Opinion

Alison Frankel

NY judge gives bond insurers many routes to MBS recovery v. BofA

Alison Frankel
Jan 4, 2012 15:24 UTC

There’s a cautionary note to MBIA deep in Manhattan State Supreme Court Justice Eileen Bransten‘s long-awaited, 27-page loss-causation decision in MBIA’s mortgage-backed securities case against Countrywide. The bond insurer, Bransten warned, must prove that it was damaged as a “direct result” of Countrywide’s allegedly material misrepresentations about the MBS certificates MBIA agreed to insure. “As has been aptly pointed out by Countrywide, this will not be an easy task,” the judge wrote.

But unless I am seriously misreading Bransten’s ruling (and her companion decision in Syncora’s case) it’s going to be a lot easier for the bond insurers to recover against Countrywide as a result of the judge’s reasoning. Yes, MBIA and Syncora have to prove they were duped into writing insurance policies on Countrywide mortage-backed securities. The monolines have never asserted that they don’t have to show Countrywide made material misrepresentations at the time they agreed to issue insurance. They believe they’ve got plenty of evidence — from the MBS pooling and servicing agreements, from the loan tapes they were permitted to see, and from the shadow credit ratings conferred on the MBS notes — that Countrywide misled insurers about the quality of the mortgages in the underlying loan pools.

Instead, the key question before Bransten was whether the insurers would also have to show that Countrywide’s alleged misrepresentations were the direct cause of the MBS failures for which insurers had to pay out policy claims. And on this issue, the judge sided squarely with the monolines. “No basis in law exists to mandate that MBIA establish a direct causal link,” she concluded.

Her rulings will permit the bond insurers to argue both that Countrywide committed fraud in inducing them to write policies and that Countrywide breached its insurance agreements with Syncora and MBIA. To establish fraud, MBIA and Syncora will have to show that they relied on Countrywide’s alleged misrepresentations when they agreed to write the specific policies at issue in the litigation. To prove a breach of the insurance agreements, they need only prove that Countrywide materially misrepresented the risk profile of the underlying mortgage pools. There are, in other words, a lot of routes to recovery for Syncora and MBIA — and given that Bransten is the leading jurist in the monoline MBS litigation, for other bond insurers as well, assuming other New York state-court judges adopt her thinking.

MBIA and Syncora even still have a possibility of recovery on their alternate put-back theory, although Bransten denied them summary judgment on put-backs in Tuesday’s rulings. The bond insurers had argued that Countrywide breached MBS pooling and servicing agreements when it allegedly misrepresented the quality of the underlying loan pools so it’s liable, under those contracts, to put back any deficient mortgages — the same put-back claims some MBS investors have made against issuers. The judge denied summary judgment because she found that the Countrywide pooling and servicing contract language is ambiguous. That’s a boon to Countrywide’s parent, Bank of America, and to other MBS issuers facing put-back claims. (More on that tomorrow.) But for the bond insurers, the put-back contract claims — which are still alive, even though Bransten denied summary judgment — were always an alternative route to the damages they also sought under their insurance-law claims.

Even if MBIA and BofA settle, MBS loss causation ruling en route

Alison Frankel
Dec 19, 2011 16:33 UTC

The folks who follow every development in the mega-billions poker match between Bank of America and the bond insurer MBIA have last week been buzzing even more loudly than usual about the prospect of a global deal. Tuesday’s settlement between MBIA and Morgan Stanley leaves BofA as the most important remaining member of the dwindling bank group challenging MBIA’s 2009 restructuring. There’s a de facto deadline of Dec. 30 for settlements in that case, since that’s the day New York’s top financial regulator, Benjamin Lawsky of the Department of Financial Services, has to file a key response to the banks’ allegations. Both Lawsky and MBIA execs have been very clear: they want resolution. So the pressure is on BofA to make a deal.

Moreover, MBIA really needs a global settlement with BofA, in which the bank not only drops out of the restructuring case but also ponies up to resolve the bond insurer’s mortgage-backed securities claims. MBIA filed an 8K with the Securities and Exchange Commission Thursday, disclosing the good news that its commutation deals have wiped out $20 billion in exposure, including more than $10 billion its has eliminated just in the fourth quarter of 2011. The bad news in the filing, however, is that MBIA’s payments to banks have exceeded its statutory loss reserves by $500 million, and the insurer may not have enough liquidity to reach more settlements. Remember, MBIA has already booked a $2.8 billion anticipated recovery on MBS put-back claims. Clearly, the bond insurer is counting on getting some big money from BofA on the MBS side.

The wild card in this poker game is loss causation and MBS liability for BofA (and other issuers). You’ll recall that in early October, New York State Supreme Court Justice Eileen Bransten heard arguments on a summary judgment motion by MBIA in its case against Countrywide. MBIA asked the judge to rule on the issue that will determine the magnitude of bank exposure to MBS claims by bond insurers: are the banks liable for misrepresenting the underwriting on loans in underlying mortgage pools starting from the day they signed deals with monoline insurers? Or can the banks cite the economic crisis — and not their own deficient underwriting — as the reason so many mortgage loans have gone bad? Bransten’s reasoning on loss causation could swing billions, or even tens of billions, of dollars of liability between the banks and the monolines.

Baupost: We’re Walnut Place, and we’re not shorting BofA stock

Alison Frankel
Dec 12, 2011 15:10 UTC

My colleague Karen Freifeld was in Manhattan State Supreme Court Thursday when Bank of America counsel Theodore Mirvis of Wachtell, Lipton, Rosen & Katz stood up to argue for the dismissal of Walnut Place’s suit demanding millions of dollars in put-backs in two Countrywide mortgage-backed securities trusts. Everyone who follows MBS litigation knows that Walnut, represented by Grais & Ellsworth, is the leading objector to BofA’s embattled $8.5 billion settlement with Countrywide MBS investors. But Freifeld was the first journalist to pick up Mirvis’s big disclosure: Walnut Place, he told Justice Barbara Kapnick, is actually the distressed debt hedge fund Baupost.

Late Friday, Baupost informed its partners (as the fund calls clients) that it is indeed Walnut Place. But according to a source who disclosed the memo’s content to Reuters, the hedge fund said it is litigating to protect its clients’ investment — and not, as a blog suggested Thursday night, because it has shorted Bank of America stock.

“From time to time and for a variety of reasons [Baupost] forms legal entities to consolidate investments. Walnut Place is such an example,” the Baupost memo said. “It holds certain of our residential mortgage-backed securities investments. Walnut Place has initiated legal actions against the originator of the loans underlying those securities because we believe there have been egregious deficiencies in the underwriting of mortgages. That litigation is intended to protect the interests of our investors and is ongoing.”

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