Remember mortgage-backed securities—the ones that nearly brought down our whole economy? The federal mortgage task force has finally brought a lawsuit over the disaster. But as usual, no individuals are named. Matthew Zeitlin explains.
Who’s suing JPMorgan Chase?
Eric Schneiderman, the attorney general of New York. Schneiderman ran for the job on an aggressive anti-corporate-fraud platform, and since May 2011 he has been investigating major banks for their actions before and during the financial crisis.
Isn’t he also the head of some fancy task force?
Yes, he’s the co-chair of the Residential Mortgage-Backed Securities Working Group, set up by the Obama administration in January with the specific mandate to launch prosecutions over the actions at the heart of the financial crisis.
After four years, the timing is a bit suspicious, no?
Well, yeah. Schneiderman telegraphed the move last month, telling Reuters, “We’ll see actions being taken sooner rather than later.” Even The New York Times made the connection explicit: “The lawsuit’s filing, just days before the first presidential debate and a little over a month before the election, may be a way for the Obama administration to try to convince voters that it is working to hold mortgage miscreants accountable for wrongdoing.”
So, what did JPMorgan allegedly do?
They bought Bear Stearns.
Huh? Bear Stearns?
The lawsuit concerns the investment bank Bear Stearns’s pooling and securitization of mortgages, largely from between 2005 and 2007. When JPMorgan bought Bear Stearns in March 2008 (with backing from the Federal Reserve), they became legally responsible for everything Bear Stearns had done up until then.
OK, so what does Schneiderman allege that Bear Stearns did?
The complaint states that Bear Stearns “committed multiple fraudulent and deceptive acts in promoting and selling” (PDF) securities based on mortgages—many of which were subprime—whose quality was lower than the investment bank let on. The heart of the allegation is that Bear Stearns did not try very hard to determine the quality of the underlying loans they were packaging and selling, and also that when they did find out they were bad, they kept that information from the investors who bought the securities. They were, of course, legally obligated to conduct due diligence on the loans and notify the investors if they loans were not performing or were defective.
One of these securities, called SACO 2006-8, was described in an internal Bear Stearns email as a “SACK OF SHIT” and a “shit breather.” At least 30 percent of the loans included in SACO came from a mortgage originator called AHM. Of those loans, 60 percent of them were at least 30 days delinquent in June 2006.
The complaint also details how Bear Stearns employees and the third-party firms the company brought in to examine the loans were under pressure to underwrite as many of the loans as possible, in order to hit Bear’s target of purchasing $2 billion worth of loans a month. The complaint says that the “defendants sacrificed thorough due diligence and thus acquired and securitized loans without ensuring loan quality or adequately assessing the borrowers’ ability to repay.”
Even when some Bear employees said there was a need for more thorough due diligence, the complaint alleges, they were ignored, even up until a year before the investment bank collapsed and was purchased by JPMorgan. Instead, the complaint alleges, Bear “permitted the critical problems that their own employees had identified in 2005 to continue throughout 2006 and into 2007.”
This sounds very familiar.
Doesn’t it, though? If you’ve been following bank litigation closely, you’ll notice that many of the allegations, and even some of the emails (PDF), were put forward in a 2011 lawsuit the bond insurer Ambac filed against JPMorgan over securities packaged and sold by Bear Stearns. In fact, as of Aug. 9, when JPMorgan filed its last quarterly report with the Securities and Exchange Commission, a Bear Stearns subsidiary called EMC Mortgage, which was responsible for purchasing and servicing loans used in Bear’s securitizations, was the subject of seven civil actions from bond insurers concerning approximately $5 billion worth of mortgage securities.
Also last year, the Federal Housing Finance Agency, the regulator that oversees the government-sponsored housing companies Fannie Mae and Freddie Mac, filed a massive lawsuit against 17 banks, including JPMorgan, over losses from mortgage securities.
So if Schneiderman is successful, is Jamie Dimon getting frog-marched to Rikers?
Even though some analysts believe JPMorgan could end up paying up to $3 billion in a settlement (the suit identifies $22.5 billion in losses from rotten mortgage-backed securities), Schneiderman’s complaint doesn’t identify any particular bad actor at Bear Stearns.
In announcing the suit Tuesday, Schneiderman said, “It would be tough for us to bring criminal charges, which is why we’re bringing a broad civil complaint.”
That’s partly because of the law Schneiderman used: the Martin Act, a New York state law that requires a lower standard for fraud claims, has a five-year statute of limitations for criminal charges, but six years for civil charges. Since much of the activity described in the suit happened before 2007, the statute of limitations precluded a criminal prosecution.
But past civil suits against entire banks have disappointed activists who want to see robust punishments for the bankers at the heart of the subprime mortgage boom.
For instance, in settling civil charges over its failure to disclose a hedge fund’s role in designing mortgage securities, Goldman Sachs paid $550 million—a drop in the bucket compared with their 2011 profits of $4.4 billion.
Even when the government does go after individuals, it’s not easy to win.
When the SEC sued Brian Stoker, a Citigroup executive, for allegedly not disclosing that Citigroup had bet against a mortgage security it was selling to investors, the jury found in Stoker’s favor, even though it subsequently issued a statement that said, “This verdict should not deter the S.E.C. from investigating the financial industry.”
(The SEC was basically forced into bringing the charges against Stoker, since a federal judge rejected its original $285 million settlement with Citigroup.)
Will anyone go to jail, ever?
Not from this case. But the suit could be a model for similar cases in the future. As Schneiderman said in a statement, “This is a workable template for future actions against issuers of residential mortgage-backed securities that defrauded investors and cost millions of Americans their homes.”
Wait, so the head of a task force whose specific mandate is to prosecute people for the actions that lead to the financial crisis isn’t even trying to put anyone behind bars?
What do you want me to say?