The collapse of an investment fund affected by a fraud will often lead to disputes between the investors who were paid out before the discovery of the fraud, the investors who gave notice to redeem prior to the discovery of the fraud, and the investors remaining in the fund when it collapsed. Following the recent decision of the Privy Council in SEB -v- Weavering Macro Fixed Interest Fund [2019] UKPC 36, given on 29 July 2019, it is an appropriate time to review the law in this area and to examine this decision alongside earlier decisions of the Privy Council given in the context of investment funds affected by fraud.

The importance of the Articles: Redemption process

The first decision of the Privy Council on redemption from an investment fund was not a fraud case, but arose out of the global financial crisis. In Culross Global SPC Limited -v- Strategic Turnaround Master Partnership Limited ([2010] UKPC 33) the issue was whether the redeeming investor of a Cayman fund was a current creditor at the time it had issued a winding-up petition against the fund. The answer depended upon whether the fund was able to suspend payment of redemption proceeds after the redemption date had passed. The Privy Council held that the power of a fund to suspend payment was determined by the true construction of the articles of association of the fund, read together with such other contractual documents as were incorporated or referred to therein. Upon the proper construction of the articles in that case there was no such entitlement. It was suggested by the Privy Council that clear words would have been required before the articles could be read as entitling the fund retrospectively to reverse or alter the effect of the passing of the redemption date pursuant to a valid redemption notice.

The terms of the articles will determine the time at which redemption has occurred and the consequent rights and obligations regarding payment of the redemption proceeds.

The significance of this decision is that it confirms that redemption is governed by the terms of the articles, and it will be to the articles that one should look for a solution to the respective rights of competing investors upon insolvency. That competition is between investors claiming to be creditors by reason of having redeemed prior to insolvency and the investors who have not redeemed.

The importance of the Articles: NAV determination

Fairfield Sentry Limited -v- Migani ([2014] UKPC 9) concerned a BVI fund which was a feeder fund for the infamous Bernard

L. Madoff Investment Securities LLC ("BLMIS") believed to have been the largest Ponzi scheme in history. The liquidators of a BVI fund sought to recover redemption payments which had been made to investors on the basis of NAVs which turned out to have been mistaken because they were calculated before the fraud was discovered. Whether the liquidators were entitled to recover those sums in restitution depended upon whether the Fund was bound by the terms of terms of the articles to have made the payments which it had made. The answer to that question in turn depended on whether the effect of the articles was that the Fund was obliged to pay the true NAV per share (ascertained in the light of the true facts as they subsequently turned out to be after discovery of the Madoff fraud) or the NAV per share as calculated at the time of redemption by the Directors. The Privy Council held that the whole scheme of share purchase and redemption set out in the articles depended upon the price being definitively ascertained by the Dealing Day and known to the parties shortly thereafter. Anything else would be unworkable. Having been paid out in accordance with a NAV calculated according to the terms of the articles, that payment could not be recovered by the liquidators.

Once again the decision turned upon the proper construction of the articles.


In Pearson -v- Primeo Fund ([2017] UKPC 19) the question arose as to the respective priorities of investors in a Cayman Madoff feeder fund, Herald SPC. What was the status of an investor who had given a valid notice of redemption and whose redemption date had passed, but who had not actually received any proceeds?

Prior to the suspension of both Herald's NAV and all redemptions on 12 December 2008, valid redemption notices had been given by certain investors for redemption on 1 December (the "December Redeemers").

Following settlement with the Madoff Trustee in the USA the liquidators of Herald had received payments which would be sufficient to pay the December Redeemers (and some earlier unpaid redemptions) in full, but which would not be sufficient to pay all the investors in the Fund which was, by then, in liquidation.

The question which came before the Privy Council was whether the December Redeemers, together with earlier redeemers who had not been paid due to delay in provision of KYC documents (the "KYC Redeemers"), all represented by Primeo Fund ("Primeo"), were creditors ranking ahead of all the other investors. The other investors comprised (a) redeemers who had given notice prior to suspension, but which did not take effect until afterwards, albeit prior to the commencement of the liquidation, (b) redeemers who had given notice after suspension and (c) investors who had not given any redemption notice at all.

The Privy Council held that the December Redeemers had redeemed on 1 December 2008 and were creditors at the time of the winding-up. Accordingly they were entitled to be paid (together with the KYC Redeemers) in priority to all the other investors, albeit being deferred to the claims (if any) of ordinary creditors of the Fund.

Just as in Fairfield Sentry the argument that the redeeming investors would recover based upon an inflated NAV left the Privy Council unmoved. The following observation of Lord Sumption in Fairfield Sentry [3] was quoted in Pearson v Primeo [20]:

"It is inherent in a Ponzi scheme that those who withdraw their funds before the scheme collapses escape without loss, and quite possibly with substantial fictitious profits. The loss falls entirely on those investors whose funds are still invested when the money runs out and the scheme fails. Members of the Fund who redeemed their shares before 18 December 2008 recovered the NAV which the Directors determined to be attributable to their shares on the basis of fictitious reports from BLMIS. The loss will in principle be borne entirely by those who were still Members of the Fund at that date."

Both Fairfield Sentry and Pearson -v- Primeo were concerned with Madoff feeder funds. They were both cases where the Privy Council was considering the situation where the NAV of the fund was incorrect by reason of a fraud external to the fund. The NAV was incorrect in those cases because, unknown to the directors, the fund had invested in a Ponzi scheme and the assets upon which the NAV had been calculated simply did not exist, or did not have the value attributed to them. The latest decision of the Privy Council in another Cayman case, concerned a different situation. In SEB -v- Weavering Macro Fixed Interest Fund [2019] UKPC 36 the fraud was internal. The NAV was equally incorrect, but it was deliberately incorrect because the directing mind of the fund, Magnus Peterson, was himself perpetrating a fraud to cover up trading losses.

Insider Fraud

In Weavering Magnus Peterson, who managed and controlled the fund, perpetrated a fraud by inflating NAV by entering into worthless interest rate swaps with a related entity which gave the impression that the fund was experiencing sustained growth when in fact it had suffered significant losses. Following the fund being put into liquidation, the liquidators sought to recover sums paid to a certain investor, SEB, prior to the fraud being discovered. They argued that the payments to SEB constituted fraudulent preferences within the meaning of Section 145 of the Companies Law. Section 145 provides as follows:

"Every conveyance or transfer of property, or charge thereon, and every payment obligation and judicial proceeding, made, incurred, taken or suffered by any company in favour of any creditor at a time when the company is unable to pay its debts within the meaning of section 93 with a view to giving such creditor a preference over the other creditors shall be invalid if made, incurred, taken or suffered within six months immediately preceding the commencement of a liquidation."

In response SEB argued that the fund was not insolvent because the NAV published by the company was not binding by reason of the fraud of Magnus Peterson. Because the NAV was not binding, it was argued by SEB that no redemptions had taken place in accordance with the articles and therefore no redeemers had become creditors.

This argument had been rejected both at first instance and in the Court of Appeal by applying the reasoning in Fairfield Sentry and holding that it was not permissible to reopen a NAV retrospectively on the ground of fraud.

The Privy Council disagreed. It held that it was necessary to distinguish Fairfield Sentry, where the directors had determined the NAV in good faith, as required by the articles and where the fraud was external to the fund, on the one hand, and Weavering, on the other hand, where the NAV was fraudulently stated by the person to whom the directors had given actual authority to determine it, namely Magnus Peterson. In such circumstances it could not be said that the NAV had been determined in good faith as required by the articles, and so the NAV was not binding. The fraud was internal to the fund and so the maxim "fraud unravels all" is applicable.

However, although the NAV was vitiated by fraud, it was nevertheless a valid NAV unless and until an application had been made to set it aside. It could be seen as being "voidable" and not "void". SEB had not been defrauded. On the contrary it had benefited from the fraud and any application to avoid the NAV would require SEB to return the benefit it had received. So ultimately success on the fraud point was a pyrrhic victory for SEB.

However although it may not have assisted SEB in that case, the distinction between internal and external fraud in respect of the NAV is the aspect of Weavering which is of most interest. It is a logical and more nuanced approach than the position which had been adopted by the Court of Appeal of saying in effect that the NAV is always binding by applying the reasoning in Fairfield Sentry.

The distinction made by the Privy Council in Weavering between an internal and an external fraud gives liquidators of fraudulent investment funds a potential route to obtain repayment from earlier paid investors on the basis of a restitutionary claim for money had and received. Such a claim would have a potential look back period of six years, as opposed to the six months which applies to a statutory preference claim and the liquidators would not have to show a "dominant intention to prefer". On the other hand it would be subject to a potential defence of change of position.

Availability of Change of Position Defence to Restitutionary Claims

The Privy Council in Weavering held that although the effect of Section 145 was merely to avoid the payment rather than create a statutory means of recovery, thereby requiring the liquidator to recover on the basis of a restitutionary claim for money had and received, the change of position defence, which would ordinarily be a defence to a restitutionary claim, was not available in such circumstances. Their reasoning was that such a defence is inconsistent with the statutory aim of Section 145 which is to give effect to the fundamental principle in insolvency of pari passu distribution of an insolvent company's assets. The Privy Council observed that it "cannot override the intention of the legislation by providing a common law defence". It was recognised that the denial of a defence of change of position could lead to a harsh result, but whether some defence should be afforded in an unfair preference context was a matter for the legislature.

Where recovery was sought simply on the basis that the NAV was to be set aside, there would be no such reason for a change of position defence not to apply. There is no reason why a defence to a restitutionary claim should alter depending upon whether the company made the claim before or after liquidation. Such a claim would belong to the company, and there would be no difference in principle whether such claim was asserted by the company acting through its board or acting through its liquidator.

Whether a change of position defence would actually succeed of course depends upon the facts. The legal test itself is deliberately vague: "the defence is available to a person whose position has so changed that it would be inequitable in all the circumstances to require him to make restitution, or alternatively to make restitution in full" per Lord Goff in Lipkin Gorman -v- Karpnale Ltd. [1991] 2 AC 548, 578.

However, in an investment fund context it is often the case that the recipient of the redemption proceeds is not the ultimate beneficiary of those monies. In many cases the investor is itself a fund, for example a fund of funds, or is a fiduciary such as a bank or other financial institution. The monies may have long since passed down the chain to the customer, with no prospect of recovery by the actual investor by the time a liquidator brings proceedings. Thus such a defence may very well succeed.

Intention to Prefer

The other significant point considered in Weavering was the question of "intention to prefer". The Privy Council reconfirmed that the phrase "with a view to giving such creditor a preference" which appears in Section 145 requires a "dominant intention to prefer such creditor". The question before the court was whether such an intention could be inferred from all the available evidence. The Privy Council considered that the Court of Appeal was entitled to conclude that such an inference could be made. It is interesting to note the basis upon which such inference was made in that case.

As the first instance judge had noted that one reason to prefer SEB was that they were going to invest in another fund, but the Court of Appeal observed that there was also an intention to prefer the December redeemers over January and February redeemers by adopting a payment regime that meant that they were paid at a time when the only proper course would have been to suspend redemptions or to put the fund into liquidation because it was already clear that not all redeemers could be paid. Although SEB were not the only December redeemer, the December redeemers as a class were being preferred over the January and February redeemers. This was not a case where SEB had applied any pressure on the fund to pay which may have removed an intention to prefer, by replacing it with an inference that the fund had paid to avoid the adverse consequences being threatened by the pressurising investor. There was an additional point that Magnus Peterson was a former employee of SEB which the Privy Council agreed was a factor that could go into the mix.


There is now a useful body of judicial precedent at the highest level which addresses many of the issues which can arise where an investment fund is affected by fraud. In summary, the following three principles can usefully be highlighted from these decisions:

  1. The redemption process and its consequences are governed by the terms of the articles. The articles will ordinarily provide that the investor is redeemed as of the redemption date and thereupon becomes a creditor, both for the purposes of standing to bring insolvency proceedings and for the purposes of priority.
  2. The effect of a NAV, and the legal status of a redemption based upon a NAV which turns out to have been mistaken, also depends upon the articles. However, it is necessary to distinguish between a fund which is affected by some external fraud in relation to the assets in which it has invested, and a fund affected by an internal fraud. In the former situation the NAV will most likely be binding according to the terms of the articles whereas in the latter situation the NAV will most likely be vitiated on the principle that fraud unravels everything. In both cases the answer may however depend upon how the fraud has been perpetrated and the actual knowledge of the directors and others responsible for determining NAV.
  3. A liquidator seeking to recover redemption payments from a redeemed investor, whether on the basis of a voidable preference or on the basis that the NAV is not binding, has a restitutionary cause of action for money had and received. However, where the ground for the restitutionary claim is a statutory voidable preference, the redeemed investor cannot assert a defence of change of position which would otherwise be available as a defence to a restitutionary claim for money had and received.

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.