One of the benefits of the Occupy movement is that it is flushing out some particularly egregious behavior among the top 1%.
A writer for the Minneapolis CityPages managed to worm his way into a presentation to the annual meeting of the Minnesota Chamber of Commerce by US Bank’s CEO, Richard Davis. Even though Occupy Minnesota was protesting outside, Davis chose to ignore them. His speech made clear that the business community does not care about long-term self interest, let alone social responsibility. Housing and the foreclosure crisis were absent from the 2012 legislative priorities. But tax reform, which is code for shifting even more of the cost of government on to the small fry? Yeah, that’s a big deal.
Davis’ apparent lone comment on the public ire against the banks was dismissive:
“‘Everybody’s breaking the rules, blah blah blah,” Davis said at one point, mocking the general sentiment behind the public outrage before admonishing them to “Get over it.”
Davis’ arrogance no doubt seems justified, since only rulebreakers who aren’t in the corporate elite club, like Bernie Madoff, have been brought to justice. And he stole from rich people, which made him a prime target. By contrast, US Bank on Davis’ watch, is a recidivist rulebreaker, but he clearly regards that as a matter of no import. (Davis was US Bank’s president starting in October 2004, was promoted to CEO in December 2006, and became chairman in December 2007).
US Bank is one of the four biggest securitization trustees, along with Bank of New York, Deutsche Bank, and Wells Fargo. That, sports fans, means his bank has massive liability on mortgage backed securitizations. We discussed this issue recently as far as Bank of New York is concerned. The same logic applies to US Bank:
What has gotten less attention is the implication of the probable derailment of this deal for the Bank of New York, and its vulnerability to mortgage litigation. If you think, as banking expert Chris Whalen does, that BofA is a goner by virtue of the odds of very large damages in the various mortgage cases that are in progress, Bank of New York is a goner even faster if (and we really mean when) investors start saddling up to target the bank.
The liability of trustees in mortgage securitizations is so obvious and comparatively easy to prove that I am surprised that no one has yet gone after it. However, investors are probably understandably cautious about filing suits that might expose widespread failures of originators and pacakgers to convey mortgage loans to securitizations, which would lead to lots of collateral damage (no pun intended). The Delaware filing on the BofA settlement highlights the issue, which is that the trustees had made multiple representations in securities filings that the mortgage trusts had the assets they said they did. From our post on the Delaware filing:
And it goes straight to an issue we flagged, that the trustee makes annual certification in SEC filings, and the bar for securities fraud is much lower than under contract law theories. Delaware’s securities laws follow SEC 10(b)5 language re disclosure (that it not merely be narrowly accurate, but that it be free of material omissions). Boldface ours:
The acts and practices of BNYM alleged herein may have violated 6 Del. C. § 7303(2), in that BNYM may have made untrue statements of material fact and/or omitted to state material facts in order to make the statements made, in light of the circumstances under which they were made, not misleading. BNYM’s conduct as described above may have violated the Delaware Securities Act insofar as the Trust PSA requires the Trust annually to certify the following “servicing criteria”:
• “Collateral or security on mortgage loans is maintained as required by the transaction agreements or related mortgage loan documents.”
• “Mortgage loan and related documents are safeguarded as required by the transaction agreements;” and
• “Any addition, removals or substitutions to the asset pool are made, reviewed and approved in accordance with any conditions or requirements in the transaction agreements.” [See generally, Trust PSA, [Ex W to NY Petition]].
The Delaware investors in the Trusts may have been misled by BNYM into believing that BNYM would review the loan files for the mortgages securing their investment, and that any deficiencies would be cured.
As we reported in September, lawyers had found evidence that Countrywide did not transfer the notes (the borrower IOUs) to the securitization trusts as stipulated in the pooling and servicing agreements…
Because those agreements had strict cut off dates as to when those transfers had to be completed, and governing law for the overwhelming majority of the trusts (New York law) is unforgiving on this matter (New York trusts are not permitted to deviate from their written directives) the failure to perform as stipulated cannot be remedied…Hence the widespread use of document fabrication to get around this mess.
Note that Biden is not going directly after Bank of New York. He is merely seeking to question and perhaps block the settlement with Bank of America. But the issue he raises is a nuclear weapon.
Biden is clearly well aware of the widespread failure to convey notes to securitization trusts. He made a similar argument in his filing against MERS for deceptive consumer practices. So far, he has not gone after a trustee directly, but he seems to be waiting for an opportunity to take a rifle shot.
Small scale surveys (of two counties in New York, performed by Abigail Field, plus similar studies performed by state level investigators) have found near complete fails by Countrywide, but also less total but still pervasive fails by other originators. Given that there is ample evidence in court filings of chain of title abuses in securitizations where US Bank is the trustee, there is no reason to believe it is a miraculous lone good actor.
Remember, the false certifications we cited above are in many cases ongoing (while those relating to the origination of the deal have passed the statute of limitations as far as Federal securities laws are concerned). Trustees make certifications at the closing of the deal and in annual SEC filings. Even though a trustee could file with the SEC to be exempt from the annual filing requirement if a deal had less than 50 investors, trustees generally made at least one annual filing.
And if trustees are indeed pursued for civil securities liability, it would open the door to criminal action. For a trustee, keeping track of physical documents, particularly mortgage notes, which have clear monetary value, is a basic operational competence. The trustees that screwed up on such a massive scale by definition cannot have had adequate internal controls. Yet Sarbanes Oxley required certain executives, at a minimum the CEO and CFO, to certify the adequacy of internal controls. The statutory language for criminal violations tracks the language for civil violations. Thus, success in a civil case sets up a criminal action; the only obstacle is the higher burden of proof. As we wrote:
Since Sarbanes Oxley became law in 2002, Sections 302, 404, and 906 of that act have required these executives to establish and maintain adequate systems of internal control within their companies. In addition, they must regularly test such controls to see that they are adequate and report their findings to shareholders (through SEC reports on Form 10-Q and 10-K) and their independent accountants. “Knowingly” making false section 906 certifications is subject to fines of up to $1 million and imprisonment of up to ten years; “willful” violators face fines of up to $5 million and jail time of up to 20 years.
The responsible officers must certify that, among other things, they:
(A) are responsible for establishing and maintaining internal controls;
(B) have designed such internal controls to ensure that material information relating to the issuer and its consolidated subsidiaries is made known to such officers by others within those entities, particularly during the period in which the periodic reports are being prepared;
(C) have evaluated the effectiveness of the issuer’s internal controls as of a date within 90 days prior to the report; and
(D) have presented in the report their conclusions about the effectiveness of their internal controls based on their evaluation as of that date;
These officers must also have disclosed to the issuer’s auditors and the audit committee of the board of directors (or persons fulfilling the equivalent function):
(A) all significant deficiencies in the design or operation of internal controls which could adversely affect the issuer’s ability to record, process, summarize, and report financial data and have identified for the issuer’s auditors any material weaknesses in internal controls; and
(B) any fraud, whether or not material, that involves management or other employees who have a significant role in the issuer’s internal controls
The premise of this requirement was to give assurance to investors as to (i) the integrity of the company’s financial reports and (ii) there were no big risks that the company was taking that it had not disclosed to investors.
This section puts those signing the certifications, which is at a minimum the CEO and the CFO, on the hook for both the adequacy of internal controls around financial reporting (to be precise) and the accuracy of reporting to public investors about them. Internal controls for a bank with major trading operations would include financial reporting and risk management.
It’s almost certain that you can’t have an adequate system of internal controls if you all of a sudden drop multi-billion dollar loss bombs on investors out of nowhere.
Failure to comply with the basic requirements of the pooling and servicing agreement and the institutionalized making of false certifications to investors in SEC filings would seem to constitute a gross failure of internal controls.
State attorneys general like Beau Biden and New York’s Eric Schneiderman, who is also investigating a wide range of mortgage abuses, are honing in on trustee liability. And as they get closer to the mark, investors, who are generally conservative, may finally become emboldened and follow suit. The number of filings against the proposed Bank of America $8.5 billion mortgage settlement, another case involving dubious trustee conduct, suggests that long-suffering mortgage investors may finally be roused. And that means that Richard Davis’ smug complacency may prove to be sorely misguided.