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SEC Charges JP Morgan and Credit Suisse with Misleading Investors in RMBS Offerings

The SEC charged JP Morgan Securities and Credit Suisse Securities (USA) with misleading investors in offerings of residential mortgage-backed securities (RMBS).  Without admitting or denying the allegations, JP Morgan agreed to pay $296.9 million, and Credit Suisse $120 million to settle their respective charges.  The SEC stated that RMBS and related mortgage products were “ground zero in the financial crisis…misrepresentations in connection with the creation and sale of mortgage securities contributed greatly to the tremendous losses suffered by investors once the U.S. housing market collapsed.”

According to the Complaint, JP Morgan’s December 2006 prospectus supplement for the $1.8 billion RMBS offering included materially false and misleading statements about the loans that provided collateral for the transaction.  Federal securities laws require the disclosure of delinquency information related to assets that are used as collateral for an asset-backed securities offering.  The loans were the primary source of funds that provided investors the ability to earn interest and obtain repayment of their principal.  JP Morgan represented that only 4 loans or .04 percent of the loans collateralizing the transaction were delinquent.  However, the firm actually had information that demonstrated that more than 620 loans, around 7% of the loans that were part of the transaction, were delinquent.  JP Morgan received fees of more than $2.7 million, and investors sustained losses of at least $37 million on undisclosed delinquent loans.   Additionally, JP Morgan was charged for Bear Stearns’ failure to disclose its practice of obtaining and keeping cash settlements from mortgage loan originators on problem loans.  Normally, loan originators are contractually required to buy back loans that are delinquent within the first months after issuing.  Instead, Bear Stearns frequently negotiated discounted cash settlements with loan originators in lieu of the buy back.  The loans were already owned by the RMBS trusts and Bear Stearns failed to disclose the settlements to the trust or the investors, who owned the loans.  For most loans covered by bulk settlements, the firm collected money from originators but failed to pay anything to the trusts.  Bear Stearns’ proceeds from this bulk settlement practice were at least $137.8 million.

According to the SEC’s order instituting a settled administrative proceeding against Credit Suisse, the firm was involved in two separate practices relating to residential mortgage-backed securities (“RMBS”.)  First, between 2005 and 2010 Credit Suisse entered into a number of financial settlements with loan originators relating to early defaulting loans it had already sold to securitization trusts and kept the proceeds without notifying or compensating the RMBS trusts that owned the loans.  The firm failed to comply with offering documents provisions that required it to repurchase the early defaulting loans.  Credit Suisse also failed to disclose this practice to its RMBS investors.  The firm, through this practice, improperly obtained around $55,747,769.  The SEC’s investigation found that in late 2006, in its efforts to market and sell approximately $1.9 billion of subprime mortgages, Credit Suisse made misleading statements about a key investor protection known as the “First Payment Default” or “FPD” covenant, which required the mortgage loan originator to repurchase or substitute loans that missed payments shortly before or after they were securitized.  Furthermore, the company stated that it “enforced” the FPD convenant in order to “mitigate the effect” of fraudulent mortgages, and that its interests were aligned with investors’.  Notwithstanding this provision, the firm did not ensure the removal of all such loans and mislead investors by falsely claiming that all FPDs were removed from its RMBS.  As a result, investors sustained losses of approximately $1,056,561 on the loans that improperly remained in the RMBS trusts.