. at ¶¶ 1, 9.

ACM (and, before ACM's creation, Askin) actively marketed interests in the Funds. In documents disseminated to each of the Plaintiffs, ACM described an investment strategy that purportedly could "achieve its investment objective of earning high absolute levels of return regardless of whether the bond market moves up, down or stays the same." Id. at ¶¶ 29, 30, 31, 35, 36. ACM targeted in particular investors who desired "low and manageable levels of risk," in part by promising that ACM would "meet[] its investment objectives without speculating on the future direction of interest rates." Id. at ¶¶ 31, 33, 36, 40. Rather, ACM promised to invest "in a balanced or hedged portfolio of CMOs [collateralized

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mortgage obligations] ... with the security of high quality, low risk investments" that traded in an active market. Id. at ¶¶ 29, 34, 36. The ACM-created portfolios supposedly would be diversified and "hedged so as to maintain a relatively constant portfolio value, even through large interest rate swings." Id. at ¶¶ 29, 36. In a document used by ACM to solicit purchases of interests in the Funds, ACM made the following representations to the Plaintiffs:

What is [the] risk exposure by investing in CMOs and their derivatives? Very little when investing through [ACM]. While the high yielding instruments in which we invest individually have market risk (e.g., exposure to prepayment), when combined in a risk-balanced, market-neutral portfolio, these government and government agency guaranteed instruments (or Aaa and Aa rated) have low risk (e.g., low volatility).

Id. at ¶ 37.

ACM also provided detailed descriptions of the methodology it would use to make investment decisions. For example, ACM stated that it would employ "its proprietary analytic models" to evaluate each security under consideration over a variety of prepayment and interest rate scenarios. Id. at ¶ 40. ACM represented that its investment analysis was not a one-time procedure, but an active and ongoing process "designed to assure that [ACM] can always have its portfolio structured with the most appropriate securities for achieving its investment goal." Id. at ¶ 38. Written materials disseminated by ACM set forth a "structured five-step process" of computer-driven quantitative analysis that would enable ACM to identify and acquire "high yield bonds that, when combined with other select CMOs, [would] form a hedged, lower-risk portfolio." Id. at ¶ 40.

ACM's written materials also spoke about leverage and liquidity. As to the latter, ACM represented that it would purchase securities that traded in active markets and otherwise insure that the Funds never would become "distressed" or "forced" sellers of securities, but would maintain at all times an ability to "wait it out until conditions improve." Id. at ¶¶ 34, 43. Although ACM made various representations about the specific leverage ratios it would maintain for each of the Funds, ACM was consistent in its promise to keep borrowings conservative. Id. at ¶ 44.

ACM and Askin allegedly issued these statements continuously from September 1991 to March 1994. The Plaintiffs, who invested their money through ACM throughout that period, each received and relied upon the allegedly fraudulent documents in purchasing and retaining their shares in the Funds. Compl. ¶¶ 21, 41.

The Complaint alleges that each of the above-referenced representations was false and that ACM knew that each was false at the time that the statements were issued. The securities primarily trafficked in by ACM did not have "low risk" and "low volatility." Rather, ACM purchased mass quantities of esoteric securities that it and the Brokers referred to as "toxic" or "nuclear waste." Id. at ¶¶ 47, 48, 50, 57, 58, 59, 65, 66, 67, 68, 69, 73, 74. Neither did ACM create market-neutral, diversified, balanced, or hedged portfolios. At all times, ACM maintained dramatically tilted portfolios that were uniquely susceptible to rises in interest rates. Id. at ¶¶ 46, 48, 67, 71, 72-76. ACM did not employ a formalized, five-step process of analysis utilizing proprietary, computerized analytical models; it did not have any models, and it traded based predominantly on Askin's "gut" feelings or in response to pressure from the Brokers. Id. at ¶¶ 103-108. ACM created a highly illiquid portfolio, thus putting the Funds at risk of becoming a "forced" seller, which ACM in fact became in 1994. Id. at ¶¶ 50, 119, 120. Finally, ACM did not keep the Funds' leverage within reasonable ranges; it borrowed excessively, and on atypical terms, from the Brokers, and engaged in massive forward transactions. Id. at ¶¶ 46, 51, 94-98, 109-20.

ACM (and Askin) allegedly steered the bulk of the Funds' business to the three defendant Brokers. Due in large part to their trading with ACM, the Brokers collectively garnered over 40% of the CMO market by early 1994. Id. at ¶¶ 53-54. At that time, moreover, approximately 65% of the securities in the Funds' portfolios had been created

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and sold by the Brokers. Id. at ¶ 56. The Brokers made millions of dollars as a result of their dealings with ACM; in 1993, for example, the Brokers, in the aggregate, earned approximately $140 billion dollars from CMO offerings. Id. at ¶ 53. Largely as a result of trades with ACM, the Brokers enjoyed continually increasing shares of — and profits from — the lucrative CMO market. Id. at ¶ 54.

ACM was allegedly a vitally important customer of the Brokers. Using excessive leverage, ACM was able to employ the Plaintiffs' money to buy and sell...

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