Defrauded Investors Given Hope of Recovery As Morgan Keegan Parent Settles Regulatory Charges for $210 Million

Nearly 40,000 investors who lost $1.5 billion in fraudulent subprime mortgage-backed mutual funds were given a small boost in their claims for recovery as the parent company of investment banking firm Morgan Keegan & Co., Regions Financial Corp., agreed to pay $210 million to settle regulatory charges targeting its subprime mortgage mutual funds.

The Securities and Exchange Commission (SEC), the Financial Industry Regulatory Authority (FINRA) and several state securities agencies brought charges against Morgan Keegan relating to its management of five fixed-income mutual funds that were loaded with subprime mortgages. The agencies accused the firm of manipulating the price of the funds as the underlying mortgages dropped in value, and then misrepresenting the true values of the securities. According to the director of the SEC's Division of Enforcement, "the falsification of fund values misrepresented critical information exactly when invsetors needed it most -- when the subprime mortgage meltdown was impacting the funds."

The investors who purchased these mutual funds will receive $200 million of the Morgan Keegan settlement. Investors who lost money in these investments, however, still have claims for more than $1 billion in losses, and continue to have the right to seek their own damages in individual arbitration claims they can file with FINRA. By consulting with an experienced investment fraud lawyer, investors can determine whether they have a claim for damages as a result of their investments with Morgan Keegan.

The law firm of Block & Landsman represents investors in arbitration and in lawsuits for fraud and breach of fiduciary duty arising out of investment losses. Contact one of the attorneys at Block & Landsman for a free consultation.

Class Action Lawsuit Filed Against FINRA for Violating Brokers' Constitutional Due Process Rights

Block & Landsman joined other firms in filing a class action lawsuit against the Financial Industry Regulatory Authority (FINRA) seeking injunctive relief to stop the regulatory authority from violating the constitutional due process rights of registered representatives. Specifically, FINRA Rule 3010(b)(2), known as the Taping Rule, requires brokerage firms to establish special supervisory procedures, including the tape recording of broker conversations, when they employ more than a specified percentage of representatives who were previously employed by firms that have been expelled or had their registrations revoked for sales practice rule violations (referred to as "disciplined firms").

FINRA's Rule imposes a "guilt-by-association" standard by tainting brokers who worked for a disciplined firm even though the representatives had no involvement in any activity that led to the firm's expulsion or revocation. Even if the registered representatives worked left the firm before the misconduct occurred, they are nonetheless deemed to be "tainted." The special supervisory procedures required of firms that hire enough of these brokers are burdensome and expensive, and can be avoided only by reducing the number of so-called "tainted" brokers. Subsequent employers can avoid having to implement the procedures by reducing the number of affected brokers below a qualifying number.

As a result, brokers who are "tainted" face termination, or the inability to be hired, on the basis of nothing more than their past association with a prior disciplined firm. And FINRA provides no mechanism for a former broker of a disciplined firm to remove the "taint" arbitrarily imposed by FINRA's rule, thereby violating their due process rights and subjecting them to arbitrary termination.

Supreme Court Widens Gap Between Investor Protection and SEC Enforcement

Is punishment an acceptable replacement for reparation? Is it sufficient fidelity to the securities laws for participants in a fraud to be prosecuted but not held accountable to the victims of their criminal behavior? According to the U.S. Supreme Court, the unfortunate answer is yes.

In a 5-4 decision handed down on June 14, 2011, the Court held that mutual fund investors do not have a right of action under Rule 10b-5 to parties other than the issuer for fraudulent disclosures of risk. The decision does mean that the other participants have not committed securities law violations. Rather, it merely shields them from liability for their conduct. As a result, the victims of the misbehavior by non-issuing parties are foreclosed from seeking compensation for their losses even if the perpetrators admit that they engaged in misconduct.

In Janus Capital Group, Inc. v. First Derivative Traders, the Court narrowed the application of Rule 10b-5, which makes it illegal for "any person, directly or indirectly. . .[t]o make any untrue statement of material fact" in connection with the purchase or sale of a security. In that case, shareholders in a Janus mutual fund sued Janus Capital Management LLC, the management company for the fund, in connection with alleged fraudulent disclosures in the fund's prospectus. The plaintiffs alleged that the management company participated in the preparation of the misleading prospectus, and was liable for their losses resulting from the fraudulent disclosures. In an impressive display of linguistic gymnastics, the Court focused on the meaning of the phrase "make any untrue statement" in Rule 10b-5. Rejecting the arguments of the investors as well as the arguments of the SEC itself, the majority adopted a restrictive definition of the phrase, limiting its reach only to those who had ultimate legal control over the content of the prospectus. Because the management company did not "issue" the prospectus, it cannot be held liable for the investors' resulting damages, even if the management company drafted the misleading disclosure that appeared in the prospectus. While they may be guilty, they are not responsible.

The Court's decision does not exonerate the non-issuing participants, and it does not inhibit the SEC's ability to bring regulatory enforcement actions against them for their misconduct. Instead, the Janus ruling is just the latest in a string of opinions by the Court that impede the securities laws from protecting the very investors for whose benefit the laws were enacted. 

Public Investment Fund Overcharged $1 Million on Dozens of Bond Trades

Brokers at UBS Securities and Morgan Stanley are alleged to have overcharged Harris County more than $1 million in the sale of new bond issues between March and September 2010. According to an investigation by the Houston Chronicle, the brokers charged the County a premium above par value for newly issued bonds of federal agencies.

The size of the Harris County, Texas investment fund, reported to exceed $4 billion, allowed for large bond purchases that generated enormous commissions for the brokers. The typical commissions for such trades range between $250 to $350 per $1 million in bonds, earning a broker a $6,250 commission on a $25 million purchase. In contrast, by charging a premium above par for new bond issues, the UBS and Morgan Stanley brokers would generate a ten-fold commission of $62,500. In and of themselves, premiums above par for bonds are not unusual, for instance when purchasing a bond paying a higher interest rate than new bonds being issued. But paying such premiums on new bond issues is extremely rare.

Public investment funds, whether belonging to municipalities or public pension funds, are responsible for hundreds of billions of dollars of taxpayer money, and can be a prime target for a wide variety of investment fraud opportunities. The attorneys at Block & Landsman are experienced investment fraud lawyers who can investigate misconduct regarding the purchase and sale of securities. 

SEC and FINRA Issue New Warning About Investing in Principal Protected Structured Notes

A type of high risk investment product that imploded with the economic meltdown in the Fall of 2008, leading to investors' losses of hundreds of millions of dollars, continues to concern securities regulators. The Securities and Exchange Commission (SEC) has joined with the Financial Industry Regulatory Authority (FINRA) to issue a joint Investor Alert to warn investors about complex financial products known as "structured notes with principal protection." While the name of this security suggests safety, the structured notes present a variety of extreme risks to uninformed investors.

The notes combine a zero-coupon bond, which pays no interest until the bond matures, with an option or other derivative product whose payoff is linked to an underlying index, benchmark or other asset. These notes are designed to return some of all of an investor's money at a set maturity date (which can be as long as ten years) and offer a potential interest payment linked to a predetermined change in the value of the underlying asset.

There are many risky variations of both components that make up the structured note product. For example, although some notes return the entire amount of an investor's principal at maturity, many return less than 100 percent. Moreover, the principal guarantee -- that investors will receive all or some of their principal at maturity -- is entirely dependent on the creditworthiness of the securities firm that structures and issues the note. If the issuer goes bankrupt -- as was the case with Lehman Brothers, which issued large volumes of these type of notes -- investors have no protection and become unsecured creditors of the defunct firm.

The potential upside benefit of being able to participate in an increase in the underlying assets is similarly subject to signficant risks depending upon how the note is structured. As a result, the issuer can limit the amount of interest it owes investors even if the note reaches maturity. The upside potential is linked to the performance of the underlying assets, which are not limited to common benchmarks such as the S&P 500 or the price of a single commodity. Rather, exotic cominbations of assets such as spreads between interest rates or baskets combining unrelated asset types such as an index, a commodity and a currency, are often chosen as the meaure of interest the bond will ultimately pay above the return of principal. The issuer can select unfavorable formulas to calculate the gains or losses linked the the performance of the underlying asset, so-called "market-linked" returns, which can limit the extent to which investors are allowed to participate in the underlying asset's gains. Additionally, the issuer can determine that only a portion of the underlying asset's gain is credited to the note, which has the effect of restricting the interest paid to the investor at maturity.

The unlimited variations to the structure of these complex financial products makes it difficult for typical investors to assess the true risks and benefits of the notes. For this reason, the SEC and FINRA issued their Investor Alert and provided a series of questions that investors should ask their advisers who recommend structured notes with principal protection, such as: (a) what is the level of principal protection offered, (b) describe any conditions to the principal protection, (c) what are the fees and costs, (d) are there limits to potential gains in the underlying asset, (e) what is the credit risk of the issuer, (f) what other risks are associated with the product, and (g) what alternative investments are available.

Complex risks often hide behind the safe-sounding structured notes, and investors should be wary of recommendations to invest without obtaining direct and clear explanations. Any investor who has lost significant monies in these type of structured notes should consider consulting with an investment fraud lawyer to determine any liability on the part of the financial advisor recommending the security.