The Argus Group is being sued by a life insurance client who saw their policy's cash value slump due to investment exposure to funds operated by disgraced financier Bernard Madoff.

The legal move came after Argus sent out an e-mail to some clients last Friday informing them that their policy may have a "negative cash surrender value", after trading in one of the funds it invested in was suspended because of exposure to Madoff's alleged $50 billion Ponzi scheme.

The lawsuit was brought against Argus and ten other funds, money managers and companies, by plaintiff Chateau Fiduciaire, as trustee of The Map Trust, and claims to be a class-action suit.

Also listed as a defendant is the Tremont Group and several entities associated with it, including Tremont (Bermuda) Ltd. Tremont is a fund of hedge funds investment specialist.

The lawsuit accuses both Argus and Tremont of negligent misrepresentation, unjust enrichment and breaches of fiduciary duty.

Argus chief executive officer Gerald Simons said yesterday: "Argus vehemently denies the allegations against it."

An attorney from the law firm that filed the case said yesterday that more potential plaintiffs, all of whom were based in the US, had contacted them. According to the lawsuit, Argus wrote to policyholders last Friday saying that those whose cash surrender value — the amount available in cash on cancellation of the policy — was negative would be required to pay a premium by February 28 or their policy would lapse.

The plaintiff alleged that Argus, Tremont and the other defendants acted with "gross negligence" and "recklessness" in their investing with Madoff, despite the "red flags" around the Wall Street trader's funds.

The Argus Group acquired Tremont's Bermuda-based life insurance unit, Tremont International Insurance Ltd., and its book of policies, in 2007. The lawsuit, filed on Tuesday in the United States District Court, Southern District of New York, claimed to be on behalf of all people who bought variable universal life insurance (VUL) policies issued by TIIL or Argus International Life Bermuda Ltd. from January 1, 2003 through the present.

VUL policies enjoy some US tax advantages and allow a policy holder to build a cash value that can be invested in a choice of separate accounts, similar to mutual funds. The investment returns, which can be used to pay the policy's premiums, do not incur US income tax, as long as the life insurance policy remains in force.

When Argus bought TIIL, Tremont Capital Management continued to provide investment advice for existing TIIL policies. Rye Investment Management, a division within the Tremont Group, oversaw some of the funds related to the life insurance policies.

The lawsuit claims that "Rye had $3.3 billion, virtually all of its assets under management, invested with Madoff" while Tremont Capital had another $200 million invested with the alleged fraudster.

According to the lawsuit, Argus wrote by e-mail to affected policyholders on December 23 last year and told them trading in Rye funds had been suspended because of exposure to Madoff. Lawyers acting for Argus had contacted the fund managers requesting further information, and policy provisions and death benefits would remain in place until the end of January, the e-mail added.

On January 16, Argus sent out another e-mail saying the suspension of trading in the Rye funds had caused Argus to write down the value of those investments to zero.

According to the lawsuit, the e-mail added: "Unfortunately, this may have caused your policy to have a negative cash surrender value or will cause to do so in the near future."

The Map Trust bought its VUL policy from TIIL in July 2000. The Trust was set up in 1997 by the late David Fine, on behalf of his children, including Mark Fine. The policy, on the life of Mark Fine, was bought with an initial premium of more than $345,000 and a minimum death benefit of $6.36 million.

Large sums of money has been paid into the policy over the years, to the point where it had a reported cash value of more than $2.6 million, as of August 2008. The minimal annual premium for this policy was $100,000.

The suit states: "Due to Argus' negligence and inadequate oversight, the investment opportunities afforded VUL policyholders resulted in the decimation of the variable investment account component of their VULs and placed those VUL policies at imminent risk of lapsing.

"Plaintiff and other members of the class now find themselves without the income they believed they had accumulated over time and at acute risk of immediate loss of their death benefits."

It is believed that many of the clients in question would be high net worth individuals. TIIL started marketing the VUL policies in the mid-1990s, targeting people with a net worth of more than $1 million and an annual income of more than $200,000, according to the lawsuit.

Commenting on the lawsuit yesterday, Mr. Simons said: "We have become aware of the filing of a lawsuit by a private person on January 20, 2009 in federal court in New York against Argus International Life Bermuda Ltd. and Argus Group Holdings Ltd., among many others. The lawsuit purports to be a class action on behalf of persons who purchased or held variable universal life insurance (VUL) policies offered by Argus International Life Bermuda Ltd. or its predecessor.

"The complaint alleges state law claims relating to one of the investment options made available to policyholders for the variable investment account component of the VULs that was negatively impacted by the Madoff scandal. Argus vehemently denies the allegations against it."

Daniel Krasner, a partner with Wolf Haldenstein Adler Freeman & Herz LLP, the law firm which filed the suit, said he did not know exactly how many people were eligible to join the class action, but added: "We believe it's in the hundreds and maybe in the thousands." Hundreds of millions of dollars were involved, Mr. Krasner said.

Mr. Kramer added: "Our clients bought these policies expecting them to build up a cash value and to generate income that was supposed to pay the premiums. Now, as a result of having investments with Madoff, there is no income and no policy."

"Red flags" against Madoff, claimed the lawsuit, included the abnormally high, stable positive investment results reportedly achieved by Madoff, regardless of market conditions; inconsistencies between publicly available information on Madoff's funds and purported amounts that Madoff managed for clients; and the fact that Madoff's investment firm was audited by a small and obscure accounting firm. Failure to spot them reflected a lack of due diligence on the defendants' part, the plaintiffs allege.

Numerous suits have already been filed by investors and funds around the world who have lost billions in the Madoff affair.

Argus had previously reported that some of its pension and investment funds had slight exposure to Madoff.

The case is Chateau Fiduciaire SA as trustee of The Map Trust, on behalf of itself and all other similarly situated, vs. Argus International Life Bermuda Ltd., Argus Group Holdings Ltd., Massachusetts Mutual Life Insurance Co., Oppenheimer Acquisition Corporation, Rye Investment Management, Rye Select Broad Market Fund LP, Rye Select Broad Market Insurance Portfolio LDC, Tremont (Bermuda) Ltd., Tremont Capital Management Inc., Tremont Group Holdings Inc., Tremont International Insurance Ltd. and Tremont Partners Inc.