Structured Auction Rate Notes, Downstream Sellers, Consequential Damages, Oh My!
Structured Auction Rate Notes, Sellers in Secondary Market Leave Hundreds of Thousands out of Regulator’s Settlement
While regulators have enacted important settlements from many large Wall Street firms and forced them to buy back billions of dollars worth of auction rate securities from mostly retail investors, hundreds of thousands of investors are still left out in the cold. Retail and institutional investors that bought from medium-size and online brokerages, a.k.a “downstream sellers” in the secondary market, and those that bought structured auction rate notes, are among the investors not covered in the regulator’s settlement.
Auction rate securities and structured auction rate notes were marketed by brokerages as being safe, liquid, with yields that would be reset frequently. It is estimated that when the auctions began to fail, investors were left holding upwards of $300 billion.
The Wall Street Journal highlighted what we have been saying for a long time. Regulators have taken a good first step with these settlements but few are covered.
“Large Wall Street firms have announced plans to buy back billions of auction-rate securities from aggrieved investors. Yet hundreds of thousands of individuals who bought these same products from midsize and online brokerage firms [including those institutional and retail investors that bought structured auction rate notes] are still in the lurch.”
As I write this, only eight Wall Street firms have agreed to settle with regulators, a small fraction of the 40-plus under investigation and an even smaller fraction of the total victims. If you take away institutional investors, investors that bought structured auction rate notes and those that bought from downstream sellers such as Fidelity and TD Ameritrade, clearly this is still a crisis to be reckoned with.
Structured Auction Rate Notes
Dissimilar from auction rate securities, which are based on liquid mechanisms like municipal debt, structured auction rate notes are linked to several of the same intricate debt entities that have forced steep write-downs for Wall Street during the subprime meltdown. For example, some of these structured auction rate notes were linked to subprime mortgages.
Many investors, institutional and retail, have spoke up and said they were not fully explicated on the risks involved with structured auction rate notes, which like auction rate securities have incurred huge losses for investors.
Although it is unclear if Andrew Cuomo and William Gavin (et al) will claim victory and leave hundreds of thousands of retail and institutional investors to fend for themselves, the evidence they have collected may serve as a catalyst for additional arbitration claims.
According to a Reuters article:
“In October, Dallas-based low-cost wireless provider MetroPCS Communications Inc sued Merrill for the sale of [structured auction rate notes] linked to sub-prime mortgages… Merrill Lynch spokesman Mark Herr said settlements with regulators cover only retail investors, who did not buy structured auction rate notes. That means the notes are excluded from the agreements.”
Whether investors purchased structured auction rate notes, bought from online or downstream sellers, they trusted that they would be fully informed of the risks involved with instruments like structured auction rate notes. The fact that these investors have been without the cash they desperately needed to either buy a home, pay back their own debt, or pay for things necessary to run their business is as egregious as the deceitfulness exemplified by brokerages large and small. As I wrote before, it matters not whether a brokerage underwrote a structured auction rate note, or sold it, but that proper disclosures were made. This is clearly the crux of this issue and it has yet to be unequivocally addressed by those liable. It is clear now that private claims must be pursued.
Jacob ("Jake") H. Zamansky is one of the country’s foremost authorities on securities arbitration law, the legal recourse for investors claiming broker wrongdoing, or for brokers claiming wrongful termination or other misconduct by their employer. Zamansky & Associates, the New York-based law firm he founded, represents both individuals and institutions in complex securities, hedge fund, and employment arbitrations.
Knut Bernhardt Commented on September 5, 2008 at 12:36 pm
This looks exactly like the socalled structured instruments sold to 7 Norwegian Municipalities issued by Citibank through Terra Finance, later bankrupt. Munibonds and CDO`s, a real house of cards. Presented like AAA or AA, like cash, but folded when the issuing banks failed to supply liquidity to the auctions. The Norwegian Municipalities have suffered losses of around 160 Mill $ US. Hopefully SEC and Cuomo focus on this and not the ARS where the downside for Citi is miniscule.