11/27/2010 08:42 pm ET Updated May 25, 2011

UBS Feeder Funds Knew Madoff Was Fishy in 2006

In 2006 the UBS feeder funds to Madoff hired consultant Chris Cutler to do probably what was the first due diligence on Madoff's operation since 1985, when the feeder funds first invested with Madoff.

It took Cutler only 4 days to discover the smoking gun; the options volume that Madoff reported as executed by the feeder funds exceeded by far the total volume of puts and calls actually traded in those securities on the Chicago Board of Options Exchange.

In other words, these put and call executions could never ever have happened. There was not enough volume of trading to have fulfilled orders JUST from these two accounts-- not to speak of all the other Madoff directed investment accounts.

But, the principals of the feeder funds, Luxalpha and Acess--Patrick Littaye and Thierry de la Villehuchet (who killed himself shortly after the scandal broke in 2008) chose to ignore the finding from their own consultant and took no steps to confirm that the source of their $80 million in fees was a total scam. Incredible!

What's more suspicious: Luxalpha and Groupement Financier, another feeder unit, withdrew $791 million in the 90 days before BLIM filed for bankruptcy. What was the motivation?

All these revelations are included in the complaint filed last week in US Bankruptcy Court by the Securities Investor Protection Corporation and its appointed trustee, Irving Picard of the law firm Baker & Hostetler, against Bernard L. Madoff Investment Securities LLC.

The complaint alleges that "The Acess Defendants and thereby Luxalpha's Board of Directors-- which consisted of the principals of the Acess entities and of UBS(Luxembourg) SA executives knew that the volume of tradijng being reported by Madoff was impossible, but decided not to make that information public."

The suit seeks $2 billion from the deep pockets Swiss bank UBS on grounds it it sponsored the feeder funds, purported to act as custodian of their assets and served as administrator for both of the large feeder funds.

UBS, according to the complaint, "calculated the "net asset value" of these funds based solely on the numbers and information provided by BLMIS, with no independent verification."

It's curious, too, that UBS never put a cent of its own money into Madoff's operation or recommended that any of its own wealthy European clients do so.

And we don't yet know the whole story because key parts of the complaint have been redacted from the full complaint, which is under seal in the bankruptcy court because UBS and the individual defendants fight to keep other potential smoking guns secret and privileged. I, for one, can't wait to know all the dirty details. I promise to keep you posted.