Capital Management Fund Ltd. v. Bennett

Capital Management Select Fund Limited and other investment companies (collectively, the customers) (plaintiffs) had brokerage accounts with Refco Capital Markets, Ltd. (RCM). RCM’s customer agreement permitted customers to post securities in their accounts as collateral for margin loans and RCM to rehypothecate customers’ securities for its own financing purposes. The agreement provided that RCM was an offshore unregulated entity; upon receiving margin financing, customers gave RCM perfected security interests in the customers’ cash, securities, or other property in RCM’s possession or control; and RCM’s sole obligation was to return any cash, securities, or other property, or the cash value thereof, not deemed to be collateral. RCM and its parent company, Refco, Inc., filed for bankruptcy protection. The customers brought actions alleging that Refco officers (defendants) committed securities fraud by extending credit to customers without adequately disclosing that RCM intended to rehypothecate the customers’ securities. Dismissing, the district court held that the customers failed to plead deceptive conduct. On appeal, the customers argued that the customer agreement itself was an actionable misrepresentation and, even if ambiguous, should be interpreted to comply with federal and state laws limiting rehypothecation rights. The Securities and Exchange Commission, as amicus curiae, expressed concern that affirming the district court’s holding would abolish the shingle theory of liability.