UBS Americas Inc., several of its
subsidiaries, and four former executive officers were sued Wednesday morning in
U.S. District court for the Southern District of New York. The Federal Housing Finance Agency (FHFA)
brought suit charging violations of securities laws in the sale of private
label residential mortgage-backed securities (MBS) to government sponsored
enterprises (GSEs) Freddie Mac and Fannie Mae.
FHFA sued as conservator of the GSEs and seeks a jury trial in an
attempt to recover losses and damages on behalf of the GSEs that occurred as a
result of their investment in the UBS securities.
In addition to UBS America the
defendants are UBS Real Estate Securities, Inc; UBS Securities, LLC; Mortgage
Asset Securitization Transactions, Inc., and former UBS employees David Martin,
Per Dyrvick, Hugh Corcoran, and Peter Slagowitz.
The lawsuit seeks specifically to
recover damages from the GSEs investment in 16 separate pools of MBS sold by
UBS between 2005 and 2007. FHFA is
claiming that the GSE's had a total investment of $4.5 billion in the
securities sold by UBS.
The suit
alleges that the underwriters of the underlying mortgages systematically
disregarded their respective underwriting guidelines in order to increase
production and profits and that the Defendants failed to conduct adequate due
diligence on the mortgage loan files and mortgaged properties prior to or
during the securitization process. A
number of banks and mortgage companies originated the loans in question
including Fremont Mortgage, Wells Fargo Bank, Countrywide Home Loans, IndyMac,
and Provident Funding Associates.
A forensic
review of a sample of 966 randomly selected loans from two of the pools at
issue found that approximately 78 percent were not underwritten in conformance
with guidelines. The underwriting guidelines that were violated were those
designed to assess the likelihood that loans would be repaid. The forensic review revealed the following
types of breaches:
- Failure
to test the reasonableness of the borrowers' stated income relative to their
line of work, leading to material misrepresentation of income. The forensic review found multiple instances
in which income appeared unreasonable yet there was no indication the
originator attempted to confirm that income.
- Failure
to investigate multiple submissions from the same borrower of applications showing
increasing stated incomes. In each
instance the stated income on the original application did not meet
underwriting guidelines, but subsequent applications at higher income levels
did. Forensic review confirmed that the
later applications misrepresented that income and that underwriters did not
investigate the discrepancies.
- Failure
to confirm the intended owner occupancy of the property despite indications
that the property was intended as an investment. In some cases the loans were underwritten as
owner-occupied properties even though the borrower stated they intended the
property to be as second home or investment.
Additionally, the Prospectus Supplements materially understated the proportions
of the loans that were not owner occupied.
- Failure
to properly calculate the borrower's outstanding debt, resulting in a debt-to-income
(DTI) ratio that exceeded underwriting guidelines. When properly calculated, 32 percent of the
996 loans in the random sample for forensic review contained DTI ratios that
exceeded applicable guidelines.
- Failure
to investigate credit report information that indicated potential misrepresentation
of borrower debt. The forensic review
revealed numerous instances where multiple credit inquiries on borrower credit
reports should have put underwriters on notice for potential misrepresentations
of debt obligations, but underwriters did not investigate
FHFA
alleges that while securitization Prospectus Supplements state that there may
be compensating factors to warrant exceptions to applicable underwriting guidelines,
none of the 966 loan files reviewed evidenced compensating factors that would
support such exceptions. "A 78 percent
breach rate, in any event, could not possibly be explained by the proper allocation
of any such exemptions."
In
addition to the forensic review, a review of loan level data was conducted to
evaluate the accuracy of information provided in the Prospectus
Supplements. At least 1000 loans were sampled
in each securitization and a review confirmed that much of the information
contained in the Supplements regarding owner occupancy and loan-to-value was
materially false.
The suit
contains a table (see page 91 of 102) showing the ratings by various agencies (S&P, Fitch, Moody's)
at the time of issuance and the ratings as of May 3, 2011. Without exception every Tranche had a rating
of at least Aaa at issuance. Most are
currently rated CCC or even D.
FHFA is asking for an award against all
Defendants for all damages sustained as a result of their wrongdoing in an amount
to include rescission and recovery of the consideration paid for the GSE
Certificates with interest; the GSEs' monetary losses including lost principal and
interest payments' attorneys' fees and costs, pre-judgment interest and other
relief as deemed proper by the Court.
Acting
FHFA Director Edward J. DeMarco said of the suit, "FHFA is taking this action
consistent with our responsibilities as conservator of each Enterprise. From
the issuance of 64 subpoenas last year to the filing of this lawsuit and
further actions to come, we continue to seek redress for the losses suffered by
the Enterprises."