In a unanimous July 16th decision, the New York Appellate Division held that MF Global, Inc.’s loss sustained on account of the commodities trading activities of its employee was a “direct financial loss” under MF Global’s fidelity insurance bonds, clearing the way for MF Global to potentially recover over $141 million in losses. The decision is New Hampshire Insurance Co. v. MF Global, Inc., --- N.Y.S.2d ----, 2013 WL 3584068 (N.Y. App. Div. July 16, 2013). Importantly, the MF Global decision departs from one of the cases most frequently cited by insurers on the “direct loss” issue that often arises in the context of fidelity bonds, Aetna Casualty & Surety Co. v. Kidder, Peabody & Co. Inc., 246 A.D.2d 202 (N.Y. App. Div. 1998), in which the Appellate Division previously determined that there was no coverage for settlement amounts relating to the misconduct of Kidder, Peabody & Co.’s employee, Martin Siegel, in providing confidential information relating to corporate takeovers and mergers to arbitrageur Ivan Boesky.
By way of background, fidelity bonds are purchased to protect an insured, among other things, from “loss” arising out of the fraudulent or dishonest acts of the insured’s employees. There is, however, a contentious and long-running debate between insurers and insureds concerning the scope and meaning of the term “direct” that typically modifies “loss” in fidelity bonds. This issue frequently arises in the context of third-party claims against an insured/employer resulting from employee misconduct that causes loss to the third party. Insureds argue that the “direct” requirement is satisfied if the employee misconduct proximately causes the insured’s loss, irrespective of whether the loss comes in the form of a third-party judgment or settlement. Insurers, on the other hand, usually take a narrow view and argue that the “direct” requirement is not satisfied unless the loss to the insured is immediate, as in the case of embezzlement, and therefore the requirement simply cannot be satisfied in the context of third-party claims. Leading insurance law treatises highlight the disagreement on these issues, although clearly reflecting the majority view that third-party claims are at least potentially covered under fidelity bonds. Couch on Insurance states the rule of law as follows:
The loss covered by an employee's fidelity bond is not necessarily limited to loss directly resulting from the employee's act, such as embezzlement. To the contrary, it may include liability on the part of the insured resulting from the application of the principles of vicarious liability. In other words, a bond insuring against loss sustained by reason of dishonesty, fraud, embezzlement, and so forth, covers losses imposed by the creation of liability to third persons.
The New York Appellate Division’s decision in MF Global clarifies New York law on these issues. Although the prior Kidder, Peabody decision, in stating that “a fidelity bond is not a liability policy within the meaning of the Insurance Law,”  indicated that third-party claims might never be covered under fidelity bonds under New York law, the MF Global decision clarifies that the proper focus is on the proximate cause of loss and specific insurance language under consideration.
In the MF Global case, MF Global’s employee, Evan Dooley, traded commodities futures on the Chicago Mercantile Exchange’s (CME) overnight electronic exchange, apparently well in excess of his margin, and entered into a large number of “sell contracts” for various commodities, primarily May wheat. 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, Dooley’s trades would be profitable, but if the price increased, a loss would ensue. The latter occurred. The price of May wheat rose quickly when trading resumed the following day and Dooley liquidated his positions, sustaining a final loss of over $141 million. MF Global, as a clearing house member of CME, was legally obligated to cover all losses incurred on its accounts as a result of Dooley’s trades. Because of the large amount, the CME Clearing House requested an intraday settlement from MF Global to cover the loss.
MF Global recorded the loss on its books as a bad debt and submitted a claim for the loss under its primary and excess financial institution bonds. In response, the insurers initiated a declaratory judgment action, in which they alleged, among other things, that “MF Global’s claim is not covered… because Dooley’s trades did not cause MF Global a direct financial loss….”
The primary bond’s insuring clause (which is incorporated by reference into the excess bonds) states that the insurers will indemnify FM Global for “loss” as follows:
The insurer will indemnify the insured for their loss sustained at any time for:
(i) any wrongful act committed by an employee, or
(ii) any theft, fraudulent act or malicious act committed by any other person, which is committed with the intent to cause the insured to sustain a loss or with the intent to obtain financial gain for themselves or another person or entity they intended to obtain such gain and is first discovered by the insured during the bond period or the discovery period.
The bonds define “loss” as “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 also exclude coverage for “[i]ndirect or consequential loss.” Relying principally on the “direct financial loss” verbiage, the insurers noted that “Dooley did not directly embezzle money from MF Global’s accounts” and alleged that “MF Global’s liability to cover Dooley’s loss is an indirect loss outside the scope of coverage afforded by the Bonds and is excluded from coverage.” The trial court disagreed and denied the insurers’ motion for summary judgment, finding that “the alleged loss was directly incurred by [MF] Global.” The insurers appealed.
The New York Appellate Division affirmed the trial court’s decision. Employing a proximate cause analysis, the Appellate Division found that “Dooley’s conduct in making unauthorized trades beyond his margin was the direct and proximate cause of MF Global’s loss.” The Appellate Division concluded that the trial court “properly concluded that MF Global’s loss constituted a ‘direct financial loss.’” The Appellate Division distinguished its prior 1998 decision in Kidder, Peabody on the basis that the settlement payments in that case “were made by [the insured] years after the employee’s misconduct” and stemmed from what the court termed an “attenuated chain” of events, which included “the employee’s misconduct, which caused pricing irregularities in the stock, which led to losses to the investors, which led to litigation, which concluded in a settlement years after the employee’s misconduct.”
The MF Global decision on these important issues warrants attention from insureds and insurers alike.
 11 Couch on Insurance § 161:58 (2012). Appleman on Insurance phrases the rule differently. While conceding that “[l]osses incurred because of liability to others caused by the employee’s default may… be covered,” Appleman states that “[n]ewer authority… has held that the liability of the insured-employer to third parties based upon the fraudulent or dishonest act of an employee does not constitute a loss under the employer’s fidelity policy.” 9af-221f Appleman on Insurance § 5666 (2013).
 Aetna Cas. & Sur. Co., 246 A.D.2d at 212 (citing 175 East 74th Corp. v. Hartford Acc. & Indem. Co., 416 N.E.2d 584 (N.Y. 1980)).
 The issue of whether Dooley was the insured’s “employee” as defined in the fidelity bonds remains an issue in the case and is the subject of ongoing discovery.
 CME is a financial and commodity derivative exchange based in Chicago.
 See MF Global, 2013 WL 3584068, at *2.
 Amended Complaint ¶45.
 Id. ¶44 (emphasis in original, quoting primary bond, Insuring Clause 1).
 MF Global, 2013 WL 3584068, at *1.
 See id.
 See Amended Complaint ¶48.
 Id. ¶51.
 MF Global, 2010 WL 3927114, at *4. The trial court also rejected the insurers’ additional arguments that Dooley was not an employee of MF Global, and Dooley did not commit a “fraudulent act,” or a “wrongful act,” each as defined in the bonds.
 MF Global, 2013 WL 3584068, at *2.