Forensic Case Study

16 November 2020 - by Jennifer Strachan

IAM Forensic service case studies: when things go wrong with investment portfolios held in trust.

COVID-related market gyrations have focused our trust clients’ minds on what can go wrong with investments held in trust. We generally see a significant increase in potential litigation and referrals to our forensic service when large market drawdowns reveal flaws in the investment process and increased fiduciary risk. We are still involved in supporting cases coming out of the 2008 Crash. We already see potential COVID issues, given the sharpness of the market drawdown and the recovery catching funds out. Our advice is that it is more important than ever to ensure that robust governance, risk guidelines, clear objectives and a diversified investment structure are in place to properly protect client asset earn good returns and minimise the risk of such litigation.

We find it interesting to regularly review the lessons learnt in our forensic service from recent cases where we have been involved and reduced the impact of litigation.  We will be presenting a series of these cases and drawing out the lessons learnt.

Case 1: Poor Investment Performance over 8 years

IAM recently provided an in-depth investment forensic report which allowed a leading U.K. law firm to successfully defend itself against a claim in excess of £17m. The plaintiff was determined to go to court and had supporting third party evidence to support his case. Our client was prepared to counter-offer a substantial lower sum to avoid the costs of litigation and asked for a report to justify the counteroffer and challenge the plaintiff’s claim.

The detail of the claim was as follows. The beneficiary to a Guernsey trust felt the trust investment portfolio had earned abnormally low returns, over a period of 8 years. He and faulted the trustee for failing to sufficiently review and monitor the portfolio. The sum claimed was the restitution amount that would have been earned had the trust assets been invested with a different (and higher performing) investment manager. An initial claim against the trustee was missed as being statute barred. The law firm which missed the deadline to pursue the claim against the trust company was now being pursued directly by the beneficiary for the same sum and was the client. The case would have been identical if it had been the trustee.

As with many forensic cases IAM Forensic advises on, there were issues of both governance and investment to consider. In this case the trustee records were sparse and would have struggled to stand up in court to evidence proper control. The standards were not atypical of the time. However, this could be set aside as if there was no loss.  IAM was able to clearly demonstrate that, over a volatile investment period, that included the 2008 financial crisis, the returns achieved were slightly below average over the period and no loss was suffered. The returns were not weak enough to justify compensation and represented normal investment risk. Using our forensic report, the law firm was able to clearly demonstrate no compensation was due, which meant they avoided the case examining weak governance, which was an issue. After receiving the IAM report, the claimant dropped the case. The matter was settled by the insurer at under £2m but had provisioned significantly higher.

Lessons to be learned

  1. The importance of ensuring investment portfolio governance is set up correctly at the outset - investment policy, risk guidelines, investment objectives, monitoring and review.
  2. Spend time to ensure an investment structure is in place to provide appropriate diversification that clear tax and investment guidelines and appointment procedures are in place that are robust clearly stated and subject to review. Seek external advice if necessary.
  3. Develop and demonstrate clear ongoing procedures to continually review and update investment policy and guidelines, based on trustee decisions and the total asset picture.
  4. Where problems are identified, take action. A trustee can not be held responsible for normal market risks, but needs to be able to prove this is the case. You are allowed some latitude to underperform
  5. The compounding effect of market returns can produce some astonishing restitution claims, some of which are being awarded.

We are aware that the insurance companies are increasingly likely not to provide insurance where there are repeated claims or charge significantly higher premiums and it is arguable that cases represent a principal risk to the very existence of a trust company.

Trustee investment powers and responsibilities are usually wide and IAM regularly advises Trust companies on how to manage these ensuring their investment governance, implementation and review processes are sufficient. Doing so ensures underlying beneficiaries are happy with their trust investment control and regulatory requirements are well met. This avoids the risk of becoming an IAM forensic case study!

Contact us to find out more about our advisory and forensic services or training seminars which help develop the staff skills required to understand and confront these challenges.

Meet the Author