Wall Street firms had been following the appeal with interest as it implied the imposition of higher legal standards on the acts of Wall Street brokers in general. The Securities Industry and Financial Markets Association had argued that a ruling in favor of the Bayou creditors could force brokers to “analyze the huge volume of trading they process along with daily transfers of funds to determine if customers are engaged in wrong-doing.”
Representatives of the SIFM did not comment upon the ruling of the appellate court.
A lawyer for the official committee of unsecured Bayou creditors said his clients are “gratified that they’re getting closer to having some of their losses covered by this victory.”
In 2005, Samuel Israel and another Bayou Group executive had pleaded guilty to criminal charges revealing the hedge fund to be a Ponzi scheme. The Bayou Group went into Chapter 11 bankruptcy in May 2006.
The unsecured creditors’ committee of Bayou filed arbitration against Goldman in 2008. Goldman used to hold accounts for Bayou as its clearing broker. The creditors alleged that Goldman Sachs had failed in its duty to detect the alleged fraud and fraudulent transfers at the hedge fund. The arbitration panel issued a $20.6 million award in favor of the creditors in 2010 and Goldman moved the matter to federal court in Manhattan for vacating the award.
However, U.S. District Judge Jed Rakoff had ruled against Goldman saying it was the bank’s choice to turn to arbitration and that arbitrators had no duty to provide their reasons for a decision. The judge also held that arbitration rulings “are essentially unappealable.” At the time, judge Rakoff had written that Goldman, “having voluntarily chosen to avail itself of this wondrous alternative to the rule of reason, must suffer the consequences.” Now, the appellate court agrees to that thought.
The case is Goldman Sachs Execution & Clearing, et al. v. The Official Unsecured Creditors’ Committee of Bayou Group, LLC, U.S. Court of Appeals for the 2nd Circuit, 11-2446.