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A managing partner and chief investment officer of New York-based trade finance lender International Investment Group (IIG) has pleaded guilty for his part in a Ponzi-like scheme to defraud funds and investors.

According to a release from the US Department of Justice (DoJ), IIG co-founder David Hu accepted that over the course of more than a decade, he defrauded IIG funds and investors out of more than US$100mn by, “among other fraudulent actions, creating fictitious investments and overvaluing investments used to generate funds,” which were used to pay off earlier investors.

“Hu mismarked millions of dollars of loan assets, falsified paperwork to create fake loans, sold overvalued and fake loans and used the proceeds from those sales to pay off earlier investors, and falsified paperwork to deceive auditors and avoid scrutiny. He now faces a serious term of imprisonment,” says Audrey Strauss, United States attorney for the southern district of New York.

The court case follows a decision by the US Securities and Exchange Commission (SEC) to revoke IIG’s license in late 2019, following what the regulator called at the time “a string of frauds”.

As investment advisor to the Trade Opportunities Fund (TOF), the Global Trade Finance Fund (GTFF), and the Structured Trade Finance Fund (STFF), IIG offered institutions and other investors the opportunity to invest in diversified trade finance portfolios, originally through fund products and subsequently through other types of investment vehicles, such as collateralised loan obligations.

Through its trade finance arm, IIG Trade Finance, the company billed itself as a specialist in providing trade finance loans to small to medium-sized businesses, usually soft commodities exporters based in emerging markets, such as Latin America. These loans typically consisted of US dollar-based structured trade finance credit facilities with a maturity of up to 36 months, supported by numerous individual short-term transactions.

IIG’s trade finance loans were purportedly secured by collateral, such as the underlying traded goods, assets held by the borrowers, or expected payments by third parties.

Prior to having its license revoked by the SEC, IIG touted its risk control strategies on its website and to investors, which include portfolio concentration limits at the borrower, country, and commodity level, as well as a “robust” credit review process for borrowers.

 

The scheme

Court documents show that between 2007 and 2019, Hu and a co-conspirator – another IIG founder – started the scheme to defraud investors, which in turn allowed the pair to continue collecting management and performance fees.

IIG claimed to value the trade finance loans in its funds on a regular basis, and because of these services, Hu and the company received a performance fee and a management fee – which was calculated as a percentage of the assets under management held in the funds.

Initially, the scheme revolved around IIG’s activities with its TOF Fund. From around 2007, SEC documents show that IIG allegedly hid losses in the TOF portfolio by overvaluing distressed loans and replacing defaulted loans with fake “performing” loan assets.

The DoJ says that, in all, Hu was able to cover up losses caused from defaulted loans in the TOF Fund by replacing them with “tens of millions of dollars” in fabricated loans to purported borrowers in foreign countries.

Described by the DoJ as “sham foreign entities” controlled by IIG’s business associates, these borrowers would then provide confirmation of the fake loans, allowing Hu to cover up the losses from auditors.

TOF began suffering liquidity issues by 2013, however, as investor redemption requests and repayment obligations on loans the fund had taken from international development banks began to pile up.

To meet these liquidity needs, and continue to hide TOF’s losses, SEC documents say that IIG issued US$220mn of collateralised loan obligations (CLO) that were structured, arranged and placed by Deutsche Bank Securities.

IIG, which served as the investment adviser to the CLO, then used some of the capital from the CLO to acquire existing trade finance loans from TOF and boost the ailing fund’s liquidity. These included defaulted, distressed and fake loans.

Subsequently, it issued securitised debt instruments to investors, backed by the cash flows from the CLO.

Hu and the co-conspirator then put in motion plans to use the CLO to make fraudulent trade finance loans to a number of Panamanian shell companies secretly owned by IIG, which IIG then used to pay off TOF’s various debts and obligations.

By 2017, the notes issued by the CLO began to mature, and TOF was still struggling, so Hu and his co-conspirator took the decision to widen the scheme further.

They added yet more layers to the intricate web of fake liquidity by creating two new funds, GTFF and STFF, with investments made into both of these new funds used to purchase fake loan assets from TOF and the CLO.

Hu and his co-conspirator “targeted” an unnamed foreign institutional investor to raise money for these new funds, DoJ says, and succeeded in obtaining US$70mn as the seed investment for the GTFF, as well as US$130mn for the STFF.

Court documents allege that Hu and his accomplice used GTFF and STFF to purchase approximately US$100mn in fake, distressed, defaulted or otherwise fraudulent loans.

 

In a separate scheme hatched in 2017, the DoJ says that Hu and his co-conspirator also induced a retail mutual fund to invest in a fictitious US$6mn loan to an Argentine borrower. When the South American company looked likely to default on a previous loan, IIG shifted funds from another borrower’s account, and then plugged the blackhole with proceeds from the fake facility.

Hu admitted to investment adviser fraud, securities fraud and wire fraud offenses in connection with the Ponzi scheme, and has also agreed to forfeit more than US$129mn representing proceeds traceable to the commission of the offenses.

 

Additional reporting: Eleanor Wragg