A Manhattan federal judge threw out a class-action lawsuit accusing Moody’s Investors Service and Standard & Poor’s of defrauding investors about the safety of $63.4 billion of mortgage debt.
U.S. District Judge Jed Rakoff also dismissed some claims against Bank of America Corp, JPMorgan Chase & Co. and the ABN Amro unit of Royal Bank of Scotland Group Plc. He also dismissed the case against Credit-Based Asset Servicing & Securitization LLC, or C-Bass, which packaged debt underwritten by the banks.
Rakoff, in a two-page order late last Wednesday, said he would spell out his reasoning in a later opinion.
“It is going to be a major ruling by a prominent jurist about one of the largest securities cases coming out of the subprime crisis,” said Carla Walworth, a partner at Paul, Hastings, Janofsky & Walker LLP in New York who represented C-Bass.
Plaintiffs led by the Public Employees’ Retirement System of Mississippi accused rating agencies and banks of misleading them about the safety of 84 mostly investment-grade offerings of residential mortgage-backed securities.
The plaintiffs said the securities they bought were in fact “not of the ‘best quality,’ or even ‘medium credit quality.”‘ They said that, after being downgraded to “junk,” the securities were worth far less than they paid.
Many underlying loans were made by U.S. mortgage lenders that later became distressed or defunct, including three of the largest: Countrywide Financial Corp., American Home Mortgage Investment Corp. and IndyMac Bancorp Inc.
Moody’s spokesman Michael Adler and S&P spokesman Frank Briamonte said their agencies were pleased with the ruling. Bank of America spokesman Bill Halldin, JPMorgan spokesman Brian Marchiony and RBS spokesman Michael Geller declined to comment.
David Stickney, a lawyer representing the Mississippi fund, did not immediately return a call seeking comment.
Moody’s is a unit of Moody’s Corp., and S&P is a unit of McGraw-Hill Cos. Inc.
Many investors and lawmakers have accused Moody’s and S&P of exacerbating the housing and credit crises by first rating mortgage debt too high, only to later downgrade it too fast.
Banks have also faced many lawsuits alleging they overstated the safety of mortgage debt they helped create.
Another judge in Manhattan federal court, Lewis Kaplan, dismissed claims in January against Moody’s and S&P over nearly $100 billion of mortgage-backed debt sold by Lehman Brothers Holdings Inc.
A third judge in that court, Shira Scheindlin, is considering a separate lawsuit by Abu Dhabi Commercial Bank and King County in Washington state over whether Moody’s and S&P deserve free speech protection for their ratings.
Meanwhile, Connecticut Attorney General Richard Blumenthal and Ohio Attorney General Richard Cordray are suing Moody’s and S&P for allegedly issuing inflated ratings so they could win more business from Wall Street. Cordray also sued another rating agency, Fimalac SA’s Fitch Ratings.
Walworth said Rakoff’s opinion could have wide impact.
“I predict he will narrow the scope of liability against third parties, given that many loan originators went belly up,” she said. “We may also see a partial ruling on statutes of limitations, given that this case was filed late, when much of the information available about underwriting and risk was already in the market. He may also offer important guidance for future offerings about what constitutes proper disclosure.”
The case is Public Employees’ Retirement System of Mississippi et al v. Credit-Based Asset Servicing and Securitization LLC et al, U.S. District Court, Southern District of New York, No. 08-10841.
(Reporting by Jonathan Stempel; editing by John Wallace and Andre Grenon)