Given the financial pressures of the economic downturn and the uncovering of Ponzi schemes such as Madoff, investors and traders have increasingly sought to claim for unexpected levels of losses to investment funds. A recent case has shown that, in cases where investors and traders have been induced to invest as a result of fraudulent representations, the courts may be prepared to award wide-ranging damages for losses that they suffer. In this case, the court held that a trader could recover the value of the original fund, the loss of profits on the fund and the investment arising from this profit (i.e. profits on profits).

To view the article in full, please see below:


Full Article

A recent case has shown that, in cases where investors and traders have been induced to invest as a result of fraudulent representations, the courts may be prepared to award wide-ranging damages for losses that they suffer.

Through a special purpose vehicle company, a trader invested in funds relying on statements made by a senior futures broker about the profitability of the fund that were knowingly false. Between the initial investments in June 2000 until the discovery of the fraud in March 2002, the funds lost almost all their value. The trader claimed damages not only for the capital loss of the amount by which the trading fund was depleted but also the loss of the profits:

  • which he would have made on investments in alternative trades during the period in which the fraud was being carried out; and
  • for the period after the fraud until the trial on the basis that, as a consequence, he had a smaller trading fund than he would have had had the fraud not occurred.

The court held that the trader could recover the value of the original fund, the loss of profits on the fund and the investment arising from this profit ("profits on profits").

Loss of profits during the fraud

The court held that it is not necessary to identify a specific alternative transaction in order to recover loss of profits. Moreover, there is no requirement to demonstrate that alternative transactions would necessarily be profitable. Each case depends on its own facts but generally profits will be recoverable where on a balance of probabilities any alternative transaction or business would have been profitable. The court relied heavily on the evidence of the trader's previous and subsequent success and that he continued to trade profitably despite the fraud. Had the trader not been so successful, it is questionable whether such damages would have been recoverable.

It was denied that a claim for loss of profits from trading in contracts for differences was too speculative to be recovered. The question for the court was whether the alternative trading in which the claimant would have engaged 'but for the deceit' would have been profitable overall. The possibility that some trading may be loss making or less profitable can simply be taken into account by discounting the damages awarded by a reasonable percentage.

Loss of profits after the fraud ceased

So-called "profits on profits" (i.e. each year's increased trading fund - as a result of successful trading - used to trade in the following year) were recoverable. It did not matter that loss of profits after the period of deceit did not relate to any relevant alternative transaction or were too speculative. As long as the claimant could demonstrate, on a balance of probabilities, that the adverse effects suffered as a consequence of the fraud remained operative (whether loss of profits, additional expenses or other losses) they were recoverable as damages.

Implications

  • Claimants would be advised to show, on a balance of probabilities, that potential alternative investments, or a string of investments, would have been profitable.
  • Whilst it is not necessary to show that there was a specific alternative investment or that alternative investments would necessarily be profitable, it must be shown that, on a balance of probabilities, alternative investments would have been profitable overall.
  • In this case the trader's trading record was exceptionally good over a significant period of time, thus reducing the element of speculation. It is not clear if the courts would award such comprehensive damages if an individual or company had a weaker trading record.

Further reading: Parabola Investments Ltd and Another v Browallia and Others [2009] EWHC 901 (Comm)

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 09/07/2009.