Opinion

Alison Frankel

New brief: Morgan Stanley, rating agencies conspired on 2007 SIV

Alison Frankel
Oct 10, 2012 23:45 UTC

A few months ago, plaintiffs’ lawyers at Robbins Geller Rudman & Dowd created quite a stir when they filed thousands of pages of deposition transcripts and other juicy discovery in an investors’ fraud case against Morgan Stanley, Standard & Poor’s and Moody’s. The documents — exhibits to the investors’ summary judgment motion — included never-before-seen internal communications between Morgan Stanley and the rating agencies as they worked on a structured investment vehicle known as Cheyne, putting on public display the allegedly half-cocked evaluations that Moody’s and S&P performed in 2005, when they were swamped with subprime mortgage-backed financial instruments to rate.

On Wednesday, the Robbins Geller team, led by Daniel Drosman and Luke Brooksfiled a new brief in a parallel case accusing Morgan Stanley, S&P, Moody’s and Fitch of defrauding two pension funds that invested in an SIV called Rhinebridge, which, in contrast to the Cheyne SIV, was sold in July 2007, as the housing bubble was already collapsing. It’s another must-read for students of the financial crisis.

The Rhinebridge brief, which also references all kinds of evidence from inside the bank and the rating agencies, doesn’t have as many notable quotables as the Cheyne filing. But its allegations are, in a way, even grimmer. According to the brief, which opposes motions for summary judgment by Morgan Stanley and the rating agencies, the defendants all knew the end was near for mortgage-backed securities. Yet (again, according to the brief) Morgan Stanley pushed the agencies to deliver high ratings on the Rhinebridge SIV, even as S&P and Moody’s supposedly questioned the percentage of shaky mortgage loans packed into it. Then, despite internal fears that Rhinebridge was too risky to survive, Morgan Stanley allegedly marketed the SIV to Robbins Geller’s clients, mentioning nothing about its concerns the investment would collapse. Just four months after Rhinebridge launched, and two months after the pension funds bought in, the SIV defaulted, en route to being auctioned off at steep losses for investors.

I should note here that Morgan Stanley and the credit rating agencies have also moved for summary judgment, arguing that the plaintiffs, which are sophisticated investors, haven’t produced evidence that the defendants engaged in fraud or that the funds justifiably relied on the defendants’ representations about Rhinebridge. (Here’s the Morgan Stanley summary judgment brief, filed by its lawyers at Davis Polk & Wardwell; here’s the joint brief on behalf of Moody’s and S&P, which are represented by Satterlee Stephens Burke & Burke and Cahill Gordon & Reindel; and here’s Fitch’s summary judgment brief, filed by Paul, Weiss, Rifkind, Wharton & Garrison.) Representatives for all of the defendants told me the allegations in the investors’ summary judgment brief are meritless, that they behaved properly and that they will eventually prevail in the litigation; S&P spokesman Edward Sweeney said, in particular, that the defense will respond specifically to the plaintiffs’ assertions in a forthcoming brief.

Nevertheless, it’s news when evidence about the credit rating agencies’ role in the financial crisis comes to light. And according to this brief, the agencies were much more concerned about maintaining their lucrative business in rating structured finance products than about the quality of their ratings. In part, that meant conceding to the demands of a client like Morgan Stanley, according to the brief. The Rhinebridge SIV had significantly higher exposure to subprime mortgages than was typical, so, according to the brief, Morgan Stanley had to push S&P and Moody’s to confer top ratings. The filing cites, for instance, a document from Morgan Stanley banker Gregg Drennan to SIV manager IKB Deutsche Industriebank, calling on IKB to “lobby” S&P because the agency “suggested that [it] might not rate the deal!!!”

Federal Circuit: Congress can’t renege on pay promises to judges

Alison Frankel
Oct 10, 2012 23:19 UTC

The Founding Fathers spent quite a lot of time thinking about how, and how much, federal judges should be paid. In fact, according to Chief Judge Randall Rader of the Federal Circuit Court of Appeals, writing Friday for a majority of the en banc appeals court in Beer v. United States, the men who wrote the Constitution considered judicial pay to be almost as important to the independence of the judiciary as lifetime tenure. This was no incidental matter either; among the grievances the colonists listed in the Declaration of Independence was King George III’s rein on the judiciary, which he controlled through pay and job security.

At the constitutional convention in 1787, James Madison proposed pegging judges’ pay to the price of a commodity like wheat. That was considered too volatile a standard. Instead, Rader wrote, the framers adopted the Compensation Clause, which holds that Congress has the power to increase judicial compensation but not to cut judges’ pay. The Federalist Papers explained that the clause assures every federal judge “of the ground upon which he stands” so that he might “never be deterred from his duty by the apprehension of being placed in a less eligible situation.”

If the framers were alive today, they’d ruefully acknowledge their powers of prophecy. The gap between what good lawyers can make in private practice and what they’d earn on the bench has never been wider, with the consequence that some wise and well-qualified candidates can’t afford to become federal judges and some judges can’t afford to stay in office. Chief Justice John Roberts of the U.S. Supreme Court has made judicial pay a dominant theme of his administration, warning that when trial courts are paid less than first-year associates in private practice, the federal judiciary is in crisis.

Do all patent-related malpractice suits belong in federal court?

Alison Frankel
Oct 9, 2012 17:25 UTC

The relationship between the U.S. Supreme Court and the Federal Circuit Court of Appeals reminds me of a parent with a recalcitrant teenager. Faced with, say, confusion over patent eligibility – the legal equivalent of a messy room — the Supreme Court tells the Federal Circuit that it won’t tolerate such slovenliness. The appeals court mutters, “You’re not the boss of me,” and slams its door, leaving those empty yet still greasy pizza boxes exactly where they were.

In a case it agreed to hear on Friday, the high court will once again have the chance to discipline the Federal Circuit, this time on the question of federal-court jurisdiction over state-law legal malpractice claims involving patents. The case, Gunn v. Minton, gives the Supreme Court a chance to decide whether the Federal Circuit — in deciding that federal court is the appropriate forum for legal malpractice suits arising from patent cases — misinterpreted the test for federal jurisdiction that the Supreme Court established in its 2005 decision in Grable & Sons v. Darue Engineering.

The background of Gunn v. Minton is a bit twisty, but here’s a condensed version. Minton is a former broker and inventor who developed software that permits investors to trade over a public telecom system. In 1995, he licensed the software to a Nasdaq brokerage before receiving Nasdaq approval for it — and before patenting his technology. More than a year later, Minton applied for a patent, which he was awarded in 2000. He then filed a $100 million infringement suit against Nasdaq. Minton’s case was tossed under the Patent Act’s “on-sale bar,” which holds that a patent is invalid when the invention it covers was sold more than a year before the inventor filed a patent application. Minton subsequently sued the lawyers who represented him in the Nasdaq case, claiming that they committed malpractice when they failed to raise arguments that the on-sale bar doesn’t invalidate his claim because he sold the software for experimental use.

FTC cert petition puts SCOTUS in pay-for-delay pickle

Alison Frankel
Oct 8, 2012 20:24 UTC

In a way, it was a no-brainer for the Federal Trade Commission to file a certiorari petition asking the U.S. Supreme Court to review the 11th Circuit Court of Appeals ruling in the FTC’s pay-for-delay case against Watson Pharmaceuticals. After all, the FTC has been screaming for years that pay-for-delay deals — in which brand-name drug manufacturers pay generic drug competitors to drop challenges to the brand-name maker’s patents — violate antitrust laws. So, considering that the Supreme Court has so far ducked an issue that’s been percolating in the federal circuits for more than a decade, why wouldn’t the FTC ask the justices to review an appellate ruling that pay-for-delay deals are not anti-competitive unless they exceed the scope of the brand-name drug maker’s patent or involve sham litigation?

There was zero chance, in other words, the FTC would let the 11th Circuit’s ruling stand without a challenge. But in framing that challenge, the agency had to consider an unprecedented development in pay-for-delay Supreme Court advocacy: There’s already another pay-for-delay cert petition awaiting the justices’ review — and that one involves a 3rd Circuit decision that found pay-for-delay deals to be presumptively anti-competitive. The FTC could simply have filed a petition in Watson that noted the pending petition in the 3rd Circuit In re K-Dur case and asked to be bound by the court’s decision in that litigation. Instead, the commission filed a full-on cert petition, arguing that its case is the preferable vehicle for the Supreme Court to decide, for once and for all, whether pay-for-delay deals violate antitrust laws.

In an unusually naked bid to control the case, the FTC noted first that K-Dur is private litigation. In contrast, the Watson case “is brought by a federal agency charged by Congress with challenging unfair methods of competition,” the FTC said. The commission has litigated several pay-for-delay cases on its own, and has participated as an amicus in several more private suits. “The court,” wrote the Justice Department on behalf of the FTC, “would benefit from the experienced presentation that the FTC, represented by the Solicitor General, would offer as a party.”

As MBS trustee put-back suits mount, Minn. case sets bad precedent

Alison Frankel
Oct 4, 2012 22:28 UTC

I have a bold assertion: Breach of contract suits by mortgage-backed securities trustees are no longer a rarity. In my daily feed of new filings, I’m seeing a fairly regular trickle of cases asserting trustee claims that mortgage originators didn’t live up to their representations and warranties about the loans they sold to MBS trusts. The roster of firms filing cases for trustees has expanded as well. Kasowitz, Benson, Torres & Friedman still seems to be the likeliest to appear on the signature page of MBS trustee complaints, but last week MoloLamken filed a put-back suit in New York State Supreme Court for the trustee of a Morgan Stanley MBS trust, and Holwell Shuster & Goldberg brought a put-back claim in the same court for the trustee of a Deutsche Bank-backed trust.

So, now that put-back filings have become as relatively commonplace as Miguel Cabrera home runs, it’s time to start asking how successful the cases will be. Banks have been disposing of billions of dollars of put-back demands asserted by bond insurers and by Fannie Mae and Freddie Mac for years, but those claims haven’t been resolved through litigation. And Bank of America reached its proposed $8.5 billion global settlement with private investors in Countrywide mortgage-backed securities before the investors’ lawyers at Gibbs & Bruns filed a complaint claiming that Countrywide breached MBS representations and warranties. As far as I’m aware, there has been no publicly disclosed settlement of a put-back case filed by an MBS trustee acting at the behest of private certificate holders.

With that paucity of precedent, a ruling this week in one of the earliest put-back cases on the dockets is bad news for certificate holders. The suit, filed by Kasowitz Benson against the originators of loans in a $555 million Wells Fargo MBS offering, stemmed from an investigation that noteholders demanded back in April 2010. In a sample of 200 of the 3,000 loans in the underlying pool, investors identified material breaches in 150, or 75 percent, of the sample. When the originators EquiFirst and WMC Mortgage refused to accede to put-back demands based on breaches in the sample, the MBS trustee, U.S. Bank, sued on behalf of noteholders.

Are class action lawyers in Arkansas snubbing SCOTUS (and CAFA)?

Alison Frankel
Oct 4, 2012 06:35 UTC

Over the summer, the justices of the U.S. Supreme Court made one of the most improbable grants of certiorari you will ever see.

The timing alone was unusual. The court granted cert in Standard Fire Insurance v. Knowles on Aug. 31, almost a month before the first conference of the new term on Sept. 24. But that’s just the beginning of this case’s oddities. There’s no split among the federal circuits on the issue presented in Standard Fire: whether a class action plaintiff can defeat removal to federal court under the Class Action Fairness Act by stipulating on behalf of the entire class to seek less than $5 million, the statutory cutoff for a state-court class action. In fact, there couldn’t possibly be a circuit split on that question because only one appellate court, the 8th Circuit Court of Appeals, has addressed it. And though Standard Fire comes out of 8th Circuit turf in Arkansas, it is not even the case in which the 8th Circuit opined on these class action damages stipulations, which have become an oft-used tactic of plaintiffs’ lawyers who want to keep their cases in state court.

Indeed, as name plaintiff Greg Knowles argued in his brief opposing cert, there is no appellate opinion at all in the Standard Fire case. After a federal court in Arkansas remanded Knowles’s class action to state court in Miller County, where it was filed, the 8th Circuit twice declined to review the district court’s remand opinion. Yet the Supreme Court nevertheless agreed to take the case. Standard Fire’s merits brief is due later this month, and oral arguments will take place later in the term.

Cynicism aside, why the NY AG’s MBS suit vs JPMorgan matters

Alison Frankel
Oct 3, 2012 17:54 UTC

It would be so easy to be cynical about the suit New York Attorney General Eric Schneiderman brought Monday night against JPMorgan Chase, seeking to hold the bank liable for the alleged mortgage securitization fraud committed by Bear Stearns before JPMorgan acquired Bear in March 2008. I could start with the political expediency of the 31-page complaint, which, on the eve of the first presidential debate, provides the Obama administration with an answer to critics who have accused regulators of going easy on big banks. Indeed, the case is so politically charged that, according to Reuters, Schneiderman’s federal colleagues on the administration’s mortgage fraud task force were peeved that the New York AG filed the suit Monday, ahead of a joint federal-state press conference Tuesday.

Then, of course, there’s the content of the complaint. I’ve been carping for a long time that regulators were years behind lawyers representing bond insurers and private investors in mortgage-backed securities. Beginning in 2008 and 2009, private lawyers marshaled evidence from their own discovery and, later, from Congress’s Financial Crisis Inquiry Commission Report and the Levin-Coburn Report to produce damning, detailed complaints against JPMorgan and the other banks involved in securitization. The New York AG’s new complaint cited the FCIC report and the JPMorgan suit filed in August 2011 by the Federal Housing Finance Agency, but the AG really owes his biggest debt of gratitude to the monolines Ambac, Syncora and Assured Guaranty and their counsel at Patterson Belknap Webb & Tyler. Patterson has been relentless in its pursuit of Bear Stearns and, by extension, JPMorgan. Just look at the amended complaint Ambac filed in New York State Supreme Court in February 2011 against JPMorgan and the Bear mortgage arm, EMC. It’s 160 pages of brutal accusation, documenting the same theories put forth by the New York AG — but in much more detail.

Those colorful quotes in the AG’s suit about Bear’s “sack of shit” and “shit breather” securitizations? They’re in the Ambac complaint. So are the AG’s allegations that PricewaterhouseCoopers, engaged in 2006 to offer an opinion of Bear’s put-back practices, told the bank to stop keeping the money it recovered from the originators of deficient mortgages for itself and to start passing on its put-back recoveries to MBS investors. The AG, in other words, did a lot of piggybacking on other people’s work. I didn’t see anything in Schneiderman’s complaint that I haven’t seen elsewhere in suits against Bear and JPMorgan.

The next target for Dodd-Frank haters: SEC ‘conflict minerals’ rule

Alison Frankel
Oct 2, 2012 02:29 UTC

On Friday, U.S. District Judge Robert Wilkins of Washington struck down the Commodity Futures Trading Commission’s 2011 rule setting position limits on derivatives tied to certain physical commodities. The judge found that the CFTC had misinterpreted the Dodd-Frank financial reform law of 2010 when it wrongly concluded that Dodd-Frank required it to impose position limits in order to curb speculative trading. Instead, according to Wilkins, the CFTC should have looked back to the Commodity Exchange Act of 1936 and determined whether such limits are necessary and appropriate before setting them. The judge sent the rule back to the CFTC for reconsideration.

Though CFTC Chairman Gary Gensler told Reuters in a statement issued Friday that he continues to believe position limits are not only necessary but mandated by Congress, Wilkins’s ruling marks the second time in 14 months that industry groups have succeeded in rolling back agency rules required by Dodd-Frank. In July 2011, a three-judge panel of the District of Columbia Circuit Court of Appeals found that the Securities and Exchange Commission had not properly considered the impact on capital markets when it promulgated the Dodd-Frank-mandated “proxy access” rule, which required public companies to provide shareholders with information about shareholder-nominated board candidates. The D.C. Circuit struck down the rule, and the SEC decided not to appeal. That case was brought by the Business Roundtable and the U.S. Chamber of Commerce. The challenge to the CFTC’s position limits rule was brought by the International Swaps and Derivatives Association and the Securities Industry and Financial Markets Association. The industry groups in both cases were represented by Eugene Scalia of Gibson, Dunn & Crutcher, who is certainly living up to his reputation as the scourge of federal agency rulemakers.

The specific flaws courts cited in the proxy access and swaps limit rules are different, but there’s a unifying sentiment behind the rulings that struck them down: Agencies cannot point to Dodd-Frank mandates, cite the financial crisis and impose new rules without exercising independent judgment about the need for and the impact of those rules.

How BofA was forced to settle $2.43 bln Merrill class action

Alison Frankel
Oct 1, 2012 23:06 UTC

Brad Karp of Paul, Weiss, Rifkind, Wharton & Garrison and Max Berger of Bernstein Litowitz Berger & Grossmann share an elevator bank at 1285 6th Avenue in New York City. Bernstein Litowitz, a 50-lawyer plaintiffs’ firm, has space on the 36th and 38th floors. Paul Weiss’s 750 lawyers occupy much of the rest of the office building. Karp and Berger are also old frenemies: In 2004, they negotiated Citigroup’s $2.65 billion settlement of shareholder claims in the WorldCom accounting fraud case. Over the last several months, with Karp representing Bank of America and Berger one of the lead counsel for shareholders suing over the bank’s acquisition of Merrill Lynch in 2008, the two have spent a lot of time riding the elevator between Berger’s office on the 36th floor and Karp’s on the 30th, discussing a resolution of the class action.

With an Oct. 22 trial date looming and no sign from U.S. District Judge Kevin Castel that he would end the case by granting summary judgment to either side, those elevator rides (and sessions with mediator Layn Phillips of Irell & Manella) led to the $2.43 billion settlement that Bank of America announced Friday. It’s the fourth-largest-ever securities class action settlement by a single defendant (behind Tyco’s $2.975 billion deal in 2007, Cendant’s $2.83 billion settlement in 1999, and the Citi agreement in 2004) and the largest in a case that involved no accounting fraud or criminal convictions. The settlement is vindication for Richard Cordray of the Consumer Financial Protection Bureau, who launched the litigation on behalf of two Ohio pension funds back in 2009, before he was voted out of office as Ohio’s attorney general, and for the three shareholders’ firms that litigated the case for almost four years: Bernstein Litowitz; Kessler Topaz Meltzer & Check; and Kaplan Fox & Kilsheimer.

The plaintiffs in this case will be asking Castel to approve $150 million in fees, and they’ve earned them. Remember, the SEC was originally willing to settle allegations against BofA for disclosure failures in the Merrill acquisition for $33 million. This settlement reflects the nuanced understanding of Bank of America’s failure to disclose billions of dollars in escalating Merrill Lynch losses that shareholders’ counsel gained through dozens of depositions and millions of pages of discovery. The plaintiffs survived motions to dismiss by the bank and individual defendants, motions to reconsider the denial of their dismissal motions, and opposition to class certification. They clearly persuaded Castel of the value of their claims; his class certification ruling rejected defense arguments that shareholders weren’t injured by the alleged disclosure failures. Bank of America repeated those arguments in its motion for summary judgment, but there’s little chance the judge would have granted the motion. From all indications, Castel had cleared his calendar and planned to try this case, in what would surely have been one of the most celebrated trials stemming from the financial crisis.

Who qualifies as a Dodd-Frank whistle-blower?

Alison Frankel
Sep 28, 2012 16:39 UTC

When Congress passed the Dodd-Frank financial reform law in 2010, it provided broad protection for whistle-blowers. The law prohibited employers from retaliating against anyone who reported securities violations to the Securities and Exchange Commission, assisted in an SEC investigation or otherwise made disclosures required by the Sarbanes-Oxley Act of 2002 or any other securities law. Dodd-Frank also defined criteria for whistle-blowers: They are people who provide information about securities violations “in a manner established, by rule or regulation, by the Commission.” In August 2011, the SEC issued its final interpretation of Dodd-Frank’s provisions, requiring that whistle-blowers must have a reasonable belief that they’re reporting violations of securities laws and must follow specific procedures when giving that information to the commission.

If you think the SEC’s rule is an obvious construction of Dodd-Frank’s statutory language, think again. The confusion lies in the disparity between the whistle-blower provisions in Dodd-Frank and those in Sarbanes-Oxley, which is more concerned with internal reporting than blowing the whistle to the SEC. Both laws include reporting procedures and anti-retaliation protection, but the specific provisions are different. Sarbanes-Oxley, for instance, requires employees to exhaust administrative remedies before bringing a federal court action for retaliation. It also has a 180-day statute of limitations and restricts employees’ recovery to back pay, as opposed to Dodd-Frank, which has a six-year statute and allows double-pay claims. So, as Jackson Lewis noted last November in a motion to dismiss a Dodd-Frank whistle-blower retaliation suit against a company called Trans-Lux, if the SEC meant for everyone with a potential retaliation claim under Sarbanes-Oxley to sue instead under Dodd-Frank, it was impermissibly overriding SOX and congressional intent.

“It cannot have been Congress’ intent to protect internal complaints of retaliation under [Dodd-Frank]; otherwise SOX would be rendered obsolete,” the brief said. “If all SOX-protected activity were to fall within the scope of the [Dodd-Frank] whistleblower provisions, regardless of whether the employee provided information to the SEC, then all SOX claimants would arguably be able to file a whistleblower retaliation claim under [Dodd-Frank] instead of SOX.”

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