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updated 5/11/2010 4:14:51 PM ET 2010-05-11T20:14:51

In the late 1990s, executives at the financial advisory firm Ivy Asset Management decided something about Bernard Madoff didn't add up, and began urging clients to back away from the man later revealed to be Wall Street's greatest fraudster.

Those warnings weren't loud enough, New York's attorney general now says.

The state sued Ivy and two of its former executives Tuesday, claiming they had "disturbing" evidence years ago that Madoff was lying about his investment methods, but played down those suspicions because they feared losing millions of dollars in management fees.

Ivy's customers, which included several union pension funds, wound up losing $227 million when the scheme collapsed, according to the suit.

"Ivy and its former co-principals saw the trouble with Madoff coming around the bend, but instead of guiding their clients through the financial waters, they sold them down the river," Attorney General Andrew Cuomo said in a statement.

The company and its two former executives, CEO Lawrence Simon and CIO Howard Wohl, vigorously disputed the charges.

Simon's lawyer released several e-mails sent to some of Ivy's customers between 1997 and 2001 in which he urged them to reduce their Madoff investments.

"Despite Madoff's stellar record, we continue to be concerned by his unwillingness to be fully forthcoming about capital under management and other aspects of his business, and we reiterate our strong recommendation that the outsized allocations to this strategy be reduced," Simon said in a memo to one client in 2000.

In another memo a year earlier, Simon told another investor that "we cannot 'close the loop' (on Madoff) in a manner that gives us total comfort."

Ivy's chief restructuring officer, Douglas Squasoni, said the company would defend itself against the suit.

"Ivy informed its clients that it had questions about Madoff that it could not answer and recommended to its clients that they reduce their exposure to Madoff," he said in a written statement. The clients who lost money were primarily other investment advisers who chose to ignore the firm's warnings, he said.

Ivy is now owned by Bank of New York Mellon Corp. Mellon had previously acknowledged in public filings that it was a subject of an investigation by Cuomo's office and said it was in discussions about a possible settlement.

Cuomo's civil suit focused on internal e-mails showing that Ivy had repeatedly analyzed Madoff's purported investment strategy and failed to make sense of it.

As early as 1997, the suit said, Ivy managers had evidence that Madoff wasn't executing the huge volume in stock trades he claimed to be making. By 1998, they decided that they shouldn't invest further with Madoff, but waffled over what action to take.

"Are we prepared to take all the chips off the table, have assets decrease by over $300 million and our overall fees reduced by $1.6 million or more, and, one wonders if we ever 'escape' the legal issue of being the asset allocator and introducer, even if we terminate all Madoff related relationships?" Simon wrote in en e-mail dated Dec. 16, 1998.

Cuomo's suit acknowledges that the firm did, indeed, begin warning some clients away from Madoff, but claims it didn't tell others who had already invested heavily.

Spokespeople for Wohl and Simon denied that allegation, saying they had repeatedly sounded the alarm, only to be rebuffed.

"These fund managers rejected his counsel, and their investors suffered significantly as a result," Wohl's spokesman said in a statement. It added that Wohl "never knew or concluded that Madoff was running a Ponzi scheme."

"It is regrettable that the Attorney General would turn this situation on its head by suing Mr. Wohl who shared his Madoff concerns, while not pursuing the fund managers."

Simon's attorney, Paul Shechtman, called the lawsuit an "unwarranted attack" on an honest man.

The e-mails released by the two sides paint a picture of a company that had serious questions about Madoff, but no smoking gun.

In one message, Wohl responded to a subordinate who had attempt to analyze Madoff's mystifying stock success by writing, "Ah, Madoff. You omitted one other possibility — he's a fraud!"

Madoff, 72, is serving a 150-year prison term after admitting that his investment advisory business never bought any securities. Instead, he used new investments to pay returns to existing clients.

Copyright 2010 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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