New Hampshire Insurance Company, et al., Plaintiffs-Appellants,
MF Global, Inc., Defendant-Respondent. Chicago Mercantile Exchange Inc. and Futures Industry Association, Amici Curiae.
Quinn Emanuel Urquhart & Sullivan, LLP, New York (Kathleen M. Sullivan of counsel), for New Hampshire Insurance Company, Vigilant Insurance Company, Certain Underwriters of Lloyds of London, etc., Fidelity & Deposit Company of Maryland, Continental Casualty Company, Liberty Mutual Insurance Company, Great American Insurance Company and Axis Reinsurance Company, appellants.
Frenkel Lambert Weiss Weisman & Gordon, LLP, New York (Arthur N. Lambert of counsel), for St. Paul Fire & Marine Insurance Company, appellant.
Covington & Burling LLP, New York (P. Benjamin Duke of counsel), for respondent.
Skadden, Arps, Slate, Meagher & Flom LLP, New York (Prashina J. Gagoomal of counsel), for amici curiae.
Mazzarelli, J.P., Acosta, Renwick, Richter, Gische, JJ.
Order, Supreme Court, New York County (Bernard J. Fried, J.), entered October 5, 2010, which denied plaintiffs' motion for summary judgment declaring that they are not obligated under their fidelity bonds to cover defendant's loss sustained as a result of certain trading activity, and, upon a search of the record, granted summary judgment to defendant, unanimously modified, on the law, to vacate the grant of summary judgment to defendant, to grant defendant partial summary judgment to the extent of declaring that defendant sustained a direct financial loss under the fidelity bonds, and otherwise affirmed, without costs. Appeal from order, same court and Justice, entered March 25, 2011, which, to the extent appealable, denied plaintiffs' motion for renewal, unanimously dismissed, without costs, as academic.
Defendant MF Global, Inc. is a commodities futures broker and is subject to the regulatory rules and oversight of the various exchanges on which it executes trades, including the Chicago Mercantile Exchange (CME). The CME is registered with, and must comply with regulations of, the United States Commodities Futures Trading Commission (CFTC). MF Global is a Clearing Member of the CME, and is approved to clear trades through the CME Clearing House. To maintain the integrity of the market, the CME Clearing House and Clearing Members such as MF Global become effective counterparties on each trade placed. In other words, the CME Clearing House assumes the position of direct legal counterparty to MF Global on all futures contracts submitted by MF Global to the Clearing House.
In addition, as a Clearing Member, MF Global assumes complete responsibility for the financial obligations attendant to all trades and orders executed, and for all trading activity routed through its electronic trading systems. Thus, at the end of each trading day, or sometimes intraday, MF Global has to settle with the CME Clearing House for all losses on trades cleared through MF Global accounts, regardless of whether the customers initiating those trades are able to meet their payment obligations. This arrangement protects the market from risk of default by individual traders by transferring that risk to Clearing Members such as MF Global.
Plaintiff New Hampshire Insurance Company issued a fidelity bond to MF Global's predecessor company covering the policy period from April 30, 2007 to April 30, 2008. The remaining plaintiffs are insurance companies that issued excess bonds to MF Global that incorporated the terms of the primary bond.
In the bonds, plaintiffs agreed to indemnify MF Global for losses "sustained at any time for... any wrongful act committed by any employee... which is committed... with the intent to obtain financial gain for [the employee]" (emphasis omitted). "Loss" means "the direct financial loss sustained by [MF Global] as a result of any single act, single omission or single event, or a series of related or continuous acts, omissions or events." The bonds exclude coverage for "[i]ndirect or consequential loss." A "[w]rongful act, " with respect to trading in commodities and futures, is defined as "any... dishonest... act committed with the intent to obtain improper financial gain for... an employee" (emphasis omitted).
Nonparty Evan Brent Dooley was a commodities broker associated with MF Global's Memphis, Tennessee office who was paid on a commission basis. During the evening of February 26, 2008, Dooley began trading commodities futures on the CME from his personal trading account using MF Global's electronic trading system. Dooley entered into a large number of "sell contracts, " primarily for May wheat, and in doing so, exceeded his available margin credit. These "sell contracts" created an aggregate open position that would be liquidated when corresponding "buy contracts" were executed. If the price of May wheat decreased, the trades would be profitable, but if the price increased, a loss would ensue.
After trading resumed the next morning, the price of May wheat rose quickly, and Dooley liquidated his positions, sustaining a loss over $141 million. Because of the large amount, the CME Clearing House requested an intraday settlement to cover the loss. By midday on February 27, 2008, MF Global transferred approximately $150 million from its settlement bank to the CME Clearing House. MF Global recorded the $141 million loss on its books as a bad debt, and thereafter submitted a claim under the bonds. Plaintiffs denied coverage asserting, inter alia, that MF Global did not suffer a "direct financial loss" and that Dooley was not an "employee."
Plaintiffs brought this declaratory judgment action seeking a declaration that the bonds do not provide coverage for MF Global's loss. In moving for summary judgment, plaintiffs argued that MF Global did not sustain a "direct financial loss" under the terms of the bonds. MF Global opposed the motion, but did not cross-move for summary judgment. In an order entered October 5, 2010, the motion court denied plaintiffs' motion and, upon a search of the record, granted summary judgment to MF Global. Despite the fact that the parties did not brief the issue, the court concluded as a matter of law that Dooley was an "employee, " as that term is defined in the bonds. The court subsequently denied plaintiffs' motion seeking, among other things, renewal. Plaintiffs now appeal.
The motion court properly concluded that MF Global's loss constituted a "direct financial loss." Although that term is not defined in the bonds, "[a] direct loss for insurance purposes has been analogized with proximate cause" (Aetna Cas. & Sur. Co. v Kidder, Peabody & Co., 246 A.D.2d 202, 209 [1st Dept 1998], lv denied93 N.Y.2d 805 ; see Sorrentino v Allcity Ins. Co., 229 A.D.2d 481, 482 [2d Dept 1996] [using proximate cause as test for determining whether insurance loss was a direct loss]; Granchelli v Travelers Ins. Co., 167 A.D.2d 839, 839 [4th Dept 1990] ["Direct loss is equivalent ...