Opinion

Alison Frankel

As crisis litigation draws to close, lessons for investors

Alison Frankel
Jul 16, 2014 22:12 UTC

We’re near the end. With the news Wednesday that Bank of America will pay AIG $650 million to settle their long-running and many-tentacled litigation over mortgage backed securities –along with a report in The Wall Street Journal that the credit rating agency Standard & Poor’s is contemplating a $1 billion settlement with the Justice Department for its MBS rating failures — it’s time to declare the twilight of financial crisis litigation.

Yes, there’s still some big work to be done, including BofA’s anticipated multibillion-dollar settlement with the Justice Department; the resolution of the Federal Housing Finance Agency’s last few cases on behalf of Fannie Mae and Freddie Mac; and dozens of private-investor breach-of-contract suits against the banks. But that’s the denouement, the last act.

So what have we learned, after six years of intense and expensive litigation? To me, the clearest lesson from financial crisis litigation is that investors cannot rely on anyone else’s assurances about complex securities.

Federal securities laws say otherwise, of course. Issuers and underwriters are supposed to disclose the risks built into the securities they’re selling. Credit rating agencies are supposed to provide realistic assessments of investment quality. State and federal regulators are supposed to make sure all of them are living up to their representations and to seek justice for investors if it turns out they’ve been deceived.

The first few years of MBS litigation, dominated by investor class actions and bond insurer suits against issuers, exposed the gap between bank representations about underlying mortgage loan pools and the pools’ actual risk profiles. After re-underwriting sample loans, MBS plaintiffs claimed breathtaking breach rates, asserting in case after case that 30, 50, 60 or even 70 percent of the mortgages underlying MBS trusts were deficient for one reason or another.

BofA, JPMorgan travel opposite roads to end MBS liability

Alison Frankel
Oct 31, 2013 19:46 UTC

For a change, JPMorgan’s rollercoaster negotiations with state and federal regulators to resolve the bank’s liability for rotten mortgage-backed securities did not make news Wednesday. Has there ever been more public dealmaking between the Justice Department and a target? It feels as though the public has been made privy to every settlement proposal and rejection, as if we’re all watching a soap operatic reality show. Will there be a reunion episode if the bank and the Justice Department end up finalizing the reported $13 billion global settlement, with Eric Holder and Jamie Dimon shouting imprecations at each other?

Bank of America filled the MBS news vacuum Wednesday. Its quarterly filing with the Securities and Exchange Commission disclosed that the bank – under Justice Department investigation for its securitization practices – has bumped up its estimate of litigation losses in excess of its reserves to $5.1 billion. The filing also said that staff lawyers from the New York attorney general’s office have recommended a civil suit based on Merrill Lynch’s mortgage-backed securities.

BofA also had some good news, though. Late Tuesday, U.S. District Judge Mariana Pfaelzer of Los Angeles granted tentative approval to the bank’s $500 million Countrywide MBS class action settlement, despite objections to the deal from the Federal Deposit Insurance Corporation (on behalf of 19 failed banks that owned Countrywide MBS) and several other institutions. Perhaps even more importantly, on Wednesday, two significant objectors to BofA’s proposed $8.5 billion put-back settlement with private Countrywide MBS investors dropped their challenges to the deal. In separate letters to New York State Supreme Court Justice Barbara Kapnick, who has presided over a sporadic but nearly concluded trial on the settlement, three Federal Home Loan Banks and two Cranberry Park investment vehicles asked to withdraw from the proceeding. The remaining objectors, led by AIG, Triaxx and the FHLB of Pittsburgh, filed a strong post-trial brief summarizing their evidence that the proposed settlement was obtained through a “conflicted, back-room, closed-door process” and “cannot be endorsed without running roughshod over the absent certificateholders’ interests.” But the objectors’ ranks are dwindling, and late withdrawals by MBS certificate holders that actually helped try the opposition case has to increase the pressure on Justice Kapnick to bless the deal.

Accusations fly on Day 2 of hearing on BofA’s $8.5 bln put-back deal

Alison Frankel
Jun 5, 2013 00:17 UTC

The biggest news to come out of Tuesday’s ongoing hearing to evaluate Bank of America’s proposed $8.5 billion settlement with investors in 530 Countrywide mortgage-backed securities trusts is that the Office of the Comptroller of the Currency gave Bank of America clearance to put Countrywide into bankruptcy if Countrywide’s liabilities threatened BofA’s existence. Or at least that’s what Kathy Patrick of Gibbs & Bruns, who represents 22 institutional investors that negotiated the proposed deal with BofA and Countrywide MBS trustee Bank of New York Mellon, said her clients were told by BofA Chief Risk Officer Terry Laughlin in 2011 as they tried to come to terms on a settlement of investor claims that Countrywide breached representations and warranties about the underlying mortgage loans. To my knowledge, Patrick’s assertion – which was intended to support her argument that MBS investors risked getting much less than $8.5 billion for their put-back claims – is, if true, the first tangible indication that Bank of America ever did more than hypothesize bankruptcy for Countrywide.

Objectors to the proposed settlement, meanwhile, scored points with their argument that BNY Mellon had options aside from acquiescing to what AIG counsel Michael Rollin of Reilly Pozner called “a sweetheart deal for BofA.” Both Rollin and his partner Daniel Reilly, who occupied most of the three hours of opening arguments by objectors (including 22 AIG-related entities, several Federal Home Loan Banks, the investment manager Triaxx and a variety of pension funds and local banks), emphasized that after the Countrywide MBS trustee received a demand letter from Gibbs & Bruns on behalf of major institutional investors, the trustee could simply have begun requesting loan files from BofA as the servicer of Countrywide MBS trusts, evaluating those loan files for material breaches, and demanding that Bank of America repurchase defective loans.

Rollin played a deposition clip from a BofA servicing executive, who said it was the bank’s official policy to repurchase loans that breached representations and warranties. That statement alone, Rollin said, proved the fallacy of arguments that BNY Mellon and the Gibbs & Bruns investor group could not have pierced the corporate veil to tag Bank of America with successor liability for Countrywide’s breaches. The trustee could simply have asserted put-backs to BofA as the servicer, Rollin suggested, without ever getting into the quagmire of successor liability. After all, the Reilly Pozner lawyers argued, the $8.5 billion settlement amounts to the put-back of only 2.5 percent of the 1.6 million mortgages underlying 530 Countrywide MBS trusts covered by the deal. Had BNY Mellon taken the alternative route of demanding the put-back of defective loans, they said, the trustee could have forced BofA to buy back a higher percentage of loans.

It’s (finally) time for objectors to BofA’s MBS deal to make their case

Alison Frankel
Jun 4, 2013 13:15 UTC

To say that the hearing to evaluate Bank of America’s proposed $8.5 billion breach of contract settlement with investors in Countrywide mortgage-backed securities got off to a slow start would be something of an understatement. In a courtroom so crowded that New York State Supreme Court Justice Barbara Kapnick repeatedly admonished observers to clear a path to the door, the judge heard hours of pretrial motions, many on issues she regarded as already settled. In particular, objectors to the settlement – led by AIG, several Federal Home Loan Banks and other assorted pension and investment funds – told Kapnick that they should not be forced to proceed with opening statements until they’ve had a chance to take depositions based on privileged communications between Bank of New York Mellon, the Countrywide MBS trustee, and its lawyers at Mayer Brown. Kapnick ordered the documents produced late last month, and AIG counsel Daniel Reilly of Reilly Pozner said it wouldn’t be fair to begin a hearing to determine whether BNY Mellon made a reasonable decision to agree to the $8.5 billion settlement – which resolves potential claims by 530 trusts that Countrywide breached representations and warranties about underlying mortgage loans – until objectors have quizzed witnesses on the confidential material.

Kathy Patrick of Gibbs & Bruns, who represents BlackRock, Pimco, MetLife and other major institutional investors that negotiated the deal with BofA and BNY Mellon, said the objectors just wanted to delay Kapnick’s final reckoning of the settlement, which is being evaluated in a special proceeding under New York trust law. Reilly, who argued unsuccessfully last week for a stay of the case while the state appeals court considers whether it should be heard by a jury, insisted that he just wants the proceeding to be fair. Judge Kapnick, meanwhile, seemed preoccupied with getting the actual hearing under way. “I am trying to make this go ahead,” she told the objectors at one stage. “I am not going to reopen a point we spent an inordinate amount of time arguing about,” she said at another. “At some point, you have to get going with this.”

The delay issue came to a head in the afternoon session, when yet more motions to limit testimony and evidence had to be resolved. Reilly asked the judge to restrict Patrick from asserting that 93 percent of Countrywide MBS investors support the settlement when, in fact, the majority of certificate holders haven’t opined one way or the other. Patrick stood up and promised that she’d henceforth say that 93 percent do not object to the deal.

Who won the $1.7 bln settlement between BofA and MBIA?

Alison Frankel
May 7, 2013 21:26 UTC

On Monday, after word leaked that Bank of America and MBIA had resolved their epic five-year, multidimensional litigation against one another, investors in both companies judged the deal. Shares in MBIA, whose structured finance arm had been widely considered to be on the brink of a regulatory takeover, closed 45 percent higher at $14.29, adding about a billion dollars to the market capitalization of the insurer’s holding company. Bank of America’s shares went up as well. They didn’t rise as dramatically as MBIA’s, closing up 5 percent at $12.88. But that added $6.9 billion to BofA’s market cap – three times as much as the $1.6 billion in cash that the bank agreed to pay to MBIA as part of the settlement.

The comparison between the raw percentage rise in share price and the total dollars added to each company’s market cap is instructive in considering which side, if either, got the better of this settlement. As investor reaction indicated, this deal was much more important to MBIA than to Bank of America. With $1.6 billion in cash from the bank, plus the remittance of $137 million in MBIA notes held by BofA, MBIA’s withered structured finance arm can pay back the $1.7 billion it owes the company’s bond insurance arm, which financed settlements with some of the banks that had challenged MBIA’s 2009 restructuring. BofA also agreed in Monday’s settlement to drop its regulatory and fraud claims stemming from that restructuring, which leaves only Societe Generale remaining in restructuring cases against MBIA. Assuming the insurer can reach a settlement with Societe Generale, the cloud of uncertainty over its 2009 split will be entirely removed and MBIA’s bond insurance arm will be able to return to the business of writing policies on state and municipal financings.

MBIA also eliminated any uncertainty about what it might owe Bank of America under credit default swap agreements with BofA predecessor Merrill Lynch. BofA held a total of $7.4 billion in MBIA policies, $6.1 billion of which was on CDS deals. The actual value of those policies was a matter of speculation and interpretation. I’ve heard that Bank of America had drastically written down its potential recovery from MBIA to the neighborhood of a $1 billion. But if MBIA went into rehabilitation (the insurance version of Chapter 11), the priority of claims by CDS counterparties would have been determined by New York State Department of Finance chief Benjamin Lawsky, who has been deeply involved in settlement talks between MBIA and BofA and might have been using the priority of claims as a bargaining chip. In any event, MBIA’s takeaway from the settlement isn’t just the $1.7 billion in cash and other considerations it received from BofA. It’s really that amount plus BofA’s potential recovery from the CDS policies.

BofA catches big break: Walnut drops challenge to $8.5 bln MBS deal

Alison Frankel
Jul 24, 2012 15:52 UTC

Late last month, without any fanfare, a New York appeals court issued a terse, one-page ruling that upheld the dismissal of Walnut Place’s breach-of-contract suit against Countrywide, Bank of America and Countrywide’s mortgage-backed securitization trustee, Bank of New York Mellon. It was an abrupt end for what was once a promising attempt at vindication for an MBS investor. It was also a huge setback for Walnut, its lawyers at Grais & Ellsworth and all the other Countrywide MBS investors who were counting on litigation against BofA as an alternative to the bank’s proposed $8.5 billion global settlement of breach-of-contract, or put-back, claims.

That one-page appellate ruling reverberated powerfully on Monday, when Walnut – otherwise known as the Boston hedge fund Baupost – filed a request to withdraw from the special New York proceeding to evaluate BofA’s MBS settlement. Framed as a letter to New York State Supreme Court Justice Barbara Kapnick from Grais partner Owen Cyrulnik, the request offered no explanation for Walnut’s withdrawal; Cyrulnik and Baupost spokeswoman Elaine Mann declined to comment.

But Baupost was facing an imminent decision about whether to request leave to appeal the dismissal of its case against BofA to New York’s highest court. Given the unlikely prospect that the Court of Appeals would agree to take the case, the hedge fund appears to have decided not to continue to spend money on litigation with little chance of a return. And given that the dismissal of Walnut’s suit makes it very difficult for the hedge fund – or any other MBS investor – to recover on put-back claims outside of the global settlement, Walnut apparently determined that it wasn’t economically rational to continue its challenge to the $8.5 billion deal. (From what I’ve heard, Bank of America did not pay Walnut anything in exchange for the hedge fund’s withdrawal; a Bank of America spokesman declined to comment to my Reuters colleague Karen Freifeld.)

BofA shareholders: Wachtell ‘excluded’ as Merrill losses mounted

Alison Frankel
Jul 4, 2012 00:09 UTC

Oh, the ironies of megabillion-dollar securities class action litigation!

Last Friday, shareholders filed their response to summary judgment motions by Bank of America and its executives in a class action claiming BofA failed to tell shareholders about Merrill Lynch’s escalating losses and sky-high executive bonuses before BofA bought Merrill in 2008. As you would expect, the shareholders and their lawyers at Bernstein Litowitz Berger & Grossmann, Kaplan Fox & Kilsheimer and Kessler Topaz Meltzer & Check spend considerable time rebutting defense arguments that, as a matter of law, shareholders weren’t injured by BofA’s alleged disclosure lapses. Those arguments, the plaintiffs’ lawyers said, have already been rejected in U.S. District Judge Kevin Castel‘s class certification decision in February.

But deep in the 115-page filing is a more intriguing discussion of the role BofA’s lawyers at Wachtell, Lipton, Rosen & Katz played in the bank’s disclosure decisions. You may recall that former CEO Kenneth Lewis said he is entitled to summary judgment in the case because he relied on his CFO’s assurances that he’d consulted BofA lawyers on disclosure, and they’d said shareholders didn’t need to be told of interim Merrill loss projections that dwarfed initial reports. Lewis’s lawyers at Debevoise & Plimpton implied that the former CEO was under the impression that his CFO, Joe Price, had spoken both to the bank’s then-GC, Timothy Mayopoulos, and to BofA’s deal counsel at Wachtell.

The shareholders’ opposition brief demolishes that implication. “The record … establishes that BoA excluded Wachtell from the disclosure analysis at the critical time in the weeks before the [shareholder] vote,” the brief said. “Wachtell’s senior partners have uniformly testified that they were not informed of Merrill’s key December 3 loss estimate prior to the vote, and that Wachtell was not consulted at all on the issue of disclosure after November 20. Indeed, Wachtell did not learn of the magnitude of Merrill’s losses until December 12, when BoA contacted Wachtell one week after the vote to terminate the transaction because of Merrill’s losses.”

NY appeals court gives big boost to BofA in MBS put-back suits

Alison Frankel
Jun 29, 2012 23:04 UTC

On Friday, the Wall Street Journal called Bank of America’s 2008 acquisition of the tottering mortgage giant Countrywide a $40 billion mistake. Sure, the bank only paid a total of $4.5 billion to pick up Countrywide, paying $2 billion for a minority stake in 2007 and an additional $2.5 billion for the rest of the company in 2008. BofA had its eye on Countrywide’s then-profitable mortgage servicing business, but since the acquisition Countrywide and its deficient mortgages have been pretty much nothing but trouble for Bank of America, which has seen its share price drop 68 percent and is still digesting what the Journal estimated to be at least $40 billion in “total real estate losses, settlements with government agencies and amounts pledged to investors who purchased poor-performing Countrywide mortgage-backed securities.” The Journal‘s Dan Fitzpatrick quoted a North Carolina banking professor who called BofA’s Countrywide acquisition “the worst deal in the history of American finance.”

Ouch. But thanks to a New York appeals court, BofA may have just put a fence around one big swath of Countrywide liability. On Thursday the Appellate Division, First Department, upheld Manhattan State Supreme Court Justice Barbara’s Kapnick‘s ruling that the mortgage-backed securities investor Walnut Place may not proceed with a breach of contract case against Countrywide. That ruling will severely limit the options for Walnut and the other investors who have objected to Bank of America’s proposed $8.5 billion global settlement with Countrywide MBS noteholders. It also puts the focus in the litigation over the global settlement on Bank of New York Mellon and its conduct as Countrywide’s MBS trustee, which Kapnick is also overseeing. My prediction: Unless Kapnick finds that BNY Mellon didn’t fulfill its duties as trustee in reaching that settlement, Countrywide MBS investors can’t sue outside of the deal.

And here’s why. MBS pooling and servicing contracts, you’ll recall, make it exceedingly difficult for noteholders to bring claims that underlying loans breached representations and warranties by mortgage issuers like Countrywide. Under standard PSA terms, investors can’t take any action unless they’ve amassed support from noteholders with 25 percent of the voting rights in a particular MBS trust. If they manage to get over that procedural hurdle, they must then demand an investigation of reps and warranties breaches from the MBS trustee and then wait months for the trustee to respond. Only if the MBS trustee fails to take action on their behalf can investors bring their own breach of contract or put-back suit.

Caught in the middle: Wachtell and the BofA/Merrill merger mess

Alison Frankel
Jun 6, 2012 15:28 UTC

Former Bank of America CEO Kenneth Lewis has a simple argument for why he’s not liable to shareholders who claim they were defrauded into supporting BofA’s 2008 acquisition of Merrill Lynch: It’s the lawyers’ fault. In a summary judgment brief filed Sunday night in the shareholder class action, Lewis’s counsel at Debevoise & Plimpton asserted that as Merrill Lynch’s fourth-quarter projected losses ballooned from the $5 billion BofA had estimated in November to more than $10 billion by Dec. 3, Lewis asked BofA’s then-CFO, Joe Price, whether those losses had to be disclosed to shareholders. He was informed that the CFO had “consulted with legal counsel” and had concluded that interim projections didn’t need to be made public.

Lewis’s brief implies (but does not directly state) that Price had spoken not only to Bank of America’s general counsel at the time, Timothy Mayopoulos, but also to BofA’s outside lawyers at Wachtell, Lipton, Rosen & Katz. For Lewis, it doesn’t much matter who Price talked to — or even whether Price really received the legal advice he allegedly passed along to Lewis. What’s significant, according to the former CEO’s brief, is simply that Lewis had a good-faith reason to believe disclosure wasn’t warranted. Lewis didn’t even assert a formal advice-of-counsel defense but said his “understanding of what BAC’s CFO was told by counsel” is enough to rebut shareholder claims that he intended to mislead them.

But for Wachtell, professional integrity is at stake in the guidance it gave its longtime client in the run-up to the shareholder vote on the Merrill merger. Wachtell, after all, is one of the premier M&A law firms in the country. Its reputation would be sullied if it had offered the bank advice so misguided that BofA ended up the subject not only of regulatory inquiries by at least four state and federal agencies but also of a gargantuan shareholder suit.

New SJ motion in BofA/Merrill case: The boon of discovery

Alison Frankel
Jun 5, 2012 05:35 UTC

There’s a good reason the exchange of information in civil litigation is called discovery. If you want an example of the kind of powerful facts shareholders can obtain once they’re finally allowed to take depositions from securities class-action defendants – and remember, they only get there after surviving defense motions to dismiss – look no further than the motion for summary judgment that plaintiffs’ lawyers filed Sunday against Bank of America in the securities class action over the Merrill Lynch merger. There’s nothing like a former CEO’s admission that insiders withheld dire predictions from shareholders to boost the class’s case.

Shareholder lawyers always knew they’d have more information than usual in the securities litigation against BofA, which allegedly failed to warn investors about Merrill Lynch’s precarious finances before shareholders approved the Merrill merger in the fall of 2008. When plaintiffs’ lawyers first filed lead counsel motions in the spring of 2009, the Securities and Exchange Commission, the New York Attorney General, the North Carolina AG and even Congress were all already poking at the Merrill merger. They were focused on whether BofA adequately disclosed the billions of dollars it had agreed to set aside for bonuses to Merrill executives, in addition to the bank’s communications with shareholders about Merrill’s mounting losses in the last quarter of 2008.

Just weeks after Denny Chin (then a federal district judge in Manhattan, now on the 2nd Circuit Court of Appeals) appointed lead counsel – Bernstein Litowitz Berger & GrossmannKaplan Fox & Kilsheimer; and Kessler Topaz Meltzer & Check – the SEC announced a settlement with BofA for disclosure violations. And when U.S. Senior District Judge Jed Rakoff rejected the SEC’s initial settlement and demanded more information about BofA’s disclosure decisions, plaintiffs’ lawyers in the class action pounced. In October 2009, they asked Chin to order the defendants to give them whatever BofA, Merrill and bank officials were turning over to regulators and congressional investigators. In November 2009, Chin granted the motion. Whatever documents the defendants were producing to anyone else, he said, they also had to turn over to shareholders.

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