Tick-tock! US hastens crisis probes

Election-year pressures to respond to the anger of the “99%” – and a race against time to bring charges before statutes of limitations on crisis-era RMBS and CDOs run out – are spurring both the US government and private investors to push ahead with RMBS law enforcement and litigation, respectively, according to people close to the probes.

A surprise criminal indictment by the US last week of three former Credit Suisse traders – who artificially boosted the prices of battered RMBS in 2007 to earn higher bonuses – raised eyebrows across the legal community, both for its noticeable proximity to the formation of an Obama-administration federal RMBS fraud task force the week prior and the case’s strikingly easy targets: alleged rogue traders.

Given two of the traders’ plea agreements, this may be the first successful criminal indictment stemming from the financial crisis.

But the case also may foreshadow the fact that federal investigations are likely to focus far more heavily on actions taken by banks and ratings agencies to cover up their mistakes as the market was imploding in 2007 and 2008, rather than on the original assembly of toxic securities in the years prior, according to people familiar with the investigations.

This is partially due to the fact that statutes of limitation are expiring on the creation of the securities.

“The RMBS Working Group … pledged to look under every rock and down every avenue to go after the financial institutions that assembled toxic RMBS. That’s not what this is”

The DOJ and SEC civil probes into Standard & Poor’s, for example, focus far more heavily on the steps the agency took to address the crisis in 2007, rather than on the initial assignment of Triple A ratings in 2005 or 2006, insiders say, which was initially thought to be central to the investigation.

Still, the timing of the Credit Suisse trader charges last week took some by surprise. The incident has been public knowledge for four years, and the Swiss bank, whose early-2008 write-down of US$2.85bn was partially due to the alleged fraud, fired the individuals at that time. The bank itself is not a target at all, and the US Department of Justice has been investigating the case since 2008.

Fortuitous timing?

In addition to the DOJ indictment, the SEC revealed its own parallel civil case last week – which has also been in the works for years – prompting experts to ask why the charges are first being brought now.

“This is a strange prosecution to coincide with the Obama administration’s RMBS Working Group. How fortuitous the timing is,” said Isaac Gradman, an attorney who has brought legal action over mortgage bonds.

“What’s more, this isn’t really the typical fraud you’d expect to prosecute from the crisis. These are three rogue traders who defrauded their institution, and were disciplined by their institutions back in 2008,” he said. “The RMBS Working Group, on the other hand, pledged to look under every rock and down every avenue to go after the financial institutions that assembled toxic RMBS. That’s not what this is.”

There has also been acceleration in MBS litigation brought by bondholders or civil actions brought against banks by states due to the short statute of limitations.

“Given that the deals were created in New York, the conservative attorney will look at the state’s six-year limitations period both for breach of contract and fraud,” said Scott Walker, chair of the structured finance litigation committee at Lowenstein Sandler.

The statute of limitations for federal securities fraud is typically five years, but at least part of the motivation for elevating the pursuit of RMBS fraud to the federal level with the formation of the RMBS Working Group was to take advantage of longer statutes of limitations.

“As statutes get closer, the government, as well as private investors, are going to pull the trigger this year,” said Robert Anello, a defence attorney at Morvillo Abramowitz.