Bear Stearns has been ordered by a US court to pay nearly $160 million to investors in a collapsed hedge fund that was administered and audited in Bermuda.

The Manhattan Investment Fund folded seven years ago, leaving investors with losses of more than $400 million.

Judge Burton Lifland’s ruling, at a bankruptcy hearing in New York, stated that Bear Stearns, as prime broker in the fund, was trying to cover its own potential losses and did not investigate thoroughly after learning of possible fraud at Manhattan Investment.

Deloitte & Touche, the Fund’s Bermuda auditors, agreed three years ago to pay out $32 million in a settlement relating to its part in the collapse, while Fund Administration Services (Bermuda) Ltd., an affiliate of Ernst & Young who administered the Fund, paid out $40.8 million.

The case was highlighted in the latest OffshoreAlert news letter, published by the KYC News website.

The news letter stated the award was based on $125 million in margin payments that the Fund made to Bear Stearns from its account at the Bank of Bermuda in the year before the Fund filed for bankruptcy in March 2000, plus pre-judgement interest of $34 million.

The Fund allegedly claimed to have made large profits, when it was actually losing millions. The scandal came to light when Deloitte & Touche withdrew approval for the Fund’s financial statements for 1996, 1997 and 1998.

Around 280 investors lost money after the Fund’s Austria-born Fund manager Michael Berger’s attempt to sell short overvalued technology stocks failed in a rising market.

Judge Lifland said that after suspecting as early as December 1998 that there had been misrepresentation of results by the Fund, Bear Stearns had done little more than ask Berger what was happening. “Based upon the information it had, Bear Stearns was required to do more than simply ask the wrongdoer if he was doing wrong,” stated the judge.

“Diligence requires consulting easily obtainable sources of information that would bear on the truth of any explanation received from the potential wrongdoer.”

The Fund was registered in the British Virgin Islands. In 2001, Berger was found liable for securities fraud and ordered by a New York court to pay $20 million.

The ruling against Bear Stearns, adds to the pressure on securities firms to monitor hedge funds, which pay Wall Street about $10 billion annually in fees for prime-brokerage services. Bear Stearns charged the Manhattan Investment Fund $2.4 million for its services between 1996 and 2000.

US regulators are already investigating whether the securities industry sets strict enough limits when lending to hedge funds, and the US Securities and Exchange Commission has said that prime brokers should be a “window” into their dealings.

“This is going to send shock waves through many prime brokers, because they’ve been very careful to limit their responsibility for their customers’ actions,” Michael Missal, head of the regulatory practice at Kirkpatrick & Lockhart Preston Gates Ellis in Washington, told Bloomberg News. “They do not want to be seen as insurers for their clients.”