Tag Archives: Morgan Stanley

Is Banks’ $200 Billion Payout from RMBS Lawsuits Enough?

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S&P issued a brief, The Largest U.S. Banks Should Be Able To Withstand The Ramifications Of Legal Issues, that quantifies the exposure that big banks have from litigation arising from the Subprime Crisis:

Since 2009, the largest U.S. banks (Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley, and Wells Fargo) together have paid or set aside more than $45 billion for mortgage representation and warranty (rep and warranty) issues and have incurred roughly $50 billion in combined legal expenses .  . . This does not include another roughly $30 billion of expenses and mortgage payment relief to consumers to settle mortgage servicing issues. We estimate that the largest banks may need to pay out an additional $55 billion to $105 billion to settle mortgage-related issues, some of which is already accounted for in these reserves. (2)

S&P believes “that the largest banks have, in aggregate, about a $155 billion buffer, which includes a capital cushion, representation and warranty reserves, and our estimate of legal reserves, to absorb losses from a range of additional mortgage-related and other legal exposures.” (2) As far as their ratings go, S&P has already incorporated “heightened legal issues into our ratings, and we currently don’t expect legal settlements to result in negative rating actions for U.S. banks.” (2) But it warns, “an immediate and unexpected significant legal expense could result in the weakening of a bank’s business model through the loss of key clients and employees, as well as the weakening of its capital position.” (2) S&P also acknowledges that there are some not yet quantifiable risks out there, such as DoJ’s FIRREA suits.

As the endgame of the financial crisis begins to take shape and financial institutions are held accountable for their actions, one is left wondering about a group who is left relatively unscathed: financial institution employees who received mega bonuses for involving these banks in these bad deals. As we think about the inevitable next crisis, we should ask if there is a way to hold those individuals accountable too.

Racial Discrimination in the Secondary Mortgage Market

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Judge Baer issued an opinion in Adkins et al. v. Morgan Stanley et al., No 1:12-cv-07667 (July 25, 2013), denying Morgan Stanley’s motion to dismiss the plaintiff-homeowners’ Fair Housing Act claims. The homeowners claimed “that Morgan Stanley’s policies and practices caused New Century Mortgage Company to target borrowers in the Detroit, Michigan region for loans that had a disparate impact upon African-Americans” in violation of the FHA. (1)

The Court found that the plaintiffs met their pleading burden sufficient to survive a motion to dismiss:

First, they have identified the policy that they allege has a disproportionate impact on minorities.  That policy consisted of Morgan Stanley

(1) routinely purchasing both stated income loans and loans with unreasonably high debt-to-income ratios,

(2) routinely purchasing loans with unreasonably high loan-to-value ratios,

(3) requiring that New Century’s loans include adjustable rates and prepayment penalties as well as purchasing loans with other high-risk features,

(4) providing necessary funding to New Century, and

(5) purchasing loans that deviated from basic underwriting standards.

Plaintiffs go on to state that these policies resulted in “New Century aggressively target[ing] African-American borrowers and communities . . . for the Combined-Risk Loans.”  (Compl. ¶ 81.) Indeed, Plaintiffs allege in detail the effect that New Century’s lending had upon the African-American community in the Detroit area. (Compl. ¶¶ 115–122).  That lending, according to Plaintiffs, was a direct result of Morgan Stanley’s policies.  And while Plaintiffs do not allege that they qualified for better loans, they allege discrimination based only upon the receipt of these predatory, toxic loans that placed them at high financial risk.  These risks exist regardless of Plaintiffs’ qualifications.  On a motion to dismiss, these allegations are sufficient to demonstrate a disparate impact. (11)

The opinion goes farther afield than the questions presented at points. For instance, Judge Baer writes,

Detroit’s recent bankruptcy filing only emphasizes the broader consequences of predatory lending and the foreclosures that inevitably result.  Indeed, “[b]y 2012, banks had foreclosed on 100,000 homes [in Detroit], which drove down the city’s total real estate value by 30 percent and spurred a mass exodus of nearly a quarter million people.”  Laura Gottesdiener, Detroit’s Debt Crisis:  Everything Must Go, Rolling Stone, June 20, 2013.  The resulting blight stemming from “60,000 parcels of vacant land” and “78,000 vacant structures, of which 38,000 are estimated to be in potentially dangerous condition” has further strained Detroit’s already taxed resources.  Kevyn D. Orr, Financial and Operating Plan 9 (2013).  And as residents flee the city, Detroit’s shrinking ratepayer base renders its financial outlook even bleaker.  Id.  Given these conditions, it is not difficult to conclude that Detroit’s current predicament, at least in part, is an outgrowth of the predatory lending at issue here.  See Monica Davey & Mary Williams Walsh, Billions in Debt, Detroit Tumbles Into Insolvency, N.Y. Times, July 18, 2013, at A1 (listing Detroit’s “shrunken tax base but still a huge, 139-square-mile city to maintain” as one factor contributing to the city’s financial woes). (3-4)

This kind of judicial history does not seem to speak to the legal issue at hand and may negatively impact its reception on appeal. Furthermore, all Fair Housing Act cases will be impacted by the Supreme Court’s decision in Mount Holly v. Mount Holly Gardens Citizens in Action, Inc. for which it has recently granted cert. In that case, the Supreme Court will decide whether disparate impact is a cognizable claim under the Fair Housing Act.

But, whatever happens in the future, Adkins proceeds apace for now.

A Bransten Trio Join Judicial Chorus on Misrepresentation

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Justice Bransten, a judge in the Commercial Division of the N.Y. S. Supreme (trial) Court, issued three similar decisions last week denying motions to dismiss lawsuits by Allstate over its purchase of hundreds of millions of dollars of MBS. The net result is that various Deutsche Bank, BoA’s Merrill Lynch and Morgan Stanley entities must continue to face allegations of fraud relating to those purchases.

In the Deutsche Bank case, the court rejected “the notion that defendants are immunized from liability because the Offering Materials generally disclosed that the representations were based on information provided by the originators.”  (22)

The court also found that “defendants can be held liable for promoting the securities based upon the high ratings from the credit rating agencies, if, as alleged, thy knew the ratings were based on false information provided to the agencies.” (22)  Finally, the court found that “Defendants’ occasional disclaimers cannot be invoked to excuse the wholesale abandonment of underwriting standards and practices.”  (24-25)

Justice Bransten joins a growing chorus of judges who reject the notion that vague disclosures can protect parties who engage in rampant misrepresentation.  One wonders how this body of law will impact the behavior of Wall Street firms during the next boom.

 

Massachusetts Superior Court Holds that Assignee of Residential Mortgage Backed Securities has Standing to Seek Statutory Damages

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In Cambridge Place Inv. Mgmt., Inc. v. Morgan Stanley & Co., No. 10-2741-BLS1, 2012 WL 5351233, at *20 (Mass. Super. Ct. Suffolk Co. Sept. 28, 2012), the Superior Court of Massachusetts held that Cambridge Place Investment Management, Inc. (CPIM), as assignee of residential mortgage backed securities, had standing to seek damages under the Massachusetts Uniform Securities Act (MUSA) that resulted from alleged false and/or misleading statements made by the “underwriters, dealers, and depositors of the securities at issue.” In this case, the assignor of the securities was a group of nine hedge funds that had received advice from CPIM to purchase the securities at issue. The securities turned out to produce “substantial losses” for the hedge funds. In order to recoup their losses, CPIM further advised the hedge funds to assign the securities to it, so that it could bring an action in Massachusetts state court.

The underwriters, dealers, and depositors of the securities (Morgan Stanley) argued that CPIM lacked standing for three reasons: “First, [Morgan Stanley] contend[s] that the assignments of claims were done for an “improper purpose”—to collusively destroy federal diversity jurisdiction. . . . Second, [Morgan Stanely] argue[s] that the remedies under MUSA are only available to the direct purchaser of the securities, and, as assignee, CPIM lacks privity with [Morgan Stanely]. . . . Third, [Morgan Stanley] assert[s] that CPIM lacks standing to seek the rescission of the securities because rescission is a personal right that is not assignable.” The court addressed these arguments, rejecting each in turn.

The court held that the first argument must be rejected because “[e]ven if the assignments were made collusively to destroy federal diversity jurisdiction, that, in itself, does not invalidate them. . . . [T]hat the assignments were improperly made to CPIM only affects their validity under federal jurisdictional law, and do not affect their validity under state law.” The court found that for this argument to be accepted, Morgan Stanley needed to show “additional facts to invalidate the assignments under state law.”

The court then rejected Morgan Stanley’s second argument. In doing so, it characterized CPIM as an investment advisor, and applied a functional test “based on the decision-making authority that the investment advisor possessed.” Quoting a Massachusetts district court case, the court stated the test as follows: “as long as the investment advisor has discretion in determining what securities to buy and sell, it qualifies as a purchaser with standing to bring a securities fraud action.” The court then found that CPIM sufficiently alleged that it had discretion in determining what securities to buy and sell.

The court finally rejected Morgan Stanley’s final argument, stating, “The court is unwilling to conclude that CPIM’s claim is ‘personal’ and not subject to assignment. . . . Accordingly, CPIM is entitled to assert all available statutory remedies, including rescission.”