The ice is beginning to crack beneath Millennium Partners, the big New York hedge fund run by Wall Street trader and buyout specialist Israel Englander.

Over the past several months, lawyers and other sources say, investors have pulled $800 million out of Millennium, in the wake of a guilty plea last September by Millennium trader Steve Markovitz to making illegal mutual fund trades. The redemptions, which sources say coincide with the departure of several traders and back-office employees, have slashed Millennium's total assets under management to about $3.2 billion.

The drop in assets under management is particularly sharp -- Millennium had $3.3 billion in its offshore fund as of the end of December plus about $1 billion in its fund for domestic investors, according to the Center for International Securities and Derivatives at the University of Massachusetts.

More troubling, legal sources say, state and federal securities regulators looking into allegations of improper trading in the $7 trillion mutual fund industry are stepping up their inquiry into Millennium's role in the scandal. Lawyers familiar with the investigation believe the renewed focus on Millennium could be a prelude to the filing of additional criminal charges, or the imposition of a stiff fine on the giant hedge fund.

In recent weeks, a number of witnesses familiar with Millennium and Markovitz have appeared before a New York State special grand jury that is investigating the mutual fund industry, several sources said. One person familiar with the investigation said the grand jury has heard testimony from a number of people in the "Markovitz universe.''

Markovitz, one of the first people on Wall Street arrested in the far-reaching mutual fund trading scandal, pleaded guilty to making illegal late trades in shares of mutual funds. In pleading guilty, Markovitz agreed to cooperate with prosecutors and his sentencing has been delayed several times while Spitzer's office continues its investigation.

Late-trading and market-timing are the two main trading offenses at the center of the mutual fund investigation. Late-trading, which is illegal, involves buying shares of a mutual fund after the close of trading, but at an old price that doesn't reflect the impact of late-breaking market developments. Market-timing, which is not illegal, entails the frequent trading of mutual fund shares, often in violation of fund company rules.

Despite the increased grand jury activity, prosecutors are not believed to be close to filing criminal charges against anyone else at Millennium. People familiar with the inquiry said investigators with New York Attorney General Eliot Spitzer are still trying to determine what, if anything, Englander may have known about any improper mutual fund trading.

Englander, because of his past dealings with some of Wall Street's more notable characters, would represent a high-profile catch for securities regulators.

Back in the 1980s, Englander was a friend of convicted Wall Street felon Ivan Boesky. Later, he was partner in a buyout firm with John Mulheren, the storied arbitrager who was arrested on gun charges in 1988. Mulheren, who died late last year, was convicted of insider trading in the investigation that brought down Boesky. The conviction was later thrown out on appeal.

A Spitzer spokesman declined to comment. A Millennium attorney, Martin Pershetz, a former federal prosecutor and a partner at Schulte Roth & Zabel in New York, didn't return phone calls over a period of several days. Harry Davis, another Schulte Roth attorney who does work for Millennium, declined to comment. Tom Daly, a spokesman for the fund, also declined to comment.

The increased grand jury activity comes at a time when Millennium is taking steps to fortify its regulatory and compliance operation. Last month the hedge fund hired Simon Lorne, a former Securities and Exchange Commission general counsel, as a vice chairman and chief legal officer.

Some people familiar with the Millennium investigation see Lorne's hiring as setting the stage for a possible settlement between Millennium and regulators and prosecutors.

Regulators have long eyed the dozens of hedge funds that reaped big profits from improper trading as potential deep pockets for reimbursing mutual fund shareholders. previously reported that Spitzer's office and the SEC advised Veras Investment Partners, another hedge fund, to set aside more than $100 million to cover the cost of a possible settlement for its role in the trading scandal. The Sugar Land, Texas, hedge fund, which is in the process of closing down, allegedly made improper trades in shares of funds sold by Fred Alger Management and Federated Investors ( FII).

The mutual fund investigation began last September with Spitzer's announcement that he had reached a $40 million settlement with Canary Capital Partners, the New Jersey hedge fund run by Edward Stern.

Meanwhile, the exodus of investors from Millennium could have been far worse than the $800 million that's already been taken out. Under Millennium's partnership agreements, investors are generally obliged to leave their money in the funds for a minimum of three years.

A spokesman for the fund also declined to comment on the investor withdrawals.