By ASHBY JONES
Banks are on a winning streak in their battle against investor lawsuits stemming from the financial crisis, a trend that is good news for firms accused of understating the risks of securities that tanked during the financial crisis.
The banks, including major Wall Street players, have won dismissals of lawsuits with variations of a “global financial catastrophe defense,” arguing that the blame should be placed on collapsing markets rather than any actions on their part.
The bulk of these lawsuits accused financial firms of misrepresenting the risks of a variety of financial products, including mortgage-backed securities and auction-rate securities.
Judges across the country who dismissed the suits generally concluded the investors fell short in making specific allegations of fraud.
“Judges realize that not every massive loss of investor capital is caused by fraud,” said Joseph Grundfest, a former SEC commissioner and professor at Stanford Law School. “They’re recognizing that while the financial system went astray, and that much should be done to fix it, there are differences between fraud and mistake.”
Since mid-February, federal judges have dismissed securities-fraud lawsuits against Oppenheimer & Co., Canadian Imperial Bank of Commerce, Fremont General Corp., Morgan Stanley, the Merrill Lynch division of Bank of America Corp., State Street Corp. and Bank United Corp. In each of the cases, judges ruled that plaintiffs failed to adequately allege that fraud, rather than other forces, caused losses.
The dismissal rate for these credit-crisis-era suits exceeds the historical rate for securities-fraud suits generally, according to people who follow such cases.
About 40 securities-fraud cases filed since the end of 2007 have been dismissed in early stages, compared with about 20 in which some claims were allowed to move to the evidence-gathering phase, according to statistics compiled by the D&O Diary, a widely followed industry repository that tracks securities-fraud suits. In some cases, judges have left the door open for lawyers to refile their suits with stronger allegations.
Kevin LaCroix, author of the D&O Diary, pegs the usual dismissal rates for securities-fraud cases between 33% and 40%. Typically, plaintiffs need to allege a company knowingly made false statements in connection with the sale of a security and that the investors relied on that statement in making the purchase. By his estimates, about a dozen cases have settled. None has gone to trial.
Some on the plaintiffs’ side are voicing frustration, contending judges’ dismissals are letting banks off the hook before investors have time to gather evidence. “Frequently, the large Wall Street financial institutions have escaped accountability even though those institutions fueled the subprime-market collapse,” says Robert Wallner, a plaintiffs’ lawyer with Milberg LLP, who represents shareholders in subprime-related securities litigation.
Plaintiffs lawyers have a lot at stake. They often drive securities-fraud lawsuits and take them on a contingency basis—earning a significant payout with a settlement or victory but gaining nothing short of that.
Last month, Manhattan Federal Judge William Pauley dismissed a case in which the lead plaintiff, the Plumbers & Steamfitters Local 773 Pension Fund, alleged that in 2007 and 2008, Canadian Imperial Bank of Commerce executives misled shareholders about the bank’s mortgage-backed securities exposure. Judge Pauley ruled that the plaintiff failed to allege facts indicating the losses were the result of fraud.
“CIBC, like so many other institutions, could not have been expected to anticipate the crisis with the accuracy plaintiff enjoys in hindsight,” he wrote. The plaintiff’s lawyer didn’t respond to requests for comment, and a CIBC spokesman didn’t respond to a request for comment.
James Cox, a securities-law professor at Duke University, is sympathetic to the banks’ position. “Look, every financial institution was affected by what was going on in the credit markets,” he said. “How does a plaintiff know that a financial loss is the result of a misleading statement or just world-wide macroeconomic events?”
Plaintiffs have reached some significant settlements in credit-crisis-related cases. Early last year, Merrill reached a $475 million settlement with a proposed class of plaintiffs who had alleged Merrill had understated its subprime-debt exposure. The settlement ranked among the largest securities class-action settlements ever. At the time, shortly after Merrill was acquired by Bank of America, Merrill said it wanted to avoid uncertainty and litigation costs.
Last month, a federal judge in Illinois approved a $15 million settlement between executives of General Growth Properties Inc. and a proposed class of General Growth shareholders.
Both Merrill and General Growth denied wrongdoing.
Judges have allowed a handful of other plaintiffs’ claims to go forward, including claims against Lehman Brothers Holdings Inc., Credit Suisse Group AG, and iStar Financial Inc. Earlier rulings involving suits against Countrywide Financial Corp. and Washington Mutual Inc. also allowed lawsuits to move forward; they are still pending.
“There’s still a long way to go on many of these suits,” said Adam Savett, the director of securities class-action services for RiskMetrics Group, a risk-management and research firm. While Mr. Savett acknowledges plaintiffs have struggled in recent weeks, unknowns remain in a lot of cases, like whether defendants who lost motions to dismiss will try to settle or take their chances at trial, he says. “On many of these cases, the Magic 8-Ball is saying, ‘Ask again later.’ ”
Mr. LaCroix points out that in several cases in which the plaintiffs have been allowed to go forward, they were able to point to specific questionable acts within a company, like alleged insider trading. But without the help of a whistle-blowing former company insider, this type of information can be hard to obtain early in a case, he says.
Corrections & Amplifications
An earlier version of this article incorrectly referred to the Plumbers & Steamfitters Local 773 Pension Fund as the Plumbers & Steamfitters Local 373 Pension Fund.