On November 28, 2011, U.S. District Judge Jed S. Rakoff of the Southern District of New York refused to approve a proposed settlement between the SEC and Citigroup Inc. in connection with Citigroup’s alleged shorting of RMBS that it marketed and sold to the public on the grounds that the settlement was “neither fair, nor reasonable, nor adequate, nor in the public interest.” The settlement involved the payment of a total of $285 million by Citigroup, as well as the imposition of certain injunctive measures against Citigroup. In rejecting the settlement, Judge Rakoff stringently criticized the SEC’s policy – “hallowed by history, but not by reason” – of allowing settling defendants to neither admit nor deny wrongdoing because it “deprives the Court of even the most minimal assurance that the substantial injunctive relief it is being asked to impose has any basis in fact.” He stressed that the exercise of judicial power and authority that does not rest on facts cannot serve the public interest because it “is worse than mindless, it is inherently dangerous.” Judge Rakoff consolidated the action with a related matter filed by the SEC against a Citigroup employee and directed the parties to be ready to try the case beginning on July 16, 2012. Order.
Citigroup
Citigroup and SEC Defend Proposed Settlement
On November 7, 2011, Citigroup Global Markets Inc. and the Securities and Exchange Commission filed separate memorandums in support of their proposed settlement agreement in the United Stated District Court for the Southern District of New York. Citigroup and the SEC agreed to a settlement over allegations of wrongdoing by Citigroup’s mortgage-backed securities group wherein Citigroup agreed to pay $285 million in exchange for a “no admit, no deny” settlement. Judge Jed S. Rakoff ordered both parties to defend the proposed settlement after questioning the SEC’s decision to accept a non-admission of wrongdoing despite “alleg[ing] a serious securities fraud.” Citigroup defended the settlement in part by arguing that the public interest is better served by allowing sophisticated parties to compromise complicated matters in a manner that avoids wasteful litigation and exposing both parties to extreme results. It also argued that current market conditions penalize corporate stock prices simply because of a company’s involvement in litigation with a regulatory agency, and that a “no admit, no deny” result was necessary to minimize potential collateral consequences in the civil class actions and other litigations pending against Citigroup related to mortgage-backed securities and subprime mortgages. The SEC defended the settlement by stating that the outcome allowed for a quick resolution to the case while still “clearly conveying” that the alleged conduct by Citigroup occurred. Citigroup Submission. SEC Submission.
NCUA Settles with Citigroup and Deutsche Bank in RMBS Dispute
The National Credit Union Administration (“NCUA”), an independent federal agency that supervises and charters federal credit unions, reached a $145 million settlement with Deutsche Bank and a separate $20.5 million settlement with Citigroup, stemming from the banks’ sales of RMBS to five failed credit unions. The NCUA did not file a lawsuit against either Citigroup or Deutsche Bank, although the NCUA currently has RMBS suits pending against three other financial institutions. Press Release 1. Press Release 2.
SEC Settles CDO Suit Against Citigroup
On October 19, 2011, Citigroup agreed to pay $285 million to settle charges that it structured and marketed a $1 billion collateralized debt obligation without disclosing that it had taken a $500 million short position against the CDO. In particular, the complaint, filed as a settled action by the SEC in federal court in New York, alleges that Citigroup Global Markets, Inc. failed to disclose to investors that it influenced the selection of a large portion of the mortgage loans underlying the CDO and then retained a short position in the assets it had helped select. The SEC alleges that this conduct violated Sections 17(a)(2) and (3) of the Securities Act of 1933. The SEC’s related claims against Brian Stoker, a former Citi employee who allegedly structured the CDO, are still pending. Press Release.
New York Federal Court Dismisses Class Action on Behalf of Citigroup Employees
On June 7, 2011, Judge Sidney Stein of the U.S. District Court for the Southern District of New York dismissed a suit brought by participants in the Citigroup employee stock purchase program that asserted claims against various Citigroup defendants. The employees alleged violations of Section 12(a)(2) of the ’33 Act, Sections 10(b) and 10b-5 of the ’34 Act, and various Minnesota state laws, contending that, in 2007, the defendants failed to disclose risks to Citigroup associated with the use of subprime mortgages in its CDOs and structured investment vehicles and also misrepresented Citigroup’s overall business outlook. Judge Stein dismissed all of the federal claims concerning Citigroup’s overall business outlook statements, finding plaintiffs had failed to allege a material misstatement. The court dismissed the remainder of the federal claims, finding that the Section 12(a)(2) claims were untimely because the allegedly concealed truth was disclosed no later than the end of 2007. The court also found that plaintiffs had failed to raise specific allegations to raise a strong inference of scienter as required for their Section 10(b) claims. Finally, Judge Stein dismissed the state law claims, finding that (a) the deceptive trade practices claim was precluded by SLUSA, and (b) plaintiffs could not maintain a breach of fiduciary duty claim because the allegations did not support the existence of a fiduciary relationship between plaintiffs and defendants. The Court also dismissed unrelated state law claims concerning the forfeiture provisions of the stock plan for departing employees and the enforceability of releases obtained from certain plan participants. Stein Order.
Citigroup Files New RMBS Action Against Impac
On May 25, 2011, Citigroup Global Markets, Inc. (“Citigroup”) filed a complaint against Impac Funding Corp (“Impac”) in the U.S. District Court for the Central District of California alleging violations of Sections 18 and 20 of the ’34 Act and negligent misrepresentation related to Impac’s filing of a revised Pooling and Servicing Agreement (“PSA”) with the Securities and Exchange Commission (“SEC”). Citibank alleges that three weeks after it purchased approximately $7 million worth of mortgage-backed securities, Impac notified the Securities and Exchange Commission that the Pooling and Servicing Agreement (“PSA”) filed three years earlier in connection with the issuance of those securities was submitted in error. Citibank alleges that Impac filed a new PSA with the SEC including different terms that adversely impacted on the value of the certificates purchased by Citigroup. Citigroup seeks to recover the money damages that it claims to have suffered as a result. Complaint.
Court Dismisses Shareholder Derivative Action Against Citigroup Officers and Directors for Inadequate Pleading of Demand Futility
On May 17, 2011, Judge Stein of the Southern District of New York granted defendants’ motion to dismiss with prejudice this consolidated shareholder derivative action against current and former Citigroup officers and directors. Plaintiffs alleged that defendants breached their fiduciary duties of care and loyalty by allowing Citigroup to invest in mortgage-backed securities; concealing Citigroup’s exposure to those securities; committing securities fraud by making misleading statements regarding those securities; wasting corporate assets on the repurchase of Citigroup stock at inflated prices and the retirement package of the departing CEO; engaging in insider trading; and unjustly enriching themselves. The court granted defendants’ motion to dismiss, noting that plaintiffs had failed to demand that Citigroup pursue the claims itself before filing suit and holding that plaintiffs failed to adequately plead that such a demand would have been futile. Decision.
Plaintiffs Firm Announces “Investigation” Into Various Banks Regarding FHA Mortgage Insurance
On May 4, 2011, the law firm Keller Rohrback, which currently represents the Federal Home Loan Banks of Seattle and Chicago in various RMBS cases, announced an investigation into a number of banks and mortgage lenders for violations stemming for those banks’ status as Direct Endorsement Lenders for the Federal Housing Administration (“FHA”). According to the announcement, each of the banks, including JPMorgan Chase, Bank of America, Bear Stearns Residential Mortgage, Washington Mutual, Citigroup, Countrywide, and HSBC, received insurance from FHA for the mortgages it originated. The investigation focuses on the banks’ mortgage lending practices, which Keller Rohrback asserts were lax and riskier than FHA’s standards allowed. Specifically, the law firm intends to review the banks’ due diligence standards, evaluations of borrower income, and property appraisals. The U.S. Department of Justice earlier this week commenced an action in the Southern District of New York against Deutsche Bank alleging similar practices. Release.
New Derivative Suit Filed Against Current and Former Citigroup Directors in S.D.N.Y.
A Citigroup shareholder filed a derivative complaint against several current and former individual directors alleging that they breached their fiduciary duties to the company by failing to implement and maintain adequate risk management procedures in connection with the company’s residential mortgage business. The complaint also alleges that the individual directors failed to maintain sufficient resources, processes, and controls to adequately manage the company’s foreclosure processing business. The complaint seeks disgorgement of profits and benefits and restitution from the individual defendants, an order compelling Citigroup to hold a shareholder vote on various corporate governance issues, as well as equitable and injunctive relief. Complaint.
Allstate Sues Merrill Lynch and Credit Suisse for Fraud
On February 28, 2011, Allstate Insurance, represented by Quinn Emanuel, filed complaints against Merrill Lynch and Credit Suisse affiliated entities in New York state court in connection with Allstate’s purchase of RMBS from those entities. The complaints follow similar complaints by Allstate against JP Morgan, Washington Mutual, Bear Stearns, Citigroup, and Deutsche Bank entities. The complaints allege that defendants fraudulently misrepresented the quality of the loans underlying the RMBS they underwrote and sold to plaintiff. Both complaints allege causes of action for common law fraud, fraudulent inducement, and negligent misrepresentation. The complaint against Merrill Lynch also adds claims for violations of Sections 11, 12(a)(2), and 15 of the ’33 Act. Allstate purchased over $167 million in RMBS from Merrill Lynch and over $231 million from Credit Suisse. CS Complaint. Merrill Complaint.