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Financial Services Law Insights and Observations


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  • FHFA IG Clears Freddie Mac's Use of Inverse Floating-Rate Bonds


    On September 26, the FHFA Inspector General (IG) reported that neither Freddie Mac nor the FHFA purposefully limited refinancing opportunities to influence the yields of Freddie Mac inverse floating-rate bonds (inverse floaters). Inverse floaters are a by-product of other variable rate bonds carved out of Freddie Mac’s securitized mortgages to capitalize on increasing investor demand. Because the value of inverse floaters decreases when the underlying mortgages are refinanced, U.S. lawmakers and others argued that inverse floaters created a conflict of interest for Freddie Mac’s investment and refinancing policies because Freddie Mac could intentionally limit refinances to protect the value of its retained inverse floaters. The FHFA IG reviewed the practice and Freddie Mac’s portfolio and determined that (i) inverse floaters represent a small portion of Freddie Mac’s capital markets portfolio, (ii) inverse floaters pose no greater conflict than do any other mortgages held by Freddie Mac, and (iii) Freddie Mac employs an “information wall” to prevent the use of nonpublic information—including information about refinancing activity—from being used in investment decisions.

    Freddie Mac RMBS FHFA

  • FHFA, Fannie Mae, and Freddie Mac Implement New Representation and Warranty Framework


    On September 11, the FHFA announced that Fannie Mae and Freddie Mac (the GSEs) are implementing a new representation and warranty framework for all conventional loans sold or delivered to the GSEs on or after January 1, 2013. As detailed in subsequent announcements from the GSEs, including Fannie Mae Selling Guide Announcement SEL-2012-08, Fannie Mae Lender Letter LL-2012-05, Freddie Mac Bulletin 2012-18, and a Freddie Mac Industry Letter, the new framework is designed to improve the GSE loan review process and to clarify lenders' repurchase exposure. With regard to loan review, under the new framework, (i) GSE reviews will generally be conducted between 30 and 120 days after loan purchase, (ii) the GSEs will have consistent timelines for submission of loan file review requests, (iii) loan file evaluation will be more comprehensive and will leverage data from tools currently used by the GSEs, and (iv) the repurchase request appeals process will be made more transparent. For lenders, the new framework will provide relief from certain repurchase obligations for loans that meet specific payment requirements, including for loans with 36 consecutive months of timely payments and HARP loans with a twelve-month acceptable payment history. Lenders will receive additional detailed information about exclusions from this new representation and warranty relief.

    Freddie Mac Fannie Mae Mortgage Origination RMBS FHFA

  • Second Circuit Reinstates MBS Class Action, Loosens Requirements for Pleading Damages


    On September 6, the U.S. Court of Appeals for the Second Circuit held that a plaintiff has class standing to assert the claims of purchasers of securities backed by mortgages originated by the same lenders that originated the mortgages backing the named plaintiff’s securities, even when the securities were purchased from different trusts. NECA-IBEW Health & Welfare Fund v. Goldman Sachs & Co., No 11-2762, 2012 WL 3854431 (2nd Cir. Sep. 6, 2012). In this case, the plaintiff, an institutional purchaser of certain mortgage-backed securities, filed suit on behalf of a putative class alleging that the offering documents contained material misstatements regarding the mortgage loan originators’ underwriting guidelines, the property appraisals of the loans, and the risks associated with the certificates. The district court dismissed the case, holding the named plaintiff lacked standing to bring claims on behalf of proposed class members that purchased securities from trusts other than the trusts from which the plaintiff bought securities. The district court also held that the plaintiff failed to allege a cognizable loss because the plaintiff knew the certificates might not be liquid and therefore could not allege injury based on a hypothetical price. On appeal, after acknowledging that putative class members purchased certificates issued through seventeen separate offerings backed by separate pools of loans, the court held that the named plaintiff raises a “sufficiently similar set of concerns” to allow it to seek to represent proposed class members who purchased securities backed by loans made by common originators. In overturning the district court with regard to the plaintiff’s ability to plead a cognizable injury, the court reasoned that while it may be difficult to value illiquid assets, “the value of a security is not unascertainable simply because it trades in an illiquid market.” The court reversed in favor of the plaintiff and remanded the case for further proceedings.

    Class Action RMBS

  • Federal Court Dismisses Fannie Mae Shareholders' Subprime Suit Against Underwriters, Allows Claims to Proceed Against Fannie Mae, Officers


    On August 30, the U.S. District Court for the Southern District of New York ruled on multiple motions to dismiss filed in four consolidated cases pending against Fannie Mae, certain former officers, and several banks, related to Fannie Mae’s exposure to certain risky mortgages. In re Fannie Mae 2008 Secs. Litig., No. 09-2013, 2012 WL 3758537 (S.D.N.Y. Aug. 30, 2012). The main class of shareholders alleges that Fannie Mae and certain of its former officers violated federal securities laws by failing to adequately disclose the company’s exposure to subprime and Alt-A mortgages. Separately, institutional investors brought their own federal securities claims, as well as state statutory and common law fraud and negligence claims against Fannie Mae, certain officers, and certain of its underwriters related to the same alleged misrepresentations. Many of the same allegations are contained in SEC enforcement actions pending against a number of the same individual defendants. In a single opinion, the court dismissed certain of the claims but allowed others to proceed. The court allowed to proceed the federal securities claims brought by the main class and two other plaintiffs against Fannie Mae and certain of its officers with regard to Fannie Mae’s subprime mortgage disclosures and risk management controls, but dismissed all state law claims, including those against Fannie Mae, certain officers, and certain underwriters. The court also dismissed in full a suit that one underwriter faced alone because the plaintiffs failed to present evidence sufficient to show the underwriter intentionally provided investors allegedly false information it received from Fannie Mae.

    Fannie Mae RMBS Subprime

  • FHFA Increases Mortgage Guarantee Fees


    On August 31, the FHFA announced that Fannie Mae and Freddie Mac will attempt to bring more private capital into the secondary mortgage market by increasing guarantee fees (g-fees) on single-family mortgages by an average of ten basis points. The increases will be effective on December 1, 2012 for loans exchanged for mortgage-backed securities, and on November 1, 2012 for loans sold for cash. The increases are designed to decrease the difference between g-fees charged to large volume lenders and those charged to small volume lenders, and to reduce cross-subsidies between higher-risk and lower-risk mortgages. With the announcement the FHFA released a report on guarantee fees charged in 2010 and 2011. The FHFA also stated that it soon will seek public comment on a proposal to develop risk-based pricing at the state level.

    Freddie Mac Fannie Mae RMBS FHFA

  • Second Circuit Agrees to Hear Appeal of Challenge to FHFA MBS Suit


    On August 14, the U.S. Court of Appeals for the Second Circuit agreed to hear an interlocutory appeal on an expedited basis from a group of defendant financial institutions and individuals challenging a portion of a district court’s denial of their motion to dismiss claims brought by the FHFA. Fed. Hous. Fin. Agency v. UBS Americas, Inc., No. 12-3207 (2nd Cir. Aug. 14, 2012). The federal housing conservator contends that offering documents provided to Fannie Mae and Freddie Mac in connection with their purchase of billions of dollars of MBS included materially false statements or omitted material information. This case is the first of eighteen such suits the FHFA has filed in an attempt to recoup MBS losses sustained by Fannie Mae and Freddie Mac.


  • FDIC Files MBS Suits On Behalf of Failed Bank


    On August 10, the FDIC filed five actions that collectively seek to recover over $740 million from numerous financial institutions based on claims that the institutions violated federal and state securities laws in the offering of certain residential mortgage-backed securities to a now failed bank. As receiver for the failed bank, the FDIC alleges that the institutions omitted key facts and made numerous false statements of material fact about the securities, including about the credit quality of the mortgage loans that backed the securities. The material misstatements and omissions, according to the FDIC, contributed to substantial losses at the failed bank and subsequent costs to the Federal Deposit Insurance Fund. The suits, which were filed in the U.S. District Courts for the Central District of California (Case No. 12-06911) and the Southern District of New York (Case No. 12-6166), as well as the Circuit Court for Montgomery County, Alabama (Case Nos. 03-CV-2012-901035.00,03-CV-2012-901036.00,03-CV-2012-901037.00), are similar to others filed by the FDIC, the NCUA, and the FHFA.


  • DOJ and SEC End Investigations of Major Investment Bank's MBS Offerings

    Financial Crimes

    On August 9, the DOJ and the SEC reportedly halted their respective criminal and civil investigations of a major investment bank with regard to certain of the bank’s mortgage-backed securities offerings. The reports indicate that the DOJ will not pursue criminal charges against the bank or individual employees at this time. The DOJ had begun an inquiry into the bank’s activities at the prompting of the Senate Select Permanent Subcommittee on Investigations, which produced a report in 2011 that was critical of the bank’s MBS activities. According to reports, a separate SEC investigation concerning a $1.3 billion sale of mortgage-backed securities also appears to have been abandoned.


  • Majority of NCUA MBS Claims Survive Motion to Dismiss


    On July 25, the U.S. District Court for the District of Kansas denied a motion to dismiss that sought to dispose of allegations that the defendant financial institutions misled investors in connection with the sale of certain mortgage-backed securities (MBS). Nat. Credit Union Admin. Bd. v. RBS Secs., Inc., No. 11-2340, 2012 WL 3028803 (D. Kan. Jul. 25, 2012). The NCUA brought the suit against several MBS-issuers on behalf of a failed credit union for which it had been appointed conservator, arguing that the MBS issuers’ documents used in offering the MBS contained material misstatements and omissions that led to substantial losses to the investor credit union and the NCUA Stabilization Fund. The facts and arguments are similar to those NCUA has presented in several cases around the country in an effort to recover MBS-related losses for failed institutions. Here, the MBS issuers argued that the NCUA complaint exceeded the statute of limitations, having been filed more than three years from the issuance of the securities. The issuers maintained that the failed institution should have been able to identify the issues within the statutory limit. The court disagreed and held that the federal extender statute applied, allowing NCUA to bring the case beyond the three year limit. Because the government could not have known the details of the offerings until after it became conservator, and given that ambiguous statutes of limitations should be construed in favor of the government, the court determined the NCUA claims were timely. The court also held that the NCUA presented evidence sufficient to maintain a plausible claim of misrepresentation, except with regard to certain credit enhancement language that the NCUA charged was untrue and material.


  • Federal Court Allows Shareholder Suit Alleging Concealment of Mortgage-Related Risks to Proceed


    On July 11, the U.S. District Court for the Southern District of New York declined to dismiss the majority of the claims brought by a putative class alleging that a national bank, certain of its current and former officers and directors, multiple underwriters, and the bank’s third-party accounting auditor, deliberately concealed the bank’s reliance on an electronic registry system and its exposure to MBS loan repurchase claims. Pa. Pub. Sch. Employee’s Ret. Sys. v. Bank of Am. Corp. No. 11-733, 2012 WL 2847732 (S.D.N.Y. Jul. 11, 2012). In this case, a state retirement system alleges on behalf of similarly situated shareholders that the bank misrepresented that it had “good title” to loans even though multiple courts had blocked the bank’s attempts to foreclosure based on the bank’s use of an electronic registry system. The court, in declining to dismiss these claims, held that the use of the registry system “clouded” the bank’s ownership of many loans, thereby causing the bank to publish misleading shareholder information. The court also declined to dismiss allegations that the defendants misstated or omitted the bank’s exposure to repurchase claims. Further, claims that the bank misled investors about its internal controls also survived. Several other claims, including certain claims against the directors and officers were dismissed without prejudice, while other certain other claims against the defendants were dismissed with prejudice.

    RMBS Shareholders


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