Collateralized Debt Obligations

Investment Advisor Securities Roundup: Two Firms Settle SEC Claims That They Impeded with Examinations, FINRA Defends SRO Model, IA Allegedly Duped Private Equity Investors, & CDO Misrepresentation Accusations Against GSCP Executive Are Dismissed

Published on: December 10, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Investment advisory firms EM Capital Management and Barthelemy Group have settled SEC administrative charges that they got in the way of Commission staff examinations. Both cases were settled without the parties involved denying or admitting to the allegations.

According to the SEC, Barthelemy Group and Evens Barthelemy allegedly misled examiners by inflating claimed assets under management to make it appear as if the firm qualified for SEC legislation. To settle the claims, Barthelemy has consented to a securities industry bar. He can reapply for admission again in two years. His firm consented to a censure.

As for the proceedings against Em Capital Management and Freeman, they allegedly waited a year and a half to produce the records and books for the firm’s mutual fund advisory business. Both have consented to pay a $20,000 penalty and be censured.

SEC’s Antifraud Claim Against Goldman Sachs Executive Fabrice Tourre Won’t Be Reinstated, Says District Court

Published on: December 3, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. District Court for the Southern District of New York has refused the Securities and Exchange Commission’s request to reinstate its antifraud claim against Goldman Sachs & Co. (GS) executive Fabrice Tourre for alleged misstatements related to a collateralized debt obligation connected to subprime mortgages. Judge Katherine Forrest said that the facts did not offer enough domestic nexus to support applying 1934 Securities Exchange Act Section 10(b). To do so otherwise would allow a 10(b) claim to be made whenever a foreign fraudulent transaction had even the smallest link to a legal securities transaction based in the US, she said, and that this is “not the law.” The case is SEC v. Tourre.

The SEC had sued the Goldman and its VP, Tourre, over alleged omissions and misstatements connected with the ABACUS 2007-AC1’s sale and structuring. This 2007 CDO was linked to subprime residential mortgage-backed securities and their performance. The Commission claimed Goldman had misrepresented the part that Paulson & Co., a hedge fund, had played in choosing the RMBS that went into the portfolio underlying the CDO and that Tourre was primarily responsible for the CDO deal’s marketing and structuring.

In 2010, Goldman settled the SEC’s claims by consenting to pay $550M, which left Tourre as the sole defendant of this case. Last year, the court dismissed one of the Section 10(B) claims predicated on $150 million note purchases made by IKB, a German bank, because of Morrison v. National Australia Bank Ltd. In that case, the US Supreme Court had found that this section is applicable only to transactions in securities found on US exchanges or securities transactions that happen in this country. The court, however, did let the regulator move forward under Section 10(b) in regards to other ABACUS transactions, and also the 1933 Securities Act’s Section 17(a).

However, following Absolute Activist Value Master Fund Ltd. v. Facet in which the U.S. Court of Appeals for the Second Circuit earlier this year found that ““irrevocable liability is incurred or title passes” within the US securities transaction may be considered domestic even if trading did not occur on a US exchange, the SEC requested that the court revive the Section 10(b) claim. Although IKB was the one that had recommended the CDO to clients, including Loreley Financing, it was Goldman that obtained the title to $150 million of the notes through the Depository Trust Co. in New York. Goldman then sent the notes to the CDO trustee in Chicago before the notes were moved from the DTC to Goldman’s Euroclear account to Loreley’s account. The Commission said that, therefore, transaction that the claim was based on had closed here.

Noting in its holding that Section 10(b) places liability on any person that employs deception or manipulation related to the selling or buying of a security, the court said that the Commission was trying to premise the domestic move of the notes’ title from the CDO trustee to Goldman at the closing in New York as a “hook” to show liability under this section. The court pointed out that while the title of the transfer that took place in New York was legal and it wasn’t until later that the alleged fraud happened. The “fraud was perpetuated upon IKB/Loreley, not Goldman” so “no fraudulent US-based” title transfer related to the note purchase is “sufficient to sustain a Section 10(b) and rule 10b-5 claim against Tourre” for the transaction.

More Blog Posts:
Goldman Sachs Ordered by FINRA to Pay $650K Fine For Not Disclosing that Broker Responsible for CDO ABACUS 2007-ACI Was Target of SEC Investigation, Stockbroker Fraud Blog, November 12, 2010

Goldman Sachs Settles SEC Subprime Mortgage-CDO Related Charges for $550 Million, Stockbroker Fraud Blog, November 12, 2010

Standard & Poor’s Misled Investors By Giving Synthetic Derivatives Its Highest Ratings, Rules Australian Federal Court

Published on: November 8, 2012 | by Shepherd Smith Edwards & Kantas, LLP

A ruling by the Australian Federal Court against Standard & Poor’s could give 13 NSW councils about A$30M in compensation for their about A$16M in synthetic derivative losses. According to the court, the ratings firm misled investors by giving its highest ratings to complex investment instruments that ended up failing during the worldwide economic crisis. The councils can now claim compensation from S & P and co-defendants Royal Bank of Scotland (RBS)- owned ABN Amro Bank and the Local Government Financial Services, Ltd. The three had sold the councils constant proportion debt obligation notes, promoted as Rembrandt notes, six years ago.

Specifically to this case, Australian Federal Court Justice Jayne Jagot said that Standard & Poor’s took part in conduct that was “deceptive” when it gave AAA ratings to constant proportion debt obligations that were created by ABN Amro Bank NV. The Australian townships were among those that invested what amounted to trillions of dollars in the CPDOs, as well as in collateralized debt obligations.

The projected A$30M in compensation includes not just councils’ losses, but also interest and costs. The councils are also entitled to receive compensation for breach of fiduciary duty from LGFS, which succeeded in its own claim against Standard and Poor’s and ABN Amro for Rembrandt notes that it sold to its parent company after the notes were downgraded from their triple-A rating to triple-B+.

Institutional Investor Securities Blog: Putnam Advisory Accused of Massachusetts Securities Fraud in $3B CDO Offerings, SEC Claims Yorkville Advisors Fixed Books To Attract Investors, and FINRA Seeks Comments on Revised Proposal Over Bond Market Research

Published on: October 29, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The Massachusetts Securities Division is claiming that Putnam Advisory Co. deceived investors about its actual involvement in Pyxis 2006 and Pyxis 2007, two $1.5 billion collateralized debt obligations comprised of midprime and subprime mortgage-backed securities. In its administrative complaint, the state contends that Putnam represented to investors that it would act as an independent advisor when to the Pyxis CDOs when, in fact, Magnetar Capital, a hedge fund, was also involved creating in and structuring key aspects of both and even recommended that certain collateral to be included in them while then proceeding to take a substantial short position on that collateral. Putnam denies the allegations.

The state says that Magnetar proceeded to benefit from the downgrades of subprime assets in the two CDOs while making a net gain of about $67 million on aggressive positions and equity investments linked to the two of them. Meantime, Putnam earned $8.81 million in collateral management fees for the Pyxis CDOs. Massachusetts Secretary of Commonwealth William F. Galvin says that his office will continue to look at how banks misled the buyers of subprime mortgage-backed securitized debt instruments.

In other securities news, the SEC is accusing Yorkville Advisors LLC, its president and founder Mark Angelo, and CFO Edward Schinik of revising certain books to appeal to potential investors and succeeded in getting pension funds and funds of funds to invest $280 million into two Yorkville hedge funds. This allegedly let Yorkville charge at least $10 million in excessive fees. All three three defendants are denying the allegations.

FINRA Securities Fraud Roundup: Guggenheim Securities Fined $800K For Failure to Supervise CDO Traders, Brokerage Firm Managing TIC Securities Doesn’t Have to Arbitrate Investor Claims, & Investor Award in Morgan Keegan Funds is Upheld

Published on: October 12, 2012 | by Shepherd Smith Edwards & Kantas, LLP

FINRA is fining Guggenheim Securities, LLC $800,000 for allegedly not supervising two collateralized debt obligation traders accused of hiding a trading loss. The traders are Alexander Rekeda and Timothy Day. Rekeda, who is the financial firm’s ex-CDO Desk head, has to pay $50,000 and is suspended for a year. Day’s fine is $20,000 and he received a four month suspension. By settling, none of the parties are denying or admitting to the FINRA securities charges.

Due to a failed trade, the CDO Desk at Guggenheim acquired a €5,000,000 junk-rated tranche of a CLO in October 2008. When the desk was unable to sell the position, Rekeda and Day convinced a hedged fund client to buy the collateralized loan obligation for $950,000 more than it had initially agreed to pay by misrepresenting the CLA. FINRA said that to conceal the CLO position’s trading loss, the two traders gave the customer order tickets that upped the CLO position’s price and lowered the price of other positions. Day, allegedly at Rekeda’s order, is accused of lying to the client when the latter asked about the price modifications by saying that the CLO position had a third-party seller that had settled the trade at a higher price and wanted the customer to pay this rate. The client agreed, and, in exchange, Day and Rekeda said that they would compensate the customer via other transactions, including waiving the fees owed related to resecuritization transactions, adjusting the prices on several other CLO trades, and providing a payment in cash. No records, however, indicate that these transactions were related to the CLO overpayment.

In other FINRA securities news, the U.S. Court of Appeals for the Eighth Circuit has affirmed a district court’s ruling that a broker-dealer that acted as the managing broker-dealer in a Tenant in Common securities cannot be compelled to arbitrate claims filed by investors of the failed enterprise. In Berthel Fisher & Co. Financial Services Inc. v. Larmon, Judge Michael Melloy agreed that for the SRO’s purposes, the investors are not the financial firm’s “customers.”

Citigroup to Pay $590M to Settle Shareholder Class Action CDO Lawsuit Over Subprime Mortgage Debt

Published on: August 30, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Citigroup (C) has agreed to pay $590 million settle a shareholder class action collateralized debt obligation lawsuit filed by plaintiffs claiming it misled them about the bank’s subprime mortgage debt exposure right before the 2008 economic collapse By settling, Citigroup is not admitting to denying any wrongdoing. A federal judge has approved the proposed agreement.

Plaintiffs of this CDO lawsuit include pension funds in Illinois, Ohio, and Colorado led by ex-employees and directors of Automated Trading Desk. They obtained Citigroup shares when the bank bought the electronic trading firm in July 2007. The shareholders are accusing bank and some of its former senior executives of not disclosing that Citigroup’s CDOs were linked to mortgage securities until the bank took a million dollar write down on them that year. Citigroup would later go on to write down the CDOs by another tens of billions of dollars.

The plaintiffs claim that Citigroup used improper accounting practices so no one would find out that its holdings were losing their value, and instead, used “unsupportable marks” that were inflated so its “scheme” could continue. They say that the bank told them it had sold billions of dollars in collateralized debt obligations but did not tell them it guaranteed the securities against losses. The shareholders claim that to conceal the risks, Citi placed the guarantees in separate accounts.

Prior to the economic collapse of 2008, Citi had underwritten about $70 billion in CDOs. It, along with other Wall Street firms, had been busy participating in the profitable, growing business of packaging loans into complex securities. When the financial crisis happened, the US government had to bail Citigroup out with $45 billion, which the financial firm has since paid back.

This is not the first case Citigroup has settled related to subprime mortgages and the financial crisis. In 2010, Citi paid $75 million to settle SEC charges that it had issued misleading statements to the public about the extent of its subprime exposure, even acknowledging that it had misrepresented the exposure to be at $13 billion or under between July and the middle of October 2007 when it was actually over $50 billion. Citigroup also consented to pay the SEC $285 million to settle allegations that it misled investors when it didn’t reveal that it was assisting in choosing the mortgage securities underpinning a CDO while betting against it.

This week, Citi agreed to pay a different group of investors a $25 million MBS settlement to a securities lawsuit accusing it of underplaying the risks and telling lies about appraisal and underwriting standards on residential loans of two MBS trusts. The plaintiffs, Greater Kansas City Laborers Pension Fund and the ‪City of Ann Arbor Employees’ Retirement System,‬ had sued Citi’s Institutional Clients Group. ‬

This $590 million settlement of Citigroup’s is the largest one reached over CDOs to date and one of the largest related to the economic crisis. According to The Wall Street Journal, the two that outsize this was the $627 million that Wachovia Corp. (WB) agreed to pay over allegations that investors were misled about its mortgage loan portfolio’s quality and the $624 million by Countrywide Financial (CFC) in 2010 to settle claims that it misled investors about its high risk mortgage practices.

Citigroup in $590 million settlement of subprime lawsuit, The New York Times, August 29, 2012

Citi’s $590 million settlement: Where it ranks, August 29, 2012

Citigroup Said To Pay $75 Million To Settle SEC Subprime Case, Bloomberg, July 29, 2010

More Blog Posts:

Morgan Keegan Settles Subprime Mortgage-Backed Securities Charges for $200M, Stockbroker Fraud Blog, June 29, 2011

Wells Fargo Securities Settles for Over $6.5M SEC Charges Over Allegedly Improper Sale of ABCP Investments with Risky MBS and CDOs

Published on: August 14, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The SEC is charging Wells Fargo Securities, formerly known as Wells Fargo Brokerage Services, and former VP Shawn McMurtry for selling complex investments to institutional investors without fully comprehending the investments’ level of sophistication or disclosing all of the risks involved to these clients. To settle the securities charges, Wells Fargo will pay a penalty of over 6.5 million, $16,571.96 in prejudgment interest, and $65,000 in disgorgement.

According to the Commission, Wells Fargo engaged in the improper sale of asset-backed commercial paper that had been structured with risky collateralized debt obligations and mortgage-backed securities to non-profits, municipalities, and other clients. The SEC contends that the financial firm did not secure enough information about the instruments, even failing to go through the investment private placement memoranda (and the risk disclosures in them), and instead relied on credit ratings. With this alleged lack of comprehension of the actual nature of these investment vehicles and the risks and volatility involved, as well as having no basis for making such recommendations, Wells Fargo’s Institutional Brokerage and Sales Division representatives went ahead and recommended the instruments to certain investors who had generally conservative investment objectives.

These allegedly improper sales happened between January and August 2007 when representatives recommended to certain institutional investors that they buy ABCP that were structured investment vehicles that were primarily CDO and MBS-backed (SIVs and SIV-Lites). Unfortunately, a number of the investors that did buy the SIV-issued ABCP, per Wells Fargo’s recommendation, lost money when 3 of these programs defaulted that same year.

Stockbroker Securities Roundup: Criminal Convictions Vacated Against Six Charged in Front Running Scam and Citigroup Broker Cleared in $1B CDO Deal SEC Case

Published on: August 11, 2012 | by Shepherd Smith Edwards & Kantas, LLP

The U.S. Court of Appeals for the Second has vacated the convictions of six brokers who were criminally charged in a front-running scam to give day traders privileged information via brokerage firms’ squawk boxes. The case is United States v. Mahaffy.

Judge Barrington Parker said that confidence in the jury’s verdict was undermined because the government did not disclose a number of SEC deposition transcripts “pursuant to Brady v. Maryland, 373 U.S. 83 (1963).” Also, noting that there were flaws in the instructions that the jury was given, the second circuit vacated the honest-services fraud convictions that they had issued against the defendant.

The brokers, who were employed by different brokerage firms, had been charged for conspiring to provide A.B. Watley day traders confidential data about securities transactions. This entailed putting phone receivers close to the broker-dealers internal speaker systems so that the traders could make trades in the securities that were squawked before the customer orders were executed.

Investment Adviser Roundup: Two Firms Pay Over $47M For Alleged Failure to Properly Disclose Allegations, District Court Allows Claims Involving Excessive Mutual Fund Fees, and Conn. Firm to Settle CDO Misrepresentation Allegations for $1.62M

Published on: February 28, 2012 | by Shepherd Smith Edwards & Kantas, LLP

Investment Advisory Firms Settle SEC’s Failure to Disclose Mutual Fund Risk Allegations for Over $47M

Claymore Advisors LLC and Fiduciary Asset Management LLC have agreed to pay over $47 million to settle SEC proceedings related to the roles that they allegedly played in failing to properly disclose the risky derivative strategies of a closed-end mutual fund. The strategies are partially to be blame for the collapse of the

Fiduciary/Claymore Dynamic Equity Fund (HCE) during the economic crisis. The two firms are resolving the claims without denying or admitting to wrongdoing, and some of the money will go toward reimbursing shareholders.

Citigroup’s $285M Settlement With the SEC Is Turned Down by Judge Rakoff

Published on: November 28, 2011 | by Shepherd Smith Edwards & Kantas, LLP

U.S. District Judge Jed S. Rakoff has turned down the proposed $285M settlement between the SEC and Citigroup Global Markets Inc. However, unlike with the SEC’s tentative $33M settlement with Bank of America that he rejected, eventually approving a $150 million settlement between both parties-this time, Rakoff is ordering the SEC and Citigroup to trial.

The SEC claimed Citigroup sold Class V Funding III right as the housing market fell apart in 2007 and then bet against the $1 billion mortgage-linked collateralized debt obligation. Meantime, the financial firm allegedly failed to tell clients about this conflict of interest. Investors would go on to lose nearly $700 million over the CDO, while Citigroup ended up making about $160 million.

To many observers, Rakoff’s decision doesn’t come as a surprise. He has expressed concern with the SEC’s handling of securities cases for some time. In his ruling today, Rakoff was very clear in stating that he didn’t believe the tentative agreement was “fair… reasonable… adequate, nor in the public interest.” He also called for the “underlying facts” and made it clear that the SEC’s typical boilerplate settlement, which usually involves the other party agreeing to the terms but not admitting to or denying wrongdoing, was not going to suffice.

Until now, the SEC’s settlement policy has allowed the Commission to declare a victory while letting defendants get away with not acknowledging any wrongdoing so that private plaintiffs cannot use such an outcome in litigation against them. Now, however, Rakoff wants the court and the public to actually learn whether or not Citigroup acted improperly.

Also in his opinion, Rakoff spoke about how the current settlement doesn’t do anything for the investors that Citigroup allegedly defrauded of hundreds of millions of dollars. Not only that but the SEC isn’t promising to compensate the alleged securities fraud victims.

For now, the trial between Citigroup and the SEC is scheduled for July 2012. However, the Commission could decide to appeal Rakoff’s ruling and ask an appellate court to either make him accept the $285 million settlement or appoint a new judge to the case. According to the New York Times, however, this could prove challenging because a writ of mandamus would be required.

Our securities fraud law firm has had it with financial firms defrauding investors and then getting away with this type of misconduct. It is our job to help our clients recoup their losses whether via arbitration or in court.

Behind Rakoff’s Rejection of Citigroup Settlement, NY Times, November 28, 2011
Judge to SEC: Stop settling, start really suing, OC Register, November 28, 2011
Read Judge Rakoff’s Opinion

More Blog Posts:
Citigroup’s $285M Mortgage-Related CDO Settlement with Raises Concerns About SEC’s Enforcement Practices for Judge Rakoff, Institutional Investor Securities Blog, November 9, 2011
Bank of America To Settle SEC Charges Regarding Merrill Lynch Acquisition Proxy-Related Disclosures for $150 Million, Stockbroker Fraud Blog, February 15, 2010
Ex-Goldman Sachs Director Rajat Gupta Pleads Not Guilty to Insider Trading Charges, Stockbroker Fraud Blog, October 26, 2011 Continue Reading ›