Thursday, March 31, 2011

The Subprime Shakeout: Federal Regulators Pick Fight with Banks Over Collapsed Credit Unions

The Subprime Shakeout: Federal Regulators Pick Fight with Banks Over Collapsed Credit Unions

The most interesting thing about the NCUA's efforts is their focus on misrepresentation. As I've noted, we're seeing a trend away from putback lawsuits and towards claims based on misrepresentations by issuing banks, such as Securities Act, Blue Sky and tort claims. Though plaintiffs originally shied away from alleging fraud or misrepresentation because they had little hard evidence to support such claims, significant revelations from discovery in ongoing litigation and testimony in federal investigations have exposed shenanigans in the loan buying and packaging business during the boom years of 2005-2008. In addition, as the recent holding in the FHLB of Pittsburgh case against JPM (analysis here and full order here) makes clear, less evidence is needed than previously thought to ensure the survival of misrepresentation claims.

In the NCUA's case, sources indicate that the reason the agency is banging the drum of misrepresentation rather than breach of rep and warranty is that it may not be able to overcome the significant procedural hurdles required to obtain standing. The NCUA, on its own, does not appear to hold at least 25% of the voting rights in many MBS trusts, meaning it would have to band together with other investors to pursue these claims. This is still a possibility, but until then, the NCUA is wise to pursue the more accessible Securities Act and Blue Sky claims.
Turning to the big picture, the WSJ article quotes Quinn Emanuel lawyer Jonathan Pickhardt as saying, "[t]here's plenty more litigation yet to come," and I tend to agree. The statute of limitations ("SOL") for federal securities claims is five years, while the SOL for rep and warranty contract claims under New York law is six years, meaning that claims on securities backed by 2005- and 2006-vintage loans will expire en masse by the end of this year. Should institutional investors fail to take action on these assets, despite the emergence of substantial evidence that these assets were misrepresented or defective, they could be exposed to breach of fiduciary duty claims by the pensioners, retirees and ordinary Americans whose funds they oversee.
Thus, I expect to see a significant number of MBS-related lawsuits hit the courts this year, including action by the Investor Syndicate, which has been ominously silent over the last few months. When that 800-lb gorilla finally begins beating its chest, Wall Street and institutional investors alike will be forced to sit up and take notice.
read the full article at the Subprime Shake out

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