Losses Due To ARS Market Disintegration
Over the past few months, the Auction Rate Securities (ARS) markets have suffered a $350 billion market disintegration. Many companies have been forced to write-down their losses due to investments in ARS. The February 2008 collapse of the ARS market affected companies of all sizes and levels of ARS investment. It also affected many individuals who thought that an investment in ARS was safe and secure. Individual investors saw their assets frozen, and most are unable to access their accounts. Companies and individuals lost hundreds of millions of dollars in ARS, even though brokers marketed them as safe, secure, liquid investments.
In fact, this market disintegration has widened to include the State of New York, which, as reported by the Wall Street Journal, filed civil fraud charges on July 24, 2008 against UBS AG, accusing the firm of a "multibillion-dollar consumer and securities fraud," and demanding that the firm pay back its profits from the business, make investors whole and pay damages.
My firm, Heygood, Orr, Reyes, Pearson & Bartolomei has helped many investors recover their losses from ARS investments. If you’re one of those investors, give me a call at 1.877.308.7900 or email angel@reyeslaw.com for a confidential assessment of your claim.
For more information on ARS losses, read the following Wall Street Journal articles below:
Citigroup May Face Auction-Rate Suit
Cuomo Threatens Charges of Fraud, Destroying Evidence
By AMIR EFRATI
August 2, 2008; Page B7
New York state's attorney general, Andrew Cuomo, threatened on Friday to sue Citigroup Inc. for alleged fraud in the marketing and sales of auction-rate securities and for destroying evidence after being subpoenaed by his office.Charges could be filed as early as the next couple weeks if the sides don't reach a settlement, said people familiar with the matter.
Citigroup said it is cooperating with Mr. Cuomo's investigation and "acted in good faith and in the best interests of our clients both before and since auctions began to fail, and there is simply no basis for claims to the contrary." A Cuomo spokesman declined to comment.
The firm also disclosed Friday in a regulatory filing that it has received subpoenas or requests for information from the Securities and Exchange Commission, among others, in connection with its handling of auction-rate securities.
In a letter written to Michael Sharp, general counsel of Citigroup's wealth-management arm, an official in Mr. Cuomo's office said its five-month probe showed the bank "committed fraud by making material misrepresentations and omissions" in its underwriting, distribution and sale of the securities.
The letter, written by David Markowitz, the head of the investor-protection bureau in Mr. Cuomo's office, accused the bank of wrongly telling customers the securities were safe, liquid and cash-equivalent. It added that the bank failed to tell investors that, from last August until earlier this year, the market was kept afloat only because the bank placed bids in auctions for the securities.
The letter demands that Citigroup buy back investors' securities at par and reimburse some investors for damages they have incurred, and wants the firm to pay an unspecified penalty.
The letter also accused the firm of violating state law by destroying "recordings of telephone conversations concerning the marketing, sale, distribution or auction" of the securities -- recordings requested by Mr. Cuomo's office in an April subpoena.
"There is simply no basis for this claim," Citigroup said. The firm regularly tapes over old recordings, and it inadvertently taped over one set of recordings that were relevant to the probe, the firm said. "As soon as we learned of the oversight, we immediately suspended all recycling of tapes and preserved all existing tapes" and notified regulators, the firm said.
If charges are brought, Citigroup would become the third big financial firm to face civil-fraud charges by regulators since the auction-rate imbroglio.
Mr. Cuomo's office has already filed a lawsuit against UBS AG, accusing the Swiss bank's executives of selling their personal holdings in auction-rate securities in the months leading up to the market's collapse, based on knowledge of problems in the market.
In June, Massachusetts securities regulators sued UBS for allegedly misleading investors about the market's risks and increasing its efforts to sell the securities after realizing the market was in trouble. UBS is contesting charges by both states.
Massachusetts securities regulators have sued Merrill Lynch & Co., accusing it of co-opting its own analysts to help the investment bank dump collapsing auction-rate securities on investors. Merrill is fighting the charges.
Auction-rate securities, typically issued by municipalities, student-loan companies and charities, are long-term securities with short-term features. The interest rates reset at weekly or monthly auctions run by Wall Street firms.
S&P Email: 'We Should Not Be Rating It'
By AARON LUCCHETTI
August 2, 2008; Page B1
Problems keeping up with the surging growth of mortgage-related debt products were particularly acute at Standard & Poor's Ratings Services, according to a draft version of a Securities and Exchange Commission report on bond-rating firms.The agency's report, which included unflattering emails, was released July 8 but didn't identify the firms or individuals who wrote the emails. The SEC said that was general practice for an industry review.
Some of the most strongly worded emails from analysts questioning their own ratings came from S&P, according to a draft version of the 38-page report, which includes the firms and was reviewed by The Wall Street Journal. The unit of McGraw-Hill Cos. is the largest bond-rating firm by revenue.
In one email, an S&P analytical staffer emailed another that a mortgage or structured-finance deal was "ridiculous" and that "we should not be rating it." The other S&P staffer replied that "we rate every deal," adding that "it could be structured by cows and we would rate it."
Meanwhile, an analytical manager in the collateralized debt obligations group at S&P told a senior analytical manager in a separate email that "rating agencies continue to create" an "even bigger monster -- the CDO market. Let's hope we are all wealthy and retired by the time this house of cards falters.;O)"
The draft report could trigger more scrutiny of how each bond-rating firm did business during the credit market's boom and bust, including how they dealt with conflicts of interest and other issues affecting the accuracy of ratings.
A McGraw-Hill spokesman said the firm wouldn't comment on specific emails.
The unredacted version of the SEC's report also shows that S&P and Moody's Corp., the industry's two biggest members, didn't add staff dealing with CDOs as fast as that business was growing. At S&P, revenue from rating the mortgage-laden bond portfolios grew more than 800% from 2002 to 2006, but related staffing doubled. At Moody's, the comparison between revenue and staff was similar, but its growth rate in CDOs was somewhat lower than at S&P.
Staffing levels have long been a hot-button issue at rating firms. Frank Raiter, a former S&P managing director who oversaw residential-mortgage ratings, said the number of deals his analysts rated rose to about nine per month before he left in 2005 -- about double the workload in 2000.
"We are short on resources," one S&P analytical manger said in an email to a senior manager in December 2004, according to the SEC report. Analysts working 60-plus hours a week were resigning and "experiencing health issues," the email added. "We are burning them out."
McGraw-Hill said S&P "has consistently invested in resources and increased its professional staff across its business lines." The firm added that the SEC found fewer staffing problems in residential mortgages and that S&P overall has more than doubled its staff since 2002. Rating firms have also said that as time passed, new deals could be rated faster because they were growing similar.
But satisfying Wall Street issuers also crept into the process. "We are meeting with your group this week to discuss adjusting criteria for rating CDO's of real-estate assets...because of the ongoing threat of losing deals," S&P commercial mortgage analyst Gale Scott wrote to colleagues in August 2004, according to the draft report and a person familiar with the situation.
Richard Gugliada, a former S&P official who replied to Ms. Scott's email, said he recalls that commercial-mortgage rating criteria were changed slightly after several meetings on the subject. Ms. Scott, who still works at S&P, couldn't be reached for comment.
In early 2007, an S&P official involved in real-estate deals stated that "our staffing issues, of course, make it difficult to deliver the value that justifies our fees." In another email, an S&P official wrote: "Just too much work, not enough people, pressure from the company, quite a bit of turnover and no coordination of the non-deal stuff they want us and our staff to do."
Auction-Rate Crackdown Widens
UBS Faces New Charges in New York, as Scrutiny of Wall Street's Role Intensifies
By LIZ RAPPAPORT
July 25, 2008; Page A1The state of New York on Thursday joined a widening array of prosecutors and customers accusing Wall Street firms of wrongdoing in efforts to hold together the $330 billion auction-rate securities market before it collapsed in February.
State Attorney General Andrew Cuomo filed civil fraud charges against UBS AG, accusing the firm of a "multibillion-dollar consumer and securities fraud," and demanding that the firm pay back its profits from the business, make investors whole and pay damages.
A spokeswoman for UBS said, "We will vigorously defend ourselves against this complaint."The New York attorney's case echoes a similar case brought against UBS by Massachusetts officials and many private cases and arbitration claims filed against UBS and other prominent firms in recent months.
The firms are accused of pushing risky securities on retail and corporate customers with misleading sales tactics, even as the market for those securities was falling apart. When the collapse came, many customers faced losses or were stuck with securities they couldn't sell.
Wall Street firms themselves have suffered immense losses and faced litigation resulting from their activities in other kinds of troubled financial instruments -- most notably mortgage-backed securities. Their auction-rate problem could prove a smaller financial scar than the hundreds of billions lost in mortgage-backed securities, but a big loss to Wall Street's reputation.
The victims in the auction-rate cases range from individual investors to big corporations. Some 250 public companies held these instruments, as did tens of thousands of individuals. The companies -- ranging from 3M Co. to Texas Instruments Inc. -- have on average written down the value of these holdings by 12% in the past few months, according to Pluris Valuation Advisors LLC, a company that helps corporations value illiquid securities. Applied across the whole $330 billion market -- which since February has gotten substantially smaller -- that would amount to roughly $40 billion of losses.
Auction-rate securities -- issued by municipalities, student-loan companies, charitable organizations and others -- are long-term securities that Wall Street engineered to have short-term features. Their interest rates reset at weekly or monthly auctions run by Wall Street firms. The firms promised individual investors and corporate clients that the frequent auctions made these securities as safe and liquid as cash because they would always be easy to sell quickly.
A Common Allegation
At the root of these cases is a common allegation: As problems mounted in these auctions and their own inventories of these securities became bloated, Wall Street firms worked aggressively to push the instruments out of their doors and into the hands of clients, playing down the severity of the problems rippling through the market.
The action, Mr. Cuomo and others charge, helped to contain their own losses but left their customers with beaten down, illiquid investments.
The New York complaint also alleges that several high-ranking UBS executives, whom the New York attorney didn't name, sold roughly $21 million of their own auction-rate securities holdings amid the turmoil. Some 50,000 UBS customers were left holding $37 billion worth of the struggling investments, the complaint says.
Karina Byrne, a UBS spokeswoman, said, "UBS does not believe that there was illegal conduct by any employee." After an internal investigation into personal sales of auction-rate securities, "we have found cases of poor judgment by certain individuals and are evaluating appropriate disciplinary measures for these individuals," she said.
"It is frustrating that the New York Attorney General has filed this complaint while we have been fully engaged in good-faith negotiations with his office to bring liquidity to our clients holding auction-rate securities," she added.
UBS is at the center of many of these allegations, but it isn't alone. Investigators from 10 states showed up at the offices of Wachovia Corp.'s St. Louis brokerage offices last week to get documents and conduct interviews in a dramatic escalation of their probe into its auction-rate activities. Wachovia said it, like others, is responding to inquiries from regulators.
State attorneys are also probing the activities of Merrill Lynch & Co., Citigroup Inc. and others. Merrill Lynch and Citigroup declined to comment.
The securities are backed by pools of other financial instruments, such as student loans, ultra-safe municipal bonds or complex subprime-mortgage debt. Even the safe municipal bonds were drawn into the unfolding mortgage crisis because they were backed by struggling bond insurers with exposure to mortgage debt.
Stepping In
In normal times, when weekly auctions of auction-rate securities failed to generate sufficient demand, Wall Street firms stepped in to support the market, buying the instruments themselves. But as they became strained by other problems, Wall Street firms stopped supporting the market with their own bids. By February, nearly every auction wasn't drawing enough buyers and the securities suddenly became illiquid, impossible for investors to cash in.
In February, the market for auction-rate securities collapsed when the big dealers in the market -- including UBS, Citigroup, Merrill and others -- stopped supporting struggling auctions, leaving investors unable to sell. Many companies have had to mark down their value, individuals have been stuck unable to access cash, and issuers of the instruments have had to pay higher interest rates or find a new way to raise money.
Before it fell apart, Wall Street firms raised some brokers' commissions to get the securities out the door. Merrill Lynch published reassuring research just days before it pulled out of the market. At UBS, executives mobilized its financial advisers to sell the securities to institutional and retail investors, many of whom have since filed complaints alleging UBS and others offered sugar-coated assurances in the months leading up to the February collapse.
One example unearthed in the Massachusetts investigations: Last November, Edward Hynes, an institutional sales manager at UBS, was preparing for a conference call with salespeople who worked directly with investors. In an email to three colleagues who would be leading the call, he laid out a strategy for the message that salespeople should take to UBS clients, according to documents filed by the state of Massachusetts against UBS.
"We need them to walk out and believe that this is a strong credit w [sic] strong UBS commitment to support the liquidity," Mr. Hynes wrote in an email to several colleagues about auction-rate securities backed by student loans, according to the Massachusetts case. At the time, the market was still a few months away from breaking, but cracks were already showing up. Mr. Hynes isn't named in the New York complaint.
People familiar with the email say the call would have been with institutional salespeople, not retail investment advisers.
"We are not going to address specific emails taken out of context," said Ms. Byrne in a statement. "UBS has acted in clients' best interests in this matter."
Another example involves a lawsuit filed early in June by Latham, N.Y., energy company Plug Power Inc. The company claims UBS assured Plug Power's chief financial officer, Gerry Anderson, in a conversation in October that auction-rate securities backed by student loans were safe and liquid, despite spikes in their interest rates that suggested otherwise.
Plug Power Inc. had bought $62.9 million in auction-rate securities backed by pools of student loans starting in 2005, comprising 44% of its total investment portfolio, according to the complaint. The claim alleges UBS put Plug Power into more student-loan auction-rate securities throughout the fall, after the CFO expressed concern.
UBS declined to comment on the lawsuit.
Incentive to Sell
Wall Street firms started raising commissions paid to some brokers at outside dealers who sold the securities to clients, an action that might serve as an enticement to them to sell more.
On Nov. 2, 2007, for example, Credit Suisse's short-term trading desk sent out an email informing its salespeople that Citigroup was increasing its commissions to outside dealers from 0.15 of a percent of the security sold to 0.20 of a percent on certain of its auction-rate securities, according to a person familiar with the email. By the start of January, their commissions on all types of Citigroup's auction-rate securities rose to 0.15 of a percent, instead of 0.1, says the person.
Citigroup and Credit Suisse both declined to comment.
Wall Street analysts also put out reassuring research just days before the auction-rate market hit a breaking point. For example, investigators are looking at one Merrill Lynch note that went out days before the market collapsed, according to people familiar with several investigations.
The note refers to problems in a $60 billion slice of the auction-rate securities market that was issued by closed-end mutual funds, called auction-rate preferred securities. These auctions were faltering by the end of 2007 as well.
"Auction yields still attractive despite spread compression," reads one bullet point of the report, published by analyst Kevin J. Conery on Feb. 8. It touted the bonds, saying they yielded at least 0.45 percentage points more than other types of bonds. "We continue to be impressed by the auction market's resiliency in the face of challenging times," the report said.
The inside of the report notes "noise around failed auctions," but goes on to highlight ways investors can invest in the market most safely, and states that securities issued by closed-end mutual funds are "still" viewed by the firm as "the conservative's conservative investment."
By Feb. 13, Merrill and UBS had stopped supporting the market.
A call to Mr. Conery was directed to Merrill's press office. "The research report was fair and balanced," says Mark Herr, a Merrill Lynch spokesman, in a statement. "Our analyst struck the right balance between sounding cautionary notes and concluding that there were insufficient alarms to herald the imminent and unprecedented collapse of the ARS market."
