[authors: Jennifer Broda, Matthew Ferguson, Thomas Orofino, and Eric Scheiner]
This digest collects and summarizes recent media reports regarding potential liability, government initiatives, litigation and regulatory actions arising from the subprime mortgage crisis and credit crunch, as well as a number of reported cases of financial fraud.
This issue focuses on the latest developments in the Libor scandal; announcements by Goldman Sachs that the DOJ and the SEC have declined to pursue actions against it arising out of its sale of mortgage-backed securities; the withdrawal of an investor group’s opposition to Bank of America’s $8.5 Countrywide-related settlement; Picard’s claims against the wives of Madoff’s sons; the status of the putative Madoff class action against PwC; and new proposed rules regulating mortgage servicers.
Litigation and Regulatory Investigations
Fraud and Ponzi Schemes
Government and Regulatory Intervention
FSA Recommends Dismantling Libor
Martin Wheatley, the head of the U.K. Financial Services Authority, has announced that one of the suggested solutions to the London Interbank Offered Rate (Libor) scandal will be to eliminate the program and replace it with an interbank borrowing rate based upon actual trades. Wheatley further recommends that the new borrowing rate be supervised by an independent body, rather than the British Bankers’ Association, as well as possible criminal sanctions for any future rate manipulations. (“FSA suggests Libor should be scrapped,” The Financial Times, August 9, 2012).
Barclays Names David Walker New Chair
On August 9, 2012, Barclays announced that effective November 1, 2012, its new chair will be Sir David Walker, the former Bank of England deputy governor. Walker replaces former Barclays chair Marcus Agius – who resigned from his position immediately following the Libor scandal. Walker is currently a senior advisor and previous chair of Morgan Stanley. Prior to joining Morgan Stanley, Walker held high-profile positions including Assistant Secretary at the Treasury, Executive Director at the Bank of England, Chair and Chief Executive of the Securities and Investment Board, Deputy Chair at Lloyds Bank, and Chair of the London Investment Bankers’ Association.
Upon the announcement that Walker would assume the chair position at Barclays, he stated, “I am looking forward to joining the Barclays Boards and to playing my part in taking the company forward after recent events. The UK needs a strong financial services sector and Barclays has a crucial role to play in ensuring that this country has a successful, well-governed banking industry. My immediate priority, and critical to Barclays ongoing success, is the appointment of a new Chief Executive, and I will be fully engaged in that process.” At this time, Barclays has not chosen a successor to previous CEO Robert Diamond, who also resigned following the scandal. (“Libor Cleanup: Barclays Names David Walker New Chairman,” Forbes, August 9, 2012).
Litigation and Regulatory Investigations
No DOJ Prosecution of Goldman Following 2011 Senate Report; SEC Also Ends Investigation
On August 9, 2012, Goldman Sachs announced that the U.S. Department of Justice (DOJ) declined to prosecute the bank or its employees in connection with the findings in an April 2011 Senate report that probed the early days of the 2008 financial crisis. The Senate report discussed apparent conflicts of interest by Goldman Sachs and Deutsche Bank by selling clients securities that were described internally by the banks as “crap” and “pigs,” while simultaneously profiting from the transactions by shorting them or, in other words, betting against them. In a related statement, the DOJ conceded that the “burden of proof” could not be met at this time, but left open the possibility of bringing charges in the future if additional information is uncovered.
On the same day, Goldman Sachs announced that the U.S. Securities and Exchange Commission (SEC) ceased its investigation in connection with the 2006 offering documents and sale of $1.3 billion in mortgage-backed securities that were underwritten by the bank. In February 2012, Goldman had received a Wells notice stating that the SEC was contemplating an enforcement action in connection with the offering. Goldman indicated that it cooperated with the SEC during the investigation, but that the SEC staff stated that they do “not intend to recommend an enforcement action by the SEC.” (“Goldman Avoids DOJ Charges, SEC Probe Into MBS Sales,” Law360, August 9, 2012).
Investors Withdraw Opposition to Bank of America’s $8.5 Billion Countrywide MBS Settlement
Investor group Walnut Place, LLC has ended its opposition to Bank of America Corp.’s $8.5 billion settlement with mortgage-backed securities holders of Countrywide Financial Inc. Walnut sought to intervene in the settlement, alleging that BNY Mellon Corp., as the trustee, had not advised them about the settlement negotiations and concluded the agreement in private. Walnut sought additional information regarding the settlement, but was apparently rebuffed by the bank and the trustee.
The $8.5 billion settlement includes 500 trusts, which had an original total principal balance of more than $424 billion in Countrywide-backed securities. The settlement also limits “robosigning” practices and other servicing issues.
Walnut’s announcement followed an earlier New York state court defeat for the investor group, in which the court dismissed Walnut’s claims challenging the bank’s handling of its mortgage-backed securities. A New York appeals court held that Walnut’s claims were limited by the “no-action” clauses in the investment agreements. (“Investors End Fight Against BofA's $8.5B MBS Settlement,” Law360, July 23, 2012).
Fraud and Ponzi Schemes
Wives of Madoff Sons Argue They Cannot be Subject of Lawsuit
On August 3, 2012, Stephanie Mack and Deborah Madoff, the spouses of Bernard L. Madoff’s sons, filed a brief before federal judge Jed S. Rakoff, arguing that they cannot be the subject of Madoff trustee Irving Picard’s clawback lawsuit styled Securities Investor Protection Corp. v. Bernard L. Madoff Investment Securities LLC. Specifically, the Madoff spouses maintain that they are protected by the doctrine of in pari delicto, which provides that a lawsuit may not be brought against third-party wrongdoers where all parties are equally at fault. Picard has argued that because Madoff’s sons deposited funds from the Ponzi scheme into accounts jointly owned by the wives, the wives constitute “insiders” and thus the in pari delicto doctrine does not apply to them. The wives, nevertheless, contend that they cannot be considered insiders based solely on their marital status with Madoff’s sons and argue they had no control over the investment company.
According to court documents, Deborah Madoff was married to Andrew Madoff in 1992 and began divorce proceedings in 2008, while Stephanie Mack was married to Mark Madoff from 2004 until his suicide in 2010. Picard hopes to recover $27 million from Deborah Madoff, $27.5 million from Stephanie Mack, and an additional $3 million collectively from Mack, Deborah Madoff and Susan Elkin, Mark Madoff’s former wife. (“Wives Of Madoff Sons Fight ‘Insider’ Label in $58M Suit,” Law360, August 6, 2012).
Judge Tightens Madoff-Related Claims Against PricewaterhouseCoopers
In another claim initiated as a result of the Madoff Ponzi scheme, a putative class action styled Anwar, et al. v. Fairfield Greenwich Ltd., et al., U.S. District Judge for the Southern District of New York Victor Marrero granted in part motions for reconsideration filed by defendant Pricewaterhouse Coopers (PwC). PwC filed motions for reconsideration regarding the court’s decision to deny PwC’s motion to dismiss the negligence claims brought by investors of Madoff feeder funds alleging negligence and violations of the duty of care. Judge Marrero threw out plaintiffs’ negligence-based claims involving new investors, but upheld claims alleging that defendants induced and encouraged subsequent investments into the feeder funds. In so holding, Judge Marrero stated that “[t]he court cannot conclude that plaintiffs’ claims regarding inducement to make subsequent investments should necessarily fail the ‘known party’ requirement of Credit Alliance,” a case that dictates that plaintiffs are required to show that professional representations were relied upon by “known parties.” Judge Marrero, however, indicated that defendants would be allowed to readdress this argument after discovery through summary judgment. (“Judge Trims Negligence Claims Against PwC,” Law360, August 8, 2012).
Government and Regulatory Intervention
Additional Regulations for Mortgage Servicers on the Horizon
Acting under the authority given to it by the Dodd-Frank Act, the Consumer Financial Protection Bureau has proposed strict rules for mortgage service companies. On August 9, 2012, the consumer bureau recommended rules that would require mortgage servicers to provide monthly statements to customers, warn them before interest rates are adjusted, and offer additional options to avoid foreclosure. In announcing the proposals, Richard Cordray, director of the consumer bureau, said “the major failures in this industry demonstrate that all servicers need to meet basic standards of good customer service.” According to reports, recent state and federal investigations into mortgage servicers found widespread examples of lost paperwork, forged signatures and other allegedly unsound foreclosure practices.
The proposed rules will be open to comment until October 9, 2012, and final rules are expected by the beginning of 2013. The new rules will be introduced as amendments to the Truth in Lending Act and the Real Estate Settlement Procedures Act. The American Bankers Association has reportedly been in contact with consumer bureau officials regarding the proposed rules. According to Bob Davis, executive vice president of the bankers association, the association supports clear rules for consumers, although “we want to make sure servicing doesn’t get tangled up in so much red tape that high-quality, responsive servicing is no longer viable, particularly at small banks.” (“Consumer Protection Bureau Proposes to Tighten Rules on Mortgage Servicers,” The New York Times, August 10, 2012).