New Jersey Carpenters Health Fund v. Bear Stearns Mortgage Funding Trust 2006-AR1 et al
Filing
167
OPINION AND ORDER: Defendants' motion to dismiss the TAC is granted without prejudice insofar as Plaintiffs' claims are premised on the alleged unreliability of the ratings of securities included in the investment pools. Plaintiffs are gran ted leave to file a Fourth Amended Complaint alleging facts sufficient to state a claim or claims based on the securities' ratings, by April 16, 2012. Failure to timely file such an amended pleading may result in dismissal of the ratings-related claims with prejudice and without further advance notice. The motion to dismiss is denied in all other respects. This opinion and order resolves docket entry no. 138. (Signed by Judge Laura Taylor Swain on 3/30/2012) Filed In Associated Cases: 1:08-cv-08093-LTS, 1:09-cv-06172-LTS(ft)
UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
-------------------------------------------------------x
IN RE BEAR STEARNS MORTGAGE
PASS-THROUGH CERTIFICATES LITIGATION
-------------------------------------------------------x
Master File No. 08 Civ. 8093 (LTS)(KNF)
This Document Relates to All Actions
-------------------------------------------------------x
OPINION AND ORDER
ApPEARANCES:
COHEN MILSTEIN SELLERS &
TOLL PLLC
By: Joel P. Laitman
88 Pine Street
14th Floor
New York, NY 10005
Counsel jar Plaintiffs and the Proposed
Class
BERNSTEIN LITOWITZ BERGER &
GROSSMAN LLP
By: David R. Stickney
12481 High Bluff Drive, Suite 300
San Diego, California 92130
Counsel/or PlaintiffS and the Proposed
Class
BINGHAM MCCUTCHEN LLP
By: Kenneth I. Schacter, Esq.
Theo J. Robins, Esq.
399 Park Avenue
New York, NY 10022
Counsel for Defendants Bear, Stearns &
Co. Inc., JP. Morgan Securities, Inc.,
EMC Mortgage Corporation, Structured
Asset Mortgage Investments II Inc., Bear
Stearns Asset Backed Securities I, LLC
and Josepth T Jurkowski
SIMPSON THACHER & BARTLETT
LLP
By: Michael J. Chepiga
William T. Russell, Jr.
425 Lexington A venue
N ew York, N ew York 10017
KOHN, SWIFT & GRAF, P.C.
By: Joseph C. Kohn
One South Broad Street, Suite 2100
Philadelphia, P A 19107
Counsel jar Defendant Samuel L.
Molinaro, Jr.
Counselfor Plaintdf'the Police
and Fire Retirement System ofthe City of
Detroit
MORRISON & FOERSTER LLP
By: Joel C. Haims
Ruti Smith1ine
1290 Avenue of the Americas
New York, New York 10104
Counsel jar Defendant Samuel L.
Molinaro, Jr.
KRAMER LEVIN NAFTALIS &
FRANKELLLP
By: Dani R. James
1177 Avenue of the Americas
New York, New York 10036
GREENBERG TRAURIG, LLP
By: Richard A. Edlin
Ronald D. Lefton
Candace Camarata
200 Park A venue
New York, New York 10166
Counsel for Defendant Jeffrey Mayer
LAURA TAYLOR SWAIN, UNITED STATES DISTRICT JUDGE
Plaintiffs have filed a Third Amended Complaint ("TAC") asserting claims on
behalf of a putative class of investors against various Bear Steams entities, Structured Asset
Mortgage Investments II, Inc., ("SAMI"), and several individuals for violations of Sections 11,
] 2(a)(2), and 15 of the Securities Act of 1933 (the "33 Act"), 15 U .S.C. §§ 77k, 771 (a)(2), 770,
in connection with the sale of mortgage-backed security ("MBS") pass-through certificates
("Certificates") that were offered for sale by means of documents that allegedly contained untrue
statements and material omissions.) Defendants have moved to dismiss the T AC pursuant to
Federal Rule of Civil Procedure 12(b)(6) for failure to state a claim. The Court has jurisdiction
The full list of Defendants is as follows (capitalized terms not otherwise defined
in this footnote have the meanings set forth elsewhere in this Opinion): Bear
Steams & Co., Inc. ("Bear Steams"), an SEC-registered broker-dealer that served
as the underwriter for all of the Certificates and assisted in drafting and
disseminating the Offering Documents (TAC '125); Structured Asset Mortgage
Investments II, Inc. ("SAMI Depositor"), the Depositor for certain Offerings and a
wholly-owned subsidiary of Bear Stearns ~ ~ 26); Bear Steams Asset Backed
Securities I, LLC ("Bear Steams Depositor"), the Depositor for certain Offerings
and a wholly-owned subsidiary of Bear Steams ~ ~ 27); EMC Mortgage Corp.
("EMC"), the Sponsor for each of the Offerings Od. ~ 28); Jeffrey L. Verschleiser,
who was President of the SAMI Depositor at all relevant times (id. ~ 29); Michael
B. Nierenberg, who was the Treasurer of the SAMI Depositor at all relevant times
(id. ~ 30); Jeffrey Mayer, who was a Director of the SAMI Depositor at all
relevant times (id. '131); Thomas F. Marano, who was a Director of both the
SAMI Depositor and the Bear Steams Depositor at all relevant times (id. '132);
Matthew E. Perkins, who was President and a Director of the Bear Steams
Depositor at all relevant times (id. '133); Joseph T. Jurkowski, Jr., who was Vice
President of the Bear Steams Depositor at all relevant times (id. ~ 34); Samuel L.
Molinaro, Jr., who was the Treasurer and a Director ofthe Bear Steams Depositor
at all relevant times (id. 35); Kim Lutthans, who was an Independent Director of
the Bear Steams Depositor at all relevant times (id. ~ 36); and Katherine
Gamiewski, who was an Independent Director of the Bear Steams Depositor at all
relevant times. (Id. ~ 37.) Verschleiser, Nierenberg, Mayer, Marano, Perkins,
Jurkowski, Molinaro, Lutthans, and Gamiewski are referred herein as "Individual
Defendants."
,r
BEAR STEARNS
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of this matter under 28 U .S.C. § 1331. For the reasons stated below, Defendants' motion is
granted in part and denied in part.
BACKGROUND
L
Mortgage-Backed Security Allegations
The following facts are taken from the T AC, the documents incorporated by
reference therein, and other documents of which the Court may properly take judicial notice.
Plaintiffs' factual allegations are taken as true for purposes of this motion practice.
On March 10, 2006, and March 31, 2006, SAMI Depositor and Bear Steams
Depositor, respectively, filed Registration Statements with the Securities and Exchange
Commission ("SEC") indicating their intention to sell $50 billion in MBS Certificates. (TAC
'14Y
The Registration Statements and the accompanying Prospectus and Prospectus
Supplements (collectively referred to as "Offering Documents") contained untrue statements and
omissions of material fact regarding the underwriting and appraising standards, the value of the
collateral, the amount of credit support for each offering, and the credit ratings of the
Certificates. (Id.
~
9.) These omissions and misstatements are alleged to have caused the
Offering Documents to be materially false and misleading. (Id.)
In brief, an MBS is created when a "depositor" buys an inventory of mortgages
(or "loan pool") from a primary lender (or "originator,,).3 After the depositor obtains the loan
pools, it places them in issuing trusts, securitizes them by organizing the loans into "tranches,"
The Certificates were sold in 14 offerings between May 30, 2006 and April 26,
2007. (TAC ~ 3.)
The originator is the entity that processes the borrower's mortgage application.
The primary originators of the loans held by the trusts at issue here were EMC
Mortgage Corp., Bear Steams Residential Mortgage Corp., Countrywide Home
Loans, Wells Fargo Mortgage Corporation, and Fieldstone Mortgage Corporation.
BEAR STb\Rl'S
MTD TAC. WI'D
VERSIOt-; 3i30il1
1
and issues securities backed by the loan pools. The depositor uses the borrowers' monthly
payments as the revenue stream to pay investors who have bought the securities. Each tranche
has a different risk profile and is assigned a credit rating - here, by the rating agencies S&P and
Moody's ("Rating Agencies,,).4 All of the tranches from which named Plaintiffs purchased
Certificates were initially rated AAA, which ostensibly indicated the lowest likelihood of
default. S (TAC 'l~ 40-41.)
Because the value of an MBS depends on the ability of the borrowers to repay the
principal and interest on the underlying loans as well as the adequacy of the collateral in the
event of default, thorough assessments ofthe borrowers' creditworthiness and the homes' values
are paramount. (ld.
~
3.) To this end, the MBS packaging process has three principal levels of
quality control. First, underwriting and appraisal standards are crafted to assist the originator in
weeding out excessively risky loan applications; second, the depositor reviews the loan pools to
ensure that they meet the originator's stated underwriting standards (id.
~~
Rating Agencies review the securities' risk profiles and assign ratings. (Id.
55-58); and third, the
~~
6,184-85.)
The T AC details a systemic breakdown at each level, one that resulted largely
from the misalignment of incentives in the MBS industry. Under the traditional mortgage
4
The tranches' risk profiles are related to the priority they are assigned for receipt
of payment if the pool revenues are insufficient to cover payments to all
investors. As the Second Circuit has explained: "Subordinating the bonds creates
a tiered structure known as a 'waterfall.' Losses from mortgage defaults,
delinquencies, or other factors are allocated in reverse seniority, with junior
tranches incurring losses first until their interests are reduced to zero." In re
Lehman Bros. Mortgage-Backed Securities Litigation, 650 F.3d 167,171 n.l (2d
Cif. 2011); (TAC ~ 41.)
As institutional investors, named Plaintiffs were prohibited from purchasing any
Certificates below investment grade. Moody's investment grade ratings are from
"Aaa" to "Baa3"; S&P's investment grade ratings "AAA" to "BBB."
BEAR STEARNS
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investment model, the loan originator held the mortgage to maturity and made its profits from
the borrower's payment of interest and repayment of principal
an arrangement that gave the
originator an economic interest in ensuring that (I) the borrower had the financial wherewithal to
repay the promissory note, and (2) the underlying property had sufficient value to cover the
lender's losses in the event of defflUlt. (Id. ,r,-r 44-47, 168.) With the advent of securitization,
originators quickly parted with the mortgages - and the attendant risk of default
by selling
them to investors. (Id.,-r 169). The primary source of profit shifted from borrowers' interest
payments to loan fees and sales revenue. Largely free from the risk of defaults, originators
began pushing high-risk loan products and deviating from underwriting and appraisal standards
in an attempt to maximize loan volume. (Id.,-r,-r 169-70). Wall Street banks like Bear Steams,
which profited enormously from the packaging and sale of MBS, were content to overlook the
widespread degradation of underwriting and appraisal practices. (ld.,-r,-r 56-67, 171.) The final
guarantors of the securities' quality, the Rating Agencies, were equally compromised. The
Rating Agencies' models were outdated and failed to properly account for the increased riskiness
of new loan products. (Id.,-r 196.) Compounding the problem, banks such as Bear Steams
shopped for Rating Agencies willing to assign their securities top credit ratings, pitting the
Agencies against each other and provoking a race to the bottom in rating quality. (Id. ~~ 195.)
A.
Misrepresentations and Omissions Regarding Underwriting Standards and
Appraisals
Plaintiffs allege that the Offering Documents misrepresented and omitted material
facts regarding the underwriting standards applied by the loan originators. EMC Mortgage Corp.
IJEAR STEARNS MTD TAe. WPD
VERS10N 3/30112
4
("EMC"),6 Bear Steams Residential Mortgage Corp. ("BSRM"), Countrywide Home Loans
("Countrywide"), American Home Mortgage ("AHM"), Wells Fargo Mortgage Corp. ("Wells
Fargo"), Fieldstone Mortgage Corp. ("FMC"), as well as six additional corporations listed in the
7
Prospectus Supplement, originated loans held by the trusts in which Plaintiffs invested. (Id.
~~
82,94,100,126,141,157,166.)
EMC was an originator ofloans for the BSABS 2007-HE4, BSMF 2006-ARI,
BSMF 2006-AR4, BSMF 2006-AR5, BALTA 2006-6, BALTA 2006-8, and BALTA 2007-1
trusts. (Id.'1 82.) The Offering Documents represented that: "Each mortgaged property relating
to an EMC mortgage loan has been appraised by a qualified independent appraiser" in
accordance with the "Uniform Standards of Professional Appraisal Practice." (Id.
~
84.) The
Offering Documents further represented that "underwriting standards are applied to evaluate the
prospective borrower's credit standing and repayment ability and the value and adequacy of the
mortgaged property as collateral" and elaborated that:
In determining whether a prospective borrower has sufficient monthly income
available (i) to meet the borrower's monthly obligation on their proposed
mortgage loan and (ii) to meet the monthly housing expenses and other financial
obligations on the proposed mortgage loan, each lender generally considers, when
required by the applicable documentation program, the ratio of such amounts to
the proposed borrower's acceptable stable monthly gross income.
(Id.
~
83.) The Prospectus Supplement also stated that, while certain loans did not require
6
EMC was also owned and operated by Bear Steams and was a Sponsor for each
of the offerings. (Id. ~~ 5,28.)
7
The additional originators are Aegis Mortgage Corporation, Mid America Bank,
U.S. Bank, NA, Provident Funding Associates, L.P., Synovus Mortgage
Corporation, and American Mortgage Express Corp. d/b/a American Residential
Mortgage Corp. (Id. ~ 166.)
BEAR STEARNS MTD TAC.wPD
VERSION 3/30/12
income verification, the originators would "obtain a telephonic verification of the borrowers'
employment without reference to income" and that "[b ]orrower's assets are verified." (ld. ~ 85.)
EMC systematically disregarded its own underwriting and appraisal standards and
prioritized the pursuit ofloan volume over loan quality. (Id.
~
86.) According to one study,
EMC breached its representations and warranties with respect to 89% of its loans by providing
misrepresentations about borrower income, employment, and assets, and by failing to adhere to
its own mortgage lending guidelines. (Id.,r 88.) According to Matt Van Leeuwen, a former
mortgage analyst with EMC, Bear Stearns forced EMC analysts to rush their loan analyses so
that Bear Stearns would not have to hold the loans on its books. (Id. '192.) Mr. Van Leeuwen
further revealed that EMC analysts were allowed to falsify missing loan data, that the
documentation level of the loans was often incorrectly identified, and that Bear Stearns would
declare the loan "fit" rather than investigating to fill in the missing information. (Id.) As of the
date of the TAC, 98% ($7.3 billion) of the $7.45 billion ofthe initially AAA-rated Certificates
from the seven trusts had been downgraded to or below speculative "junk" status. (Id. 'il93.)
BSRM was an originator ofloans for the BSMF 2006-ARl, BSMF 2006-AR4,
BSMF 2006-AR5, and BSABS 2007-HE4 trusts.
llil ~ 94.)
The Prospectus Supplements
described stringent underwriting standards. For example, the Prospectus Supplement for the
BSMF Series 2006-ARl Certificate Offering stated:
The BSRM A It-A Underwriting Guidelines are intended to ensure that (i) the
loan terms relate to the borrower's willingness and ability to repay and (ii) the
value and marketability ofthe property are acceptable . ...
Based on the documentation type each loan application package has an application
completed by the prospective borrower that includes information with respect to
the applicant's assets, liabilities, income, credit and employment history, as well
as certain other personal information. During the underwriting process, BSRM
Bl:AR STEARNS MTD T AC. WPD
VERSION
3/30/12
6
calculates and verifies the loan applicant's sources of income (except
documentation types, which do not require such information to be stated or
independently verified), reviews the credit history of the applicant, calculates the
debt-to-income ratio to determine the applicant's ability to repay the loan, and
reviews the mortgaged property for compliance with the BSRM Underwriting
Guidelines.
(Id.
~
95) (emphasis in original.) The Prospectus Supplements also described BSRM's prudent
underwriting standards for loans that required less documentation. (Id.,r 97.) However, BSRM
systematically disregarded its own underwriting and appraisal standards to maximize loan
volume. (Id.
~
98.) As ofthe date of the TAC, almost 100% ($3.74 billion) of the $3.75 billion
of the initially AAA-rated Certificates from the above four trusts had been downgraded to or
below speculative "junk" status. (Id.
~
99.)
Countrywide was an originator ofloans for the SAMI 2006-AR6, SAMI 2006
AR7, BALTA 2006-6, BALTA 2007-1, BSARM 2006-4, BSARM 2007-3, and BSARM 2007-1
trusts. The Prospectus Supplements describe Countrywide's rigorous, stated underwriting
standards. For example, the Prospectus Supplement for the SAMI 2006-AR6 offering stated that
Countrywide evaluates "the prospective borrower's credit standing and repayment ability and the
value and adequacy of the mortgaged property as collateral" by verifying employment history and
appraising the property, in a manner "conform[ing] to Fannie Mae or Freddie Mac appraisal
standards then in effect." (Id.
~
101-102.) The Prospectus Supplement represented that loans
requiring less documentation were "limited to borrowers with excellent credit histories" and that
the loan application would be "reviewed to determine that the stated income is reasonable for the
borrower's employment and that the stated assets are consistent with the borrower's income."
(ld.
~
103.)
However, in an effort to originate as many loans as possible, Countrywide
BEAR STEARNS MTD TAC. WPD
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3/30/12
7
routinely and systematically violated its stated underwriting standards. (Id. ~ 104.) According
to a confidential witness ("CWI "), a senior Countrywide underwriter, Countrywide regularly
designated loans made to unqualified borrowers as "prime." (Id. ~ 105.) According to a second
confidential witness ("CW2"), Countrywide created a computer system that identified high risk
loans and routed them out ofthe normal loan approval process; instead of being rejected, the
loans were reviewed to evaluate whether they should require a higher price or higher interest
rate. (Id.
~
106.) Other confidential witnesses ("CW3" and "CW4") stated that, between 2000
and 2007, Countrywide extended loans to individuals with increasing debt-to-income ratios, and
that branch managers pressured underwriters to approve risky loans. (Id.
~~
107-108.)
According to a former Regional Vice President of Countrywide Mortgage Ventures, LLC,
Countrywide also placed pressure on appraisers to appraise to predetermined values, which
distorted the loan-to-value ratios and made the mortgage loans in the pool much riskier than
suggested by the Offering Documents. (Id.
~~l
109-10.) As a result of these unlawful mortgage
practices, Countrywide has been the target of federal investigations, lawsuits by several state
attorneys general, and numerous civil actions. (ld.
~l~
111-124.) As of the date of the TAC, 98%
($9.31 billion) of the initially AAA-rated Certificates issued from the seven trusts had been
downgraded to or below speculative "junk" status. (Id.
~
125.)
AHM was an originator of loans for the SAMI Series 2006-AR5 trust.
The Prospectus Supplement for that trust represented that:
American Home's underwriting philosophy is to weigh all risk factors inherent in
the loan file, giving consideration to the individual transaction, borrower profile,
the level of documentation provided and the property used to collateralize the
debt. ...
American Home underwrites a borrower's creditworthiness based solely on
BEAR S rEAR~S MTD TAe. WPlJ
VERSIO;;
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infonnation that American Home believes is indicative ofthe applicant's
willingness and ability to pay the debt they would be incurring.
(Id.
,r 127) (emphasis in original).
The Prospectus Supplement further represented that there
would be "compensating factors such as higher credit score or lower loan-to-value requirements"
for loans requiring less documentation. (Id. ~ 129.) However, AHM systematieally disregarded
its underwriting guidelines and regularly approved low documentation loans in the absence of
sufficient compensating factors in order to maximize its loan volume. An internal report
circulated in October 2005 relaxed the underwriting standards by no longer requiring verification
of income sources on stated-income loans, reducing the time required to have elapsed since the
borrower was last in bankruptcy or eredit counseling, reducing the required documentation for
self-employed borrowers, and broadening the acceptable use of second and third loans to cover
the property value. (Id.
~
131.) According to confidential witnesses CW 6, CW7, and CW8, each
of whom held senior positions at AHM, it was commonplace to overrule underwriters'
objections in order to complete a loan. (Id.
~
134-36.) Senior Executives encouraged loan
officers to make risky loans, including stated-income loans, where neither the assets nor the
income of the borrower were verified, "No Income" loans, which allowed for loans to be made
without any disclosure of the borrowers' income or assets, and "No Doc" loans, which allowed
loans to be made to borrowers who did not disclose their income, assets or employment history.
(Id. ,; 132.) AHM's mortgage practices have also been the focus of several criminal probes and
at least one AHM sales executive has admitted that he regularly falsified clients' income or
assets, with AHM's knowledge, to get loans approved. (Id.
AHM filed for bankruptcy. (ld.
~
~~
l38-139.) On August 6,2007,
l37.) As of the date ofTAC, 77% ($687 million) of the
initially AAA-rated Certificates issued from the SAMI Series 2006-AR5 trust had been
BEAR STEARNS MTD T AC. WPD
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9
------
...
-~.~
-.---- ....- ...
....
~.
downgraded to or below speculative "junk" status. (ld.
~
140.)
Wells Fargo was an originator of loans for the BALTA 2006-8 and BSARM
2007-1 trusts. The BSARM 2007-1 Prospectus Supplement represented that its "general"
underwriting standards were:
applied by or on behalf of Wells Fargo Bank to evaluate the applicant's credit
standing and ability to repay the loan, as well as the value and adequacy ofthe
mortgaged property as collateral. The underwriting standards that guide the
determination represent a balancing of several factors that may affect the ultimate
recovery of the loan amount, including, among others, the amount of the loan, the
ratio of the loan amount to the property value (i.e., the lower of the appraised
value of the mortgaged property and the purchase price), the borrower's means of
support and the borrower's credit history. Wells Fargo Bank's guidelines for
underwriting may vary according to the nature of the borrower or the type of loan,
since differing characteristics may be perceived as presenting different levels of
risk.
(Id.
~
143) (emphasis in original). The Prospectus Supplement also disclosed that Wells Fargo's
"moditied" underwriting standards "permit different underwriting criteria, additional types of
mortgaged properties or categories of borrowers ... and include certain other less restrictive
parameters." (Id.
~
144.) Finally, the Prospectus Supplement stated that in order to qualifY for
participation in Wells Fargo's mortgage loan purchase program:
lending institutions must (i) meet and maintain certain net worth and other
financial standards, (ii) demonstrate experience in originating residential
mortgage loans, (iii) meet and maintain certain operational standards, (iv)
evaluate each loan offered to Wells Fargo Bank for consistency with Wells
Fargo Bank's underwriting guidelines and represent that each loan was
underwritten in accordance with Wells Fargo Bank standards and (v) utilize the
services of qualified appraisers.
(Id.
~
146) (emphasis in original).
However, Wells Fargo systematically disregarded its stated underwriting and
appraisal standards. According to a confidential witness ("CW9"), loan officers applied
BEAR STEARNS MTD TAC.WPD
VERSION 3/301J 2
10
"intense" pressure on underwriters to approve risky loans and rewarded "high producers." (Id.
~
148.) Another confidential witness and fonner Wells Fargo employee ("CWI 0") states that the
mortgage unit would loosen its underwriting standards at the end of the year to meet the
origination goals; those employees who did not approve risky loans "wouldn't be around very
long." (ld.
~
150.) According to CWll, Wells Fargo instituted a program in 2006 called
"courageous underwriting," which CWll described as "following the guidelines but also
finagling the guidelines if it meant getting the loan approved."
~~
152.) According to CWI2,
a fonner Wells Fargo Home Mortgage employee who was employed as a Loss Mitigation
Supervisor from 1999 through 2004, and as an REO Supervisor from July 2006 through May
2008, some ofthe infonnation in the loans was "blatantly falsified."
~~
153.)
As of the date
of the TAC, 93.6% ($2.08 billion) of the initially AAA-rated Certificates issued from the
BALTA 2006-8 and BSARM 2007-1 trusts had been downgraded to or below speculative "junk"
status. (Id.,r 156.)
FMC was an originator of loans for the BSABS 2007-HE3 trust. The BSABS
2007-HE3 Prospectus Supplement represented that:
FMC's underwriting policy is to analyze the overall situation of the borrower and
to take into account compensating factors that may be used to offset areas of
weakness. These compensating factors include credit scores, proposed reductions
in the borrower's debt service expense, employment stability, number of years in
residence and net disposable income ....
The underwriters review each non-confonning loan in one of FMC's regional
funding centers. FMC believes that this regionalized underwriting process
provides them with the ability to fund loans faster than many of its competitors,
and the experience of their loan originators and branch managers, infonnation
systems and rigorous quality control process ensure the continued high quality of
their loans.
BEAR STEARNS MTD TAC'.wPD
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II
(Id. '1158 (emphasis in original).) The underwriting was not consistently monitored by FMC's
supposed rigorous quality control process; rather, FMC's "underwriting personnel" regularly
modified mortgage loan applications in order to increase the volume of loans and resulting fees.
(ld.
~
159.) The rising rate of foreclosures and delinquencies resulting from these practices
forced FMC to file for bankruptcy in November 2007.
~~
163.) According to press reports,
an undercover operation resulted in fraud charges against 24 defendants, including brokers,
business owners and appraisers who dealt regularly with FMC.
~~
164.) As of the date of the
TAC, 64.4% ($46l.1 million) of the initially AAA-rated Certificates issued by the BSABS 2007
HE3 trust had been downgraded to or below speculative "junk" status. (ld.
Six other originators
~
165.)
Aegis Mortgage Corporation, Mid America Bank, U.S.
Bank, NA, Provident Funding Associates, L.P., Synovus Mortgage Corporation, and American
Mortgage Express Corp. d/b/a American Residential Mortgage Corp. - contributed loans to
several of the offerings at issue. The Prospectus Supplements for those trusts contained untrue
statements and omitted material facts. (Id.
~
167.) As a result ofthese originators' high-risk
lending practices, 100% ($1.89 billion) of the initially AAA-rated Certificates backed by loans
originated by these six entities had been downgraded to or below speculative "junk" status as of
the date of the TAC. (Id.
B.
~
176.)
Misrepresentations Regarding Appraisals
In each Prospectus Supplement, Defendants included Loan-to-Value ("LTV")
ratios that were based on inflated appraisals of the collateral. (Id.
~~
177-78.) The LTV ratio
expresses the loan amount as a percentage of the collateral's value. For example, if an individual
seeks to borrow $90,000 to pay for a house worth $100,000, the LTV ratio is 90%; however, if
BEAR STEARNS MTD T AC WPD
VERSION 3/30112
12
the home appraisal is artificially elevated to $120,000, the LTV ratio drops to 75%. (kh ~ 178.)
Lower LTV ratios are indicative of less risk.
The Offering Documents represented that the appraisals were conducted in
accordance with Fannie Mae and Freddie Mac appraisal standards. (ld. ~ 179.) Contrary to those
representations, many appraisals were inflated, which resulted in class members paying more for
the Certificates than they were worth. (ld.
C.
~~
178-80.)
Misrepresentations and Omissions Regarding The Certificates' Credit Support
The Offering Documents also contained material misrepresentations concerning
"credit support" or "credit enhancement," which provides holders of senior Certificates with a
degree of protection should there be a shortfall in payments received on the mortgage loans.
~~
~
181-82.) Because the originators regularly disregarded their own underwriting and appraisal
standards, the supposed credit support was insufficient to cover the heightened risk of loss. (Id.
~
183.)
D.
Bear Steams' Failure to Conduct Due Diligence
Prior to making bulk purchases of loans from third-party originators, Bear Steams
sent information about the loans to the Rating Agencies to enable them to advise Bear Steams as
to the appropriate purchase price. (Id.
~
54.) Once the Rating Agency's analysis was complete,
Bear Steams submitted its bids; if the mortgage originator accepted the bid, Bear Steams often
retained third-party due diligence firms such as Clayton Holdings and Bohan Group, ostensibly
to comb through the loan pools and eliminate loans that violated the underwriting standards. (Id.
~
55.) However, executives at these firms have characterized Bear Steams' due diligence process
as lax and haphazard. (Id. '156.) Investment banks like Bear Steams directed the due diligence
BEAR S rEARNS
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IJ
finns to drastically decrease the number of loans that they evaluated (id. ~ 63), and routinely
ignored the numerous "red flags" about flaws in subprime mortgage loans. (Id.
~
64.)
According to documents filed with the Financial Crisis Inquiry Commission, Clayton reviewed
19,248 Bear Steams loans from January 2006 to June 2007, and initially rejected 4,494 (23%) of
them; Bear Steams waived the exceptions related to 1,295 (29%) of those loans. (Id.' 65.)
During that same period, Clayton reviewed 53,131 EMC loans, and initially rejected 7,277
(13.7%); EMC waived the exceptions related to 3,628 (50%) of those loans. (ld.)
E.
Misrepresentations and Omissions Regarding The Certificates' Ratings
Each of the Certificates was provided a rating by Standard & Poor ("S&P") and
Moody's.
~,r
184.) The Offering Documents stated that the Certificates' ratings:
address the likelihood of the receipt by Certificateholders of all distributions to
which the Certificateholders are entitled. These ratings address the structural,
legal and issuer-related aspects associated with the Certificates and notes, the
nature of the underlying mortgage assets and the credit quality of the guarantor, if
any.
(Id.) All of the ratings set forth in each of the Prospectus Supplements were within "Investment
Grade" range for Moody's (Aaaa through Baa3) and S&P (AAA through BBB.)
ai, 185.)
These ratings were premised on false representations that the originators had
complied with the underwriting guidelines. (rd.) Moreover, Rating Agency executives have
since admitted that the ratings were based on inaccurate data (id.
~
187), and relied on deficient
statistical models. (ld.', 188-195.) The Rating Agencies succumbed to market pressure to
lower their standards. According to fonner Moody's Managing Director Jerome S. Fons,
securities issuers were free to shop around for the Rating Agency that would give them the
highest rating and "typically chose the agency with the lowest standards, engendering a race to
BEAR STEARNS
MTD TAC'. WPD
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3130112
14
the bottom in tenns of rating quality." ~ '1195.) These unreliable ratings made it impossible
for class members to accurately assess the risk of the Certificates and caused class members to
pay more for the Certificates than thcy were worth at the time of the Offerings. (Id., 186.)
II.
Procedural History
On August 20,2008, Plaintiff New Jersey Carpenters Health Fund ("NJ
Carpenters") filed a complaint (the "Original Complaint") in New York state court, asserting
claims against Bear Stearns and Structured Asset Mortgage Investments II, Inc. ("SAM I"), for
violations of Sections 11, 12(a)(2), and 15 of the Securities Act of 1933 (the "33 Act"), 15
U.S.C. §§ 77k, 771(a)(2), 770, in connection with the sale ofMBS Certificates that were offered
for sale by means of Offering Documents that allegedly contained untrue statements and material
omissions. That action was removed to this Court on September 18, 2008.
Thereafter, this action accreted parties and offerings as follows. On May 15,
2009, NJ Carpenters filed its first consolidated class action complaint ("F AC") with Plaintiff
Boilennaker Pension Trust ("Boilennaker"),8 adding seven offerings. 9 On July 9, 2009, Pension
Trust Fund filed a separate complaint ("Pension Trust Complaint") against Bear Stearns and
SAMI, listing six offerings. 10 On December 23,2009, this Court granted an application to
On January 26,2009, the Court granted NJ Carpenters' unopposed motion for
appointment as lead plaintiff. (See Order, docket entry no. 16.)
9
In addition to BSMF 2006~ARl, the FAC added: Structured Asset Mortgage
Investments II Trust, Series 2006-AR5 ("SAMI 2006-AR5"), SAMI 2006-AR6,
and SAMI 2006-AR7; Bear Stearns Asset Backed Securities Trust, Series 2007
HE3 ("BSABS 2007-HE3") and BSABS 2007-HE4; and Bear Stearns Mortgage
Funding Trust, Series 2006-AR4 ("BSMF 2006-AR4") and BSMF 2006-AR5.
10
Those offerings were: Bear Stearns Alt-A Trust, Series 2006-6 ("BALTA 2006
6"), BALTA 2006-8, BALTA 2007-1; Bear Stearns ARM Trust, Series 2006-4
("BSARM 2006-4"), BSARM 2007-1, and BSARM 2007-3.
BEAR STEARNS MTD TAC.wPD
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15
consolidate the two suits and appointed NJ Carpenters and MissPERS as co~lead plaintiffs. (See
Order, docket entry no. 89.) On February 19, 2010, co~lead plaintiffs NJ Carpenters and Public
Employees' Retirement System of Mississippi ("MissPERS"), along with Boilermakers, filed a
second consolidated class action complaint ("SAC"). Defendants moved to dismiss the SAC, in
part on the grounds that the named plaintiffs lacked standing to assert claims with respect to
offerings from which they had not purchased securities. On September 29, 2010, the Court
denied Defendants' motion to dismiss the SAC without prejudice and granted Plaintiffs leave to
file a final amended complaint. (See Order, docket entry no. 133.)
On October 29, 20 10, Plaintiffs filed their third consolidated class action
complaint ("T AC") , adding as named plaintiffs the Police and Fire Retirement System ofthe
City of Detroit ("Detroit"), the Oregon Public Employee Retirement Fund ("OPERS"), the Iowa
Public Employees' Retirement System ("IPERS"), the City of Fort Lauderdale Police & Fire
Retirement System ("Fort Lauderdale"), and the San Antonio Fire and Police Pension Fund ("San
Antonio"). The parties, offerings, and claims in each complaint are as follows ("X" designates
offerings that were listed in the class definition even though no named Plaintiff purchased from
that offering):
BEAR STEARl\S MTD TAC WPD
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3/30/12
16
SAC
(2/19/2010)
TAC
(10/29/2010)
NJ
Carpenters
NJ
Carpenters
NJ Carpenters
SAMl 2006-ARS
Boilermakers
Boilermakers
Boilermakers
SAMI 2006-AR6
Boilermakers
Boilermakers,
MissPERS
Boilermakers,
MissMPERS
SAM12006-AR7
X
X
IPERS,
OPERS
BSABS 2007
HE3
X
X
IPERS
. BSABS 2007
HE4
X
X
IPERS
BSMF 2006
AR4
X
X
San Antonio
BSMF 2006
ARS
X
X
San Antonio
Original
Compl.
(812012008)
FAC
(5115/2009)
NJ
Carpenters
Offering/Trust
I
BSMF 2006
. AR1
Pension
Trust
Compl.
(7/912009)
Pension
Trust
BALTA 2006-6
X
MissPERS
MissPERS,
IPERS
BALTA 2006-8
X
X
OPERS,
Detroit
BALTA 2007-1
X
X
IPERS,
OPERS
B SARM 2006-4
X
MissPERS
MissPERS
BSARM 2007-1
X
X
Ft. Lauderdale
BSARM 2007-3
X
MissPERS
MissPERS
Plaintiffs bring this action on behalf of "all persons or entities who purchased or
otherwise acquired beneficial interests in the Certificates" issued in the above-mentioned
offerings. (TAC,-r,-r
1. 204.)
Defendants now move to dismiss the T AC, arguing that (l) all of Plaintiffs'
BEAR STEARNS
MTD TAC. WPD
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17
claims are time-barred by the applicable statute of limitations and that certain claims are barred
by the statute of repose, (2) Plaintiffs have failed to allege any actionable misrepresentation or
omission, (3) Plaintiffs' failure to allege a primary violation or plead facts demonstrating that
any Individual Defendant is a control person requires dismissal of the Section 15 claim, (4)
Plaintiffs have failed to allege any cognizable injury, (5) Plaintiffs' sole remedy under the
Offering Documents is repurchase or replacement of non-complying loans, and (6) Plaintiffs
lack standing to sue on behalf of purchasers of individual tranches within each offering that no
named Plaintiff purchased.
DISCUSSION
Sections 11, 12(a)(2), and 15 of the Securities Act impose civil liability on certain
persons when communications in connection with a registered securities offering contain
material misstatements or omissions. 15 U.S.C. §§ 77k, 77l(a)(2), 770; In re Morgan Stanley
Info. Fund Sec. Litig., 592 F.3d 347, 358 (2d Cir. 2010). Section 11 provides a cause of action
for material misstatements and omissions in registration statements; Section 12(a)(2) provides a
cause of action for material misstatements and omissions in prospectuses and oral
communications. 15 U.S.c. §§ 77k, 77l(a)(2); see also In re Morgan Stanley, 592 F.3d at 358
59. Section 15 provides a cause of action against "[ e] very person who ... controls any person
liable under (Sections 11 or 12(a)(2») of this title." 15 U.S.C. § 770. A claim under Section 15,
therefore, can only succeed if a plaintiff can first demonstrate liability under Section 11 or
Section 12. See In re Morgan Stanley, 592 F.3d at 358.
"[S]ections 11 and 12(a)(2) create[] three potential bases for liability based on
registration statements and prospectuses filed with the SEC: (1) a misrepresentation; (2) an
Bl'AR STEARNS MTD TAC.WPD
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18
omission in contravention of an affinnative legal disclosure obligation; and (3) an omission of
infonnation that is necessary to prevent existing disclosures from being misleading." In re
Morgan Stanley, 592 F.3d at 360; see also 15 U.S.C. §§ 77k(a), 771(a)(2). For a misstatement or
omission to be actionable under Section 11 or 12(a)(2), a defendant must have a duty to disclose
the information, and the omitted or misstated information must be material to the investor.
Morgan Stanley, 592 F.3d at 360. Where a plaintiff establishes any of the three bases of
liability, "the general rule in a Section 11 [or Section 12( a)(2)] case is that an issuer's liability ..
. is absolute." Hutchison v. Deutsche Bank Securities Inc., 647 F.3d 479, 484 (2d Cir. 2011)
(quoting Litwin v. Blackstone Grp., LP., 634 F.3d 706,715-16 (2d CiL 2011». "Plaintiffs
bringing claims under seetions 11 and 12(a)(2) need not allege scienter, reliance, or loss
causation.'" In re Morgan Stanley, 592 F.3d at 359.
On a motion to dismiss a complaint pursuant to Federal Rule of Civil Procedure
12(b)(6), the Court "accept[s] as true all factual statements alleged in the complaint and draw[s]
reasonable inferences in favor of the non-moving party." McCarthy v. Dun & Bradstreet Corp.,
482 F.3d 184, 191 (2d Cif. 2007). The movant bears the burden of demonstrating that the
complaint fails to state a claim upon which relief may be granted. Lerner v. Fleet Bank, N.A.,
318 F.3d 113, 128 (2d Cif. 2003). To survive a Rule 12(b)(6) motion, a complaint must "plead
enough facts to state a claim that is plausible on its faee." Ruotolo v. City of New York, 514
F.3d 184, 188 (2d Cif. 2008) (internal quotation marks omitted) (citing Bell AtL Corp. v.
Twombly, 550 U.S. 544, 570 (2007». "A claim has facial plausibility when the plaintiff pleads
factual content that allows the court to draw the reasonable inference that the defendant is liable
for the misconduct alleged." Ashcroft v. Iqbal, 129 S. Ct. 1937,1949 (2009). "Where a
BEAR STEARNS
MTDTAC.wPD
VERSIOl>; 3130112
19
complaint pleads facts that are merely consistent with a defendant's liability, it stops short of the
line between possibility and plausibility of entitlement to relief." ld. (internal quotations and
citations omitted).
1.
Timeliness of Plaintiffs' Claims
Claims brought under Section 11 and Section 12(a)(2) are subject to the two-
pronged timing provision of Section 13 of the Securities Act. IS U.S.c. § 77m. The first prong
of Section 13 is a statute of limitations, which provides that claims must be brought within one
year of "the discovery of the untrue statement or the omission, or after such discovery should
have been made by the exercise of reasonable diligence." ld. The statute of limitations may be
tolled based on equitable considerations for up to three years, at which point a plaintiffs claim is
extinguished by Section 13's second prong - the statute of repose - which provides that "[i]n no
event shall any such action be brought ... more than three years after the security was bona fide
offered to the public." ld. (emphasis added).
Defendants argue that each of Plaintiffs' claims is time-barred by the statute of
limitations because various news reports and other publicly accessible information placed
Plaintiffs on inquiry notice more than one year prior to the filing of the operative complaint.
Defendants further argue that the claims first asserted by Plaintiffs with standing more than three
years after the initial offerings are barred by the statute of repose. II
II
BEAR STEARNS
These include all claims brought by MissPERS, IPERS, Detroit, San Antonio,
OPERS, and Ft. Lauderdale. It also includes any claims asserted with respect to
the SAMI 2006-AR7, BSABS 2007-HE3, BSABS 2007-HE4, BSMF 2006-AR4,
and BSMF 2006-ARS trusts. The FAC (filed May IS, 2009 by NJ Carpenters and
Boilermakers) asserted claims as to those offerings; however, neither ofthe
named plaintiffs in the FAC had purchased securities from the offerings.
MTD TAt'. WPD
VERSION 3/30112
20
A.
Statute of Limitations
The Court must first determine whether the inquiry notice standard is still
applicable, or whether, as Plaintiffs contend, it was rendered inoperative by the Supreme Court's
decision in Merck & Co. v. Reynolds, 130 S. Ct. 1784 (20 10).
Inquiry notice has been held to arise when circumstances
often called "storm
warnings" - '''suggest to an investor of ordinary intelligence the probability' that she has a cause
of action." In re Openwave Svs. Sec. Litig., 528 F. Supp. 2d 236, 245 (S.D.N.Y 2007) (quoting
Levitt v. Bear, Steams & Co. Inc., 340 F.3d 94, 101 (2d Cir. 2003)). The emergence of storm
warnings triggers the potential plaintiffs duty to investigate. If the potential plaintiff makes an
inquiry when that duty arises, the one-year statute oflimitations begins to run when a plaintiff
"in the exercise of reasonable diligence[] should have discovered" the violation. Lentell v.
Merrill Lynch & Co., Inc., 396 F .3d 161, 168 (2d Cir. 2005), accord In re IndyMac
Mortgage-Backed Securities Litigation, 718 F. Supp. 2d 495,502-03 (S.D.N.Y. 2010). Where,
on the other hand, the plaintiff fails to investigate, the statute of limitations begins to run on the
date the storm warnings triggered the duty to inquire. ld. In effect, the inquiry notice standard
can penalize the heedless would-be plaintiff by commencing the limitations period before a
reasonably diligent plaintiff could have discovered the actionable conduct.
Plaintiffs argue that the Supreme Court's recent ruling in Merck & Co. v.
Reynolds, 130 S. Ct. 1784 (2010), invalidated inquiry notice as a statute of limitations measuring
point in securities cases. In Merck, the Supreme Court rejected the inquiry notice standard in the
context of a claim brought under Section 1O(b) of the Securities Act of 1934 ("34 Act"), holding
that "the discovery of facts that put a plaintiff on inquiry notice does not automatically begin the
BEAR STEARNS MTD TAC. WPD
VERSION 3130112
21
running of the limitations period." Id. at 1798. Rather, the Court held, "the limitations period
does not begin to run until ... a reasonably diligent plaintiff would have discovered 'the facts
constituting the violation,' ... irrespective of whether the actual plaintiff undertook a reasonably
diligent investigation." Id. at 1792 (quoting 28 U.S.C. § 1658(b)). The Second Circuit
elaborated on Merck in City of Pontiac Gen. Emps. Ret. Sys. v. MBIA, Inc., 637 F.3d 169 (2d
Cir. 2011), holding that a fact is not deemed "discovered" for limitations purposes until "a
reasonably diligent plaintiff would have sufficient information about that fact to adequately
plead it in a complaint." ld. at 175. Put differently, "the reasonably diligent plaintiff has not
'discovered' one of the facts constituting a securities fraud violation until he can plead that fact
with sufficient detail and particularity to survive a 12(b)(6) motion to dismiss." Id.
The question before the Court is whether the Supreme Court's invalidation of the
inquiry notice standard for' 34 Act claims extends to claims brought under Sections 11 and
12(a)(2) of the '33 Act. The Court concludes, in accord with the majority ofjudges in this
district, that it does. See In re Wachovia Equity Sec. Litig., 753 F. Supp. 2d 326, 370-71, n.39
(S.D.N.Y. 2011) (applying Merck to claims under Sections 11 and 12(a)(2) of the '33 Act); New
Jersey Carpenters Health Fund v. Residential Capital, LLC, Nos. 08 CV 8781(HB), 08 CV
5093(HB), 2011 WL 2020260, at *4 (S.D.N.Y. May 19,2011); Brecher v. Citigroup Inc., 797 F.
Supp. 2d 354,367 (S.D.N.Y. 2011); but see In re IndyMac Mortgage-Backed Securities
Litigation, 793 F. Supp. 2d 637,648 (S.D.N.Y. 2011) (holding that Merck is limited to claims
brought under the '34 Act). The limitations provisions for '33 Act and '34 Act claims are
functionally identical. 12 Compare 28 U.S.C. § 1658(b) (limitations period commences "after the
12
BEAR STEARNS
Indeed, the concept of inquiry notice was articulated principally in the context of
'34 Act claims, see, e.g., Armstrong v. McAlpin, 699 F.2d 79, 88 (2d Cir. 1983),
MTD T AC'. WPD
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22
discovery of the facts constituting the violation") with 15 U.S.C. § 77m (limitations period
commences after "the discovery of the untrue statement or the omission, or after such discovery
should have been made by the exercise of reasonable diligence"). In both instances, the
limitations clock starts when the plaintiff discovers, or should have discovered,13 the factual
predicates of the offense
whether it be facts constituting the fraud in the case of a Section 1O(b)
claim, or the facts constituting the "untrue statement or the omission" in the case of a Section 11
or 12(a)(2) claim. See Dodds v. Cigna Sec., Inc., 12 F.3d 346, 349-50 (2d Cir. 1993) (treating §
77m and § 1658(b) as equivalent). Given this identity of operation, the Court finds no principled
basis for cabining Merck's holding to Section 1658(b).
In light of Merck and City of Pontiac, the Court finds that Defendants' focus on
inquiry notice is misplaced. The operative question is no longer when a reasonable plaintiff
would have known that she had a likely cause of action and inquired further. Rather, the
question is whether a plaintiff could have pled '33 Act claims with sufficient particularity to
survive a 12(b)(6) motion to dismiss more than one year prior to the filing of the operative
complaint. Whether sufficient facts existed at that time is, by definition, a fact-intensive inquiry
and, thus, generally ill-suited for resolution at the motion to dismiss stage. Cf. In re Dreyfus, No.
98 Civ. 4318(HB), 2000 WL 10211, at *3 (S.D.N.Y. Jan. 6,2000) ("[T]he issue of constructive
and transplanted without modification to claims brought under the '33 Act.
M,., Dodds v. Cigna Sec., Inc., 12 F.3d 346,349-50 & n.l (2d Cir. 1993).
13
While a plain reading of the text suggests that the Section 1658(b) clock - unlike
Section 77m's commences only upon actual discovery, courts have
unanimously construed "discovery of the facts constituting the violation" to
contemplate actual and constructive discovery. See Merck, 130 S. Ct. at 1794
('''discovery ofthe facts constituting the violation' occurs not only once a
plaintiff actually discovers the facts, but also when a hypothetical reasonably
diligent plaintiff would have discovered them") (citing cases).
BF,\R STEARt\S MTD TAC.wPD
VERS10N
3/30/12
23
knowledge and inquiry notice should more properly be resolved by the trier of fact at a later stage
in this litigation."). Accordingly, a motion to dismiss will only be granted where
"uncontroverted evidence irrefutably demonstrates [that the] plaintiff discovered or should have
discovered" facts sufficient to adequately plead a claim. Newman v. Warnaco Group, Inc., 335
F.3d 187, 193 (2d Cir. 2003) (quoting Nivram Corp. v. Harcourt Brace Jovanovich, Inc., 840 F.
Supp. 243, 249 (S.D.N.Y. 1993».
1.
Timeliness of the Original Complaint
Defendants provide the following pre-August 2007 documents in support of their
claim that the statute of limitations began to run more than one year before the August 20, 2008,
filing of the Original Complaint by NJ Carpenters: 1) two news articles documenting a mortgage
fraud scheme in Alaska (Exs. LL, MM); 142) a news article describing AHM's financial troubles
due to its investment in subprime mortgage loans (Ex. NN); 3) two news articles describing the
loosening of lending standards across the country and the high rates of defaults (Exs. 00, PP); 4)
a news article and congressional testimony describing widespread pressure on appraisers to
inflate home values to clear loans (Exs. QQ, WW); 5) a news article describing government
allegations that certain brokers pressured Manhattan-based appraisers to inflate property values
(Ex. RR); 6) a Moody's report describing increased foreclosure rates and their adverse impact on
mortgage-backed securities (Ex. SS); 7) a news article describing flaws in mortgage rating
methodologies (Ex. TT); 8) a news article describing a decision by Moody's and S&P to
downgrade hundreds of mortgage-backed securities (Ex. UU); 9) a news article describing a suit
14
BEAR STEARNS
All exhibits referenced in this Opinion and Order are attached to the Declaration
of Theo J. Robins ("Robins Decl.") accompanying Defendants' motion to
dismiss. (Docket entry no. 139.)
MTDTAC.wPD
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24
against EMC for violating consumer protection laws by, among other things, posting mortgage
payments inaccurately (Ex. VV); 10) a report on the impact of widespread appraisal fraud (Ex.
XX); and 11) two lawsuits alleging that Countrywide violated Truth in Lending laws and
misrepresented the quality of its mortgage investments. (Exs. MMM, NNN.) In addition,
Defendants cite to events and reports that Plaintiffs referenced in the earlier complaints but
"sanitized" from the TAC
specifically, a news report that two Bear Steams hedge funds that
invested in mortgage-backed securities had filed for bankruptcy in July 2007 (Original
Compl.~
49), and a news report that Moody's had revised its model for evaluating subprime mortgages in
April 2007. (FAC ~ 180.)
Defendants' own motion papers persuasively explain why a complaint assembled
from the information contained in the above exhibits would not survi ve a 12(b)(6) motion. The
bulk ofthese exhibits canvass general, industry-wide practices that are not merely "untethered to
the transactions that are the subject of [the Original] Complaint" (Defs' Memo. at 16), but are
unconnected to any of the entities that were involved in the origination, packaging, and sale of
the BSMF 2006-AR 1 trust. 15 "Allegations of industry-wide or market-wide troubles alone
15
The loans constituting the BSMF 2006-AR1 trust were originated by EMC and
BSRM. (TAC ~ 94.) The only pre-August 2007 events connected to those, or
any other business involved in that trust are (1) the suit against EMC; (2) the
collapse of two Bear Steams hedge funds in July 2007; and (3) the Rating
Agencies' reassessments oftheir rating models. None constitute facts that would
enable a plaintiff to meet its pleading burden. The EMC suit concerned a species
oflending practices (charging improper fees and failing to post timely payments)
wholly different from those alleged in the complaint. There is no information
linking the collapse ofthe two Bear Steams hedge funds to any aspect of the
BSMF 2006-ARl trust. Finally, Defendants' exhibits indicate that the Rating
Agencies acknowledged flaws in their models and began downgrading MBS
securities in the spring and summer of2007; however, those corrective steps
apparently did not affect NJ Carpenters' Certificates, which were not subjected to
BEAR STEARNS MTD TAC.wPD
VERSION 3/30/12
25
ordinarily are insufficient to state a [securities] claim." Freidus v. ING Groep N.V., 736 F.
Supp. 2d 816, 831 (S.D.N.Y. 2010); see also Yu v. State St. Corp., 686 F. Supp. 2d 369, 380
(S.D.N.Y. 2010) ("To survive a motion to dismiss, plaintiffs must allege some facts to close the
loop between the market turmoil and the accuracy of the Fund's valuations.").
More significantly, even though evidence of improprieties and irresponsible risk
taking in the MBS industry began to emerge in early 2007, there is no indication that the BSMF
2006-AR1 Certificates declined in value. Indeed, according to Defendants' chart detailing
Certificate downgrades, the earliest downgrade of any Certificate issued from the BSMF 2006
ARI trust occurred on December 14,2007, and the earliest downgrade ofa AAA-rated
Certificate (the only Certificates any Plaintiff held) from that trust occurred on June 19,2008.
(Ex. ZZ.) The fact that the Certificates retained their ratings amidst growing concerns about the
MBS industry is significant for two reasons.
First, absent a decline in the Certificates' ratings (or some other indicator of a
steep decline in the Certificates' value), it is difficult to see how a plaintiff could have plausibly
pled that the epidemic of indiscretions in the MBS industry had infected his or her Certificates.
A complaint couched in nothing more than the sweepingly general allegations contained in
Defendants' exhibits would almost certainly "stop[] short of the line between possibility and
plausibility of entitlement to relief." Ashcroft v. Iqbal, 129 S. Ct. 1937, 1949 (2009) (quotations
omitted); Freidus v. ING Groep N.V., 736 F. Supp. 2d at 831; Yu v. State St. Corp., 686 F. Supp.
2d at 380. Second, absent a showing that the Certificates' value had diminished by August 2007,
NJ Carpenters could not have stated a claim supportive of statutory damages. While a complaint
any downgrades until the following year.
BEAR STEARNS MTD TAC WPD
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26
"is not required to plead damages under Section 11, it fails to state a claim if the allegations of
the complaint do not support any conceivable statutory damages." NECA-IBEW Health &
Welfare Fund v. Goldman, Sachs & Co., 743 F. Supp. 2d 288,290-91 (S.D.N.Y. 2010); see also
In re Initial Public Offering Securities Litigation, 241 F. Supp. 2d 281, 347 (S.D.N.Y. 2003)
(dismissing claims for failure to allege cognizable damages where plaintiffs sold securities for an
amount in excess of the offering price).
Because Defcndants have tailed to show that NJ Carpenters could have pled facts
sufficient to survive a 12(b)(6) motion in August 2007, the Court concludes that the Original
Complaint was timely.
2.
Timeliness of Subsequent Complaints
Defendants also allege that the F AC (filed May 15, 2009) and the Pension Trust
Complaint (filed July 9, 2009) are untimely. Defendants marshal publicly available sources that
rcfer to missteps, misfortunes, and malefactions of corporations involved in the packaging and
sale of the securities at issue here, including: 1) two complaints from May and July 2007 against
Countrywide for violating Truth in Lending laws and misrepresenting the quality of its mortgage
investmcnts (Ex. MMM, NNN); 2) the collapse of Bear Steams in March 2008 (FAC ~ 105); and
3) AHM's worsening tinancial condition as a result of its investment in subprime mortgages.
(Ex. NN.) In addition, Defendants catalogue more than 900 downgrades to investment grade
Certificates issued by the 13 trusts added after the Original Complaint. (See Defs' Memo. at 37;
Ex. ZZ.)
It is not clear that a complaint whose allegations were supported solely by this
body of information would survive a Rule 12(b)( 6) motion. The two complaints against
BEAR STEARNS MTDTAC.wPD
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27
Countrywide detail conduct that is only tangentially related to the TAC' s allegations concerning
underwriting practices and improper appraisals. (See Ex. MMM (suit alleging deceitful lending
practices); Ex. NNN (suit alleging insider trading, artificial inflation of stock prices, and
misrepresentations concerning stock prospects». 16 As for the collapse of Bear Stearns, there is
nothing in Defendants' submission suggesting that Plaintiffs knew or should have known by May
or July of 2008 that their securities were tainted by the irresponsible practices that drove Bear
Stearns into bankruptcy; the same holds for the collapse of AHM. It is far from clear that
speculative attempts to link those events to the securities in question would have survived a
motion to dismiss.
Defendants' treatment of the downgrade history is equally unpersausive. As an
initial matter, downgrades alone do not convey facts sufficient to plead a Section 11 or 12(a)(2)
claim. As Defendants point out in their papers, a downgrade can occur for any number of
reasons
for example, a recession or a collapse in housing prices - that are unrelated to the
problematic underwriting and quality control practices that fonn the basis of each complaint. Cf.
Public Employees' Retirement System of Mississippi v. Goldman Sachs Group, Inc., No. 09 CV
lll0(HB), 2011 WL 135821, at *8 (S.D.N.Y. Jan. 12,2011) (while minor downgrades and
negative watches "may have been an indication that the Certificates were perfonning badly,
[they] do[] not constitute triggering infonnation [that] relate[s] directly to the misrepresentations
and omissions that the Plaintiff alleges") (internal quotations omitted).
16
BEAR STEARNS
Moreover, these two lawsuits were not discussed in any of the press articles
submitted by Defendants and there is no indication that they received wide press
coverage. Plaintiffs cannot be charged with knowledge of every suit filed against
an originator. See Staehr v. Hartford Financial Services Group, Inc., 547 F.3d
406,418 (2d Cir. 2008).
MTD TACwPD
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Defendants' downgrade figure is also severely misleading. First, it characterizes
hundreds of "negative watches" as downgrades even though the latter do not constitute rating
changes.17 Cf. In re Morgan Stanley Mortg. Pass-Through Certificates Litigation,
n_
F. Supp.
2d ---, No. 09 Civ. 2l37(LTS), 2011 WL 4089580, at *12-13 (S.D.N.Y. Sept. 15,2011)
(declining to find inquiry notice based on "negative watches" where securities maintained their
investment-grade rating); Public Employees' Retirement System of Mississippi v. Merrill Lynch
& Co. Inc., 714 F. Supp. 2d 475,479-80 (S.D.N.Y. 2010); New Jersey Carpenters Vacation Fund
v. Royal Bank of Scotland Group, PLC, 720 F. Supp. 2d 254, 267 (S.D.N.Y. 2010). Second,
Defendants' figure includes as many as nine months oflegally irrelevant downgrades that
occurred less than a year prior to the filing of the relevant complaint. 18 Third, Defendants arrive
at their downgrade count primarily by itemizing downgrades to the most subordinate tranches,
which exist to absorb losses to the underlying collateral and protect the cash flow of higher-rated
Certificates. (See PIs' Opp. at 36.) It bears emphasis that Plaintiffs purchased exclusively from
the AAA-rated tranches. When Defendants' chart is re-examined with a focus on the tranches
from which Plaintiffs purchased their securities, the following picture emerges: in the year prior
17
Plaintiffs explain - and Defendants do not dispute that a negative watch is not a
downgrade, but "merely indicates that the rating agency is putting the issuer on
notice that it is being reviewed closely. At the close of the review period, the
rating agency removes the issuer (or issue) from watch with either its old rating
intact or a new rating assigned." (PIs' Opp. at 35-36; see also TAC ~ 42.)
18
For example, Defendants tabulates 112 downgrades to investment grade BSMFT
2006-AR5 Certificates from April 2008 to February 19,2009 (Defs' Memo. at 37,
citing Exs. BBB and ZZ.) As the complaint listing that offering was filed on May
15, 2009, only six weeks of those downgrades are germane to the statute of
limitations inquiry.
BEAR STEARNS MTD TAe. WPD
VERSION 31301] 2
29
to being listed in a complaint, only one trust had AAA-rated tranches that were downgraded;19
five trusts had AAA-rated tranches that were subject to scattered negative watches (Le., from
AAA to AAA *- or Aaa to Aaa*_);20 the AAA-rated tranches from the remaining seven offerings
retained their AAA ratings unblemished. 21 In sum, a year prior to the filing ofthe operative
complaint, the securities that Plaintiffs held were (at least as judged by the ratings) seemingly
untarnished by the problems that plagued the MBS industry as a whole. As with the Original
Complaint, it is far from clear that Plaintiffs could have adequately pled, one year prior to the
filing of the operative complaint, that the Offering Documents for their securities contained
material misrepresentations and omissions, or that they suffered cognizable injuries.
Accordingly, the Court finds that the subsequent complaints were timely filed.
B.
Statute of Repose
Defendants further argue that Plaintiffs' claims are untimely to the extent they
were first asserted by actual buyers from offerings more than three years after the offering date.
The Court recently addressed this very argument in In re Morgan Stanley Mortg. Pass-Through
Certificates Litigation, --- F. Supp. 2d ---, No. 09 Civ. 2137(LTS), 2011 WL 4089580 (S.D.N.Y.
Sept. 15, 2011). That decision concluded that, under the tolling rule announced in American
19
That trust was BSABS 2007-HE3. Moody's downgraded three Aaa-rated tranches
from Aaa to Aa 1. (Ex. ZZ.) Whatever significance this minor downgrade might
have had, it is mitigated by the fact that those tranches retained their AAA S&P
rating until February 27, 2009. (J.dJ
:!()
The five trusts are BALTA 2006-6, BALTA 2006-8, BALTA 2007-1, BSARM
2006-4, SAMJ 2006-AR5. (Ex. ZZ.)
21
The seven trusts are are SAMI 2006-AR6, SAMI 2006-AR7, BSABS 2007-HE4,
BSMF 2006-AR4, BSMF 2006-AR5, BSARM 2007-1, and BSARM 2007-3.
(Ex. ZZ.)
BEAR STEARNS MTD TAC. WPD
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Pipe & Construction Co. v. Utah, 414 U.S. 538 (1974), the commencement of the original class
action tolled the statute of repose for all members of the putative class, even where the original
named plaintiffs lacked standing to bring some of the claims. In re Morgan Stanley, 2011 WL
4089580, at *14-19. Here, named Plaintiffs had asserted claims on behalf of purchasers of
Certificates from each of the 14 trusts as of July 19,2009, Pension Trust Complaint
less than
three years after each of the offerings' issuance dates. 22 Accordingly, none of the claims is
barred by the statute of repose. Because the Court finds that the statute of repose was tolled
under American Pipe, it need not decide whether relation back could save the later claims.
II.
Pleading Actionable Misrepresentations/Omissions
The Court will address Defendants' arguments that Plaintiffs have failed to state
viable claims of misrepresentations or omissions as they relate to the three categories of
allegations
A.
underwriting standards, appraisals, and investment ratings
made in the TAC.
Misrepresentations and Omissions Regarding Underwriting Standards
Defendants first contend that Plaintiffs fail to meet their pleading burden under
Twombly and Iqbal by failing to proffer facts linking the alleged disregard for underwriting
standards with the decline in the Certificates' value. This contention is without merit. The
Complaint is replete with public reports and detailed statements by numerous confidential
witnesses 23 that describe the systematic disregard of underwriting standards by the specific
22
The FAC (filed May 15, 2009) asserted claims on behalf of purchasers of
securities from eight Offerings, and the Pension Trust Complaint (filed July 9,
2009) asserted claims on behalf of purchasers of securities from the remaining six
Offerings.
23
Defendants' attack on the use of confidential witnesses in the T AC is unavailing.
It is well-established that confidential sources may be relied upon in a complaint
so long as plaintiffs also rely on "other facts [that] provide an adequate basis for
BEAR STEARNS
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parties involved in the origination of the loans populating the offerings, as well a failure to
conduct proper due diligence by the depositors. (T AC ~~r56-67, 87-93, 98-99, 105-25, 131-40,
148-55, 160-65.)24 The facts alleged in the TAC are sufficient to support a reasonable inference
believing" the allegations in the complaint. Novak v. Kasaks, 216 F.3d 300,
313-14 (2d Cir. 2000); see also Glaser v. The9, Ltd., 772 F. Supp. 2d 573, 590
(S.D.N.Y. 2011) ("Novak removed a requirement that confidential sources be
named when corroborative facts exist."). The TAC contains a multitude of
corroborative facts that reinforce the claims made by the confidential sources. In
any event, "even if personal sources must be identified, there is no requirement
that they be named, provided they are described in the complaint with sufficient
particularity to support the probability that a person in the position occupied by
the source would possess the information alleged." Novak, 216 F.3d at 313-14.
Here, every confidential witness (with the sole exception of CW9 (see T AC '1
148» is identified by job title, office location, and duration of employment.
24
Defendants also argue that the sections of the T AC that rely on allegations put
forth in other litigants' complaints should be disregarded or stricken. The Court
disagrees. The authority on which Defendants anchor this argument emanates
from Lipsky v. Commonwealth United Corp., 551 F.2d 887 (2d Cir. 1976), which
held that a plaintiffs pleadings could not reference a complaint that resulted in a
consent decree. The Circuit's rationale was that the consent decree was
inadmissible under Fed. R. Evid. 410; thus, the plaintiff could not derive any
evidentiary benefit from the complaint that proceeded it. Id. at 893. The Circuit
reiterated the strong presumption against striking portions of the pleadings and
cautioned that its holding was limited to "the facts of this case." Id. Nonetheless,
some courts in this district have stretched the holding in Lipsky to mean that any
portion of a pleading that relies on unadjudicated allegations in another complaint
is immaterial under Rule 12(f). See, e.g., RSM Prod. Corp. v. Fridman, 643 F.
Supp. 2d 382, 403 (S.D.N.Y. 2009). Neither Circuit precedent nor logic supports
such an absolute rule. Not all complaints are created equal while some barely
satisfy the pleading requirement, others are replete with detailed faetual
information of obvious relevance to the case at hand. To take but one example,
the Ambac complaint cited in the TAC (~ 87), recounts a detailed study by Ambac
Assurance Corp. that revealed "widespread breaches of representations in almost
80 percent of the documents" supporting the loans it reviewed. It makes little
sense to say that information from such a study which the TAC could
unquestionably rely on if it were mentioned in a news clipping or public testimony
is immaterial simply because it is conveyed in an unadjudicated complaint. The
other complaints on which the T AC relies are of a similar character. Accordingly,
the Court will not strike references to them from the T AC. In any event, nothing
BEAR STEAR:-JS MTD T AC. WPD
YERSIO:-J 3/30/12
32
that the loan pools were inferior in credit quality to loans that would have been selected had
Defendants' originators employed the sort of underwriting standards described in the Offering
Documents.
Defendants next contend that the Offering Documents contained "robust risk
disclosures" (Defs' Memo. at 15), including disclaimers that a downturn in the housing market
could adversely affect the value of Plaintiffs' Certificates, and that the originators would grant
exceptions from stated underwriting guidelines. These warnings, Defendants contend, "bespoke
caution." Under the "bespeaks caution" doctrine, "[c]ertain alleged misrepresentations in a stock
offering are immaterial as a matter of law because it cannot be said that any reasonable investor
could consider them important in light of adequate cautionary language set out in the same
offering." See Halperin v. eBanker USA.com, Inc., 295 F.3d 352,357 (2d Cif. 2002).
The "bespeaks caution" doctrine is inapposite to the market-downturn disclosure.
The doctrine only applies where a plaintiff alleges that the defendant made misleading
statements about the possibility that future, unforeseen events could undermine an investment's
value; it does not apply to cases, such as this, where a plaintiff alleges omissions or
misrepresentations of historical fact
i.e., that the underwriting standards were followed.
Stolz Family Partnership L.P. v. Daum, 355 F.3d 92,97 (2d Cif. 2004). The doctrine is also
inapposite to the disclaimer that exceptions had been granted. For the "bespeaks caution"
doctrine to shield a seller from liability, the "cautionary language ... must relate directly to that
by which the plaintiffs claim to have been misled." Hunt v. Alliance N. Am. Gov't Income
rides on how much weight the Court gives the sections of the T AC that rely on
other parties' pleadings. Even if the Court struck every such paragraph, the TAC
would still contain sufficient factual allegations to plead claims under Sections 11
and 12(a)(2).
BEAR STEARNS :VITD TAC.WPD
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3/30/1"
33
Trust, Inc., 159 FJd 723, 729 (2d Cir. 1998). No language in the Offering Documents disclosed,
for example, that the originators had systematically violated their own stated underwriting
standards, that exceptions were improperly granted, or that Bear Steams had directed its thirdparty due diligence firms to keep non-conforming loans in the Offering pools. (TAC '[~55-67.)25
Accordingly, the Court finds that the TAC properly states a claim as to the
underwriting allegations.
B.
Misrepresentations and Omissions Regarding Appraisals
Defendants also argue that Plaintiffs' appraisal-related allegations fail to state a
claim. According to the allegations in the T AC, the Offering Documents represented that the
property appraisals conformed to the Uniform Standard of Professional Appraisal Practice
("USP AP") and were conducted by "qualified independent appraisers." (TAC ~~ 80, 84, 96,
102.) In fact, originators systematically disregarded their stated appraisal standards, and strongarmed appraisers to inflate property values. (See, e.g., id. '[~ 58,109-10,121,154,190.) In
moving to dismiss the appraisal-related claims, Defendants rely principally on Tsereteli v.
Residential Asset Securitization Trust 2006-A8, 692 F. Supp. 2d 387 (S.D.N.Y. 2010), which
held that property appraisals and corresponding LTV ratios are "subjective opinion[s]" that are
"actionable under the Securities Act only if the [plaintiff] alleges that the speaker did not truly
have the opinion at the time it was made." Id. at 393-94. Defendants argue that the appraisal
25
BEAR STEAR!,;S MTD
Defendants also argue that an unforeseen event - namely, the housing collapse
and not the abandonment of underwriting standards caused the Certificates to
decline in value. However, "any decline in value is presumed to be caused by the
misrepresentation in the registration statement." McMahan & Co. v. Wherehouse
Entertainment, Inc., 65 F.3d 1044, 1048 (2d Cir. 1995). If Defendants wish to
challenge that presumption they may present evidence at a later stage establishing
an altemati ve cause of loss. Id.
lAC.wPJ)
VERSION 3/30112
34
claims fail beeause the TAC does not allege that any Defendants were involved in appraising
properties or knew that the loans underlying the Certifieates were based on "inflated appraisals."
Defendants' argument misses the mark. Plaintiffs do not merely allege that the
appraisal amounts were incorrect; they allege that the appraisals were not conducted in
accordance with the industry standards identified in the Offering Documents. The former
allegation differs from the latter in the same way the statement "the cook baked a delicious cake"
differs from the statement "the cook followed the cake recipe on the box": the former is opinion,
the latter an assertion of fact. Likewise, the conclusion that a house is worth $500,000 may be a
statement of subjective opinion, but the assurance that the $500,000 figure was reached in
accordance with a body of professional appraisal standards is a statement of verifiable fact.
Second, to the extent the TAC does bring a claim based on the inaccuracy of the
appraisal values - as opposed to appraisal methodology used
Plaintiffs have pled facts
supporting an inference that these opinions were not only objectively false, but also subjectively
false. Because the appraisal "opinions" were expressed by both the originators and Bear Steams
(by incorporating the originators' representations into the Offering Documents), Plaintiffs can
state a claim by showing that either one disbelieved the appraisal amounts. Cf. In re Twinlab
Corp. Sec. Litig., 103 F. Supp. 2d 193,203 (E.D.N.Y. 2000) (liability under '33 Act may attach
even for innocent misrepresentation); Plumbers' Union Local No. 12 Pension Fund v. Nomura
Asset Acceptance Corp., 632 F.3d 762, 775 (1 st Cir. 2011) (liability may attach for accurately
conveying ratings that are false and misleading). The T AC alleges that, during the due diligence
stage, Clayton submitted reports to Bear Steams which revealed that many of the loans contained
no appraisals at all. (Compl.
BEAR STEARNS
MTD TACwPD
~
58.) The TAC also alleges that the originators pressured their
VERSION 3/30112
35
employees to inflate appraisal values. (Id.';'; 109-10, 121, 154.) These allegations suffice to
support an inference that Bear Steams and the originators did not believe that the appraisal
numbers were accurate.
Accordingly, the TAC's allegations that the Offering Documents failed to
disclose the allegedly rampant violation of appraisal standards is sufficient to state a claim.
C.
Misrepresentations and Omissions Regarding Investment Ratings
Defendants further contend that the TAC fails to state a claim regarding the
investment ratings. 26 The Offering Documents stated that the Certificates' ratings:
address the likelihood of the receipt by certificateholders of all distributions to
which the certificateholders are entitled. These ratings address the structural, legal
and issuer-related aspects associated with the certificates and notes, the nature of
the underlying mortgage assets and the credit quality of the guarantor, if any.
(TAC,n 84.) The Offering Documents also stated that "[i]t is a condition to the issuance of each
class of Offered Certificates that it receives at least the ratings set forth [in the prospectus
supplement] from S&P and Moody's." (Id.) The TAC alleges that the Offering Documents
failed to disclose that the ratings process relied on inaccurate mortgage loan data, stale
delinquency, and outdated models, and that the ratings process was compromised by conflicts of
interest. While the TAC does not allege that the Offering Documents misstated the ratings that
26
Defendants' first argument - that, under SEC Rule 436(g), the ratings cannot be
considered part of the Registration Statement and, thus, cannot be a basis for
liability under Section 11 - is meritless. See SEC Rule 436(g)(I), 17 C.F.R.
§ 230.436(g)( 1) ("the security rating assigned ... by a nationally recognized
statistical rating organization ... shall not be considered a part of the registration
statement prepared or certified by a person within the meaning of Sections 7 and
11 of the Act. "). Rule 436(g) was intended to shield the Rating Agencies, not the
issuers who incorporate the ratings, from civil liability under Section 11. See
SEC Release No. 33-6336, 46 Fed. Reg. 42024-01, 42024 (Aug. 18, 1981). See
also Public Employees' Retirement System of Mississippi v. Merrill Lynch & Co.
Inc., 714 F. Supp. 2d 475, 481 (S.D.N.Y. 2010).
BEAR STEARNS MTD lAC. WPD
VERSION 3130112
36
the Agencies assigned to the Certificate, Plaintiffs argue that Defendants nonetheless had a duty,
under 17 C.F.R. § 230A08(a),27 to disclose flaws underlying the ratings to prevent the ratings
from being misleading to investors.
It is well-settled that investment ratings are subjective opinions and, accordingly,
only actionable where "the speaker did not truly believe the statements at the time it was made
public," see, e.g., N.J. Carpenters Health Fund v. DLJ Mortg. Capital, Inc., No. 08 Civ. 5653,
2010 WL 1473288, at *7-8 (S.D.N.Y. Mar. 29, 2010); In re IndyMac Mortg.-Backed Sec. Litig.,
718 F. Supp. 2d 495,511-12 (S.D.N.Y. 2010), or if the speaker "knowingly omits undisclosed
facts tending seriously to undermine the accuracy of the statement." Plumbers' Union Local No.
12 Pension Fund v. Nomura Asset Acceptance Corp., 632 F.3d 762, 775 (1st Cir. 2011). Here,
there are two "speakers": the agencies that rated the Certificates, and Defendants, who presented
those ratings to investors in the Offerings Documents. Thus, Plaintiffs can state a claim by
pleading that the Rating Agencies or Defendants did not believe that the ratings accurately
reflected the quality of the securities. As to the former, Plaintiffs do not need to plead that
Defendants were aware that the Rating Agencies believed the ratings to be false or misleading.
See, e.g., In re Twinlab Corp. Sec. Litig., 103 F. Supp. 2d 193,203 (E.D.N.Y. 2000) ("the
defendant's knowledge of the misrepresentations is not an element of a ['33 Act] claim; indeed, a
defendant can be held liable even for an innocent misstatement."); see also Plumbers' Union, 632
F.3d at 775 (liability may attach for accurately conveying false or misleading ratings).
27
Section 230A08(a) provides in relevant part that: "In addition to the information
expressly required to be included in a registration statement, there shall be added
such further material information, if any, as may be necessary to make the
required statements, in the light of the circumstances under which they are made,
not misleading."
!:lEAR STEARNS MTD TAC WPD
VERSIO:-< 31301I 2
37
Plaintiffs have not, however, adequately pled a claim based on the theory that the
Rating Agencies disbelieved their ratings. The TAC includes excerpts of reports from 2007 and
2008 in which Moody's and S& P personnel admitted that, in hindsight, their rating models and
procedures were flawed. (See, e.g., TAC ~187 (quoting Moody's Managing Director as saying:
"There is a lot of fraud that's involved there, things that we didn't see ... We're sort of retooling
those to make sure that we capture a lot of the things that we relied on in the past that we can't
rely on, on a going forward basis."); id.
~
193 (quoting fonner S&P Managing Director as
saying: "[E]vents have demonstrated that the historical data we used and the assumptions we
made significantly underestimated the severity of what has actually occurred.")). These
retrospective remarks are insufficient to support an inference that the Rating Agencies
disbelieved the ratings at or before the time of the offerings. Plumbers' Union, 632 F.3d at 775.
However, Plaintiffs also argue that Defendants could not reasonably have
believed that the ratings were accurate because "the infonnation Bear Steams provided to the
Rating Agencies regarding the loans underlying the pools at issue was faulty and inaccurate."
(PIs' Opp. at 22.) Unlike Plaintitfs' allegations about the conflict ofinterese 8 and flawed data
models/ 9 this one potentially has merit. However, the exact contours ofthis allegation are
28
See e.g .. In re Morgan Stanley Mortg. Pass-Through Certificates Litigation, --- F.
Supp. 2d ---, No. 09 Civ. 2137(LTS), 2011 WL 4089580, at *21 (S.D.N.Y. Sept.
15, 2011 ) (dismissing claims based on conflict of interest between the MBS
issuers and Rating Agencies); In re IndyMac Mortgage-Backed Securities
Litigation, 718 F. Supp. 2d 495,512 (S.D.N.Y. 2010) ("there was no duty to
disclose the ratings agencies' conflicts of interest, as the infonnation was known
widely").
29
See, e.g., Plumbers' Union, 632 F.3d at 775 ("ratings were not false or misleading
because rating agencies should have been using better methods and data");
Tsereteli, 692 F. Supp. 2d at 395 (issuers had no obligation to disclose the Rating
Agencies' models and methodologies).
BEAR STEARNS MTDTAC'.wPD
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3i30112
38
obscure. It is unclear what the faulty loan information consisted of. It is also unclear when, in
Plaintiffs view, Bear Stearns became aware that the Rating Agencies had relied on inaccurate
information in assigning the Certificate ratings. The TAC recounts the following chronology:
prior to making bulk loan purchases, the originators sent Bear Stearns a spreadsheet containing
detailed information about the loans, which Bear Stearns passed to the Rating Agencies. (TAC
~'152-54.)
The Agencies ran the spreadsheet through their models and determined the appropriate
bid price. (Id.) Once the originator accepted the bid, Bear Stearns retained third-party duediligence firms, ostensibly to conduct a more thorough review of the loan pools.
~ ~~
55-56.)
According to the TAC, it was during the due-diligence process that Bear Stearns first discovered
(and ignored) the fact that loans were missing critical documentation or failed to comply with
underwriting standards. (Id.
~'r
56-60). The narrative stops there - the TAC does not reveal at
what stage the Agencies rated the Certificates, nor what information the Agencies relied upon to
arrive at those ratings.
This missing information is crucial. If Bear Stearns knowingly fed incomplete or
inaccurate information to the Rating Agencies, or discovered after the Agencies rated the
Certificates that they did so based on defective loan data, it follows that Bear Stearns could not
have reasonably believed that the ratings accurately reflected the Certificates' risk. In either
case, the ratings' unqualified reproduction in the Offering Documents would constitute an
actionable misrepresentation and omission. 30 Accordingly, the Court will grant, without
30
Bf~~R
Defendants argue that even if the ratings were actionable misrepresentations,
the risk disclosures in the Offering Documents shield them from liability. (See
~ SAMI 2006-AR5 Prosp. Supp. at S-22, Ex. L to Robins Decl. ("[t]he ratings
of the offered certificates by the rating agencies may be lowered following the
initial issuance thereof as a result of losses on the mortgage loans ... in excess of
the levels contemplated by the rating agencies at the time of their initial rating
STEARNS MTD TAC\\'PD
VERSION 3130/12
39
prejudice, the motion to dismiss claims based on the securities' ratings. Plaintiffs will be
granted leave to amend the complaint to plead facts demonstrating that Bear Stearns was aware,
when it released the Offering Documents, that the Certificates' ratings were based on inaccurate
or incomplete information. 3 ]
III.
Section 15 Claim
Defendants move to dismiss all claims against the Individual Defendants. In
order to establish a prima facie Section 15 claim, a plaintiff must show (1) control, and (2) an
underlying violation of Section 11 or Section 12(a)(2). In re Lehman Bros. Mortgage-Backed
Securities Litigation, 650 F.3d 167 (2d Cif. 2011). As explained above, the complaint's
allegations are sufficient to state claims for primary violations of Sections 11 and 12. Thus, the
remaining relevant question is whether Plaintiffs have adequately pled control.
analysis.").) They also argue that the ratings allegations constitute impermissible
"fraud by hindsight" because Plaintiffs failed to plead facts demonstrating that the
downgrades resulted from the disclosure of information regarding improper
lending practices opposed to the housing market collapse. Neither argument is
availing. The TAC suggests that Plaintiffs could plead facts sufficient to support
an inference that the widespread violation of underwriting standards left the
Certificates more vulnerable to economic shocks and that the inaccurate loan
information relied upon in assigning the ratings resulted in assessments that
significantly understated the risk that the underlying loans would experience high
rates of delinquency or default. The boilerplate disclaimers notified Plaintiffs of
the prospective risk that unforeseen events could cause rating downgrades; they
did not disclose that the ratings in the Offering Documents were tainted by their
reliance on deficient loan data. See Rombach v. Chang, 355 F.3d 164, 173 (2d
Cif. 2004) ("Cautionary words about future risk cannot insulate from liability the
failure to disclose that the risk has [already] transpired.").
3]
BEAR STEARNS
In its order denying without prejudice Defendants' motion to dismiss the SAC,
the Court granted Plaintiffs leave to file a final amended complaint. (See docket
entry no. 133) However, given that the Court's order did not address Defendants'
argumentation about the Certificate ratings, the Court deems it appropriate to give
Plaintiffs another opportunity to amend the complaint.
MTD TAC.wPD
VERSION
3/30112
40
The Second Circuit has defined control as "the power to direct or cause the
direction of the management and policies of [the primary violators], whether through the
ownership of voting securities, by contract, or othenvise." In re Lehman Bros., 650 F.3d at 185
(quoting SEC v. FirstJerseySec., Inc., 101 F.3d 1450, 1472-73 (2dCir. 1996». Whilethe
Second Circuit has yet to address the question of whether a plaintiff bringing a Section 15 claim
must allege "culpable participation," a majority ofjudges in this District
undersigned
including the
have held such an allegation is not required. Plumbers' & Pipefitters' Local No.
562 Supplemental Plan & Trust v. J.P. Morgan Acceptance Corp. I, No. 08 Civ. 1713(ERK),
2012 WL 601448, at *20-21 (E.D.N.Y. Feb. 23, 2012); In re Deutsche Bank AG Securities
Litigation, No. 09 Civ. 1714(DAB), 2011 WL 3664407, at *11 (S.D.N.Y. Aug. 19,2011); In re
Refco, Inc. Securities Litigation, 503 F. Supp. 2d 611,637 n.24 (S.D.N.Y. 2007); American
High-Income Trust v. Alliedsignal, 329 F. Supp. 2d 534, 549 (S.D.N.Y. 2004). Here, Plaintiffs
have alleged that Individual Defendants are (I) officers or directors of the Depositors who (2)
each signed one or both of the Registration Statements at issue. These allegations satisfy
Plaintiffs' obligation to plead control. See, e.g., In re Flag Telecom Holdings, Ltd. Sec. Litig.,
352 F. Supp. 2d 429, 457 (S.D.N.Y. 2005) (officers or directors of defendant corporation who
signed the Registration Statement exercised control), abrogated on other grounds, 574 F.3d 29
(2d Cir. 2009); In re Philip Servs. Corp. Sec. Litig., 383 F. Supp. 2d 463, 485 (S.D.N.Y. 2004)
(same).
Accordingly, the Court finds that Plaintiffs have adequately pled a Section 15
claim.
IV.
Pleading of Cognizable Injury
Plaintiffs allege that the value of the Certificates at issue has diminished greatly
BEAR
S rTARNS 'vlTD lAC WPD
VERS rON 3130112
41
since their original offering, as has the price at which Plaintiffs and other members of the Class
could dispose of them. Plaintiffs have also realized losses by disposing of many of the
Certificates at as little as one-third of their purchase price. The decline in value and the losses
that Plaintiffs suffered as a result of the sale oftheir Certificates are alleged with specificity.32
Defendants contend that the Offering Documents disclosed the risk that the
Certificates could diminish in value, and that purchasers might be forced to sell them at a loss.
In light of these disclosures, Defendants argue that Plaintiffs can only show cognizable injury if
they demonstrate that pass-through payments were missed. This argument is essentially the
same one Defendants made in support of their contention that Plaintiffs had failed to state a
claim based on underwriting practices, and it fails for the same reason
the Offering
Documents' generic disclosures about market fluctuations did not advise purchasers that the
Certificates' value would decline due to noncompliance with appraisal and underwriting
guidelines. Plaintiffs' allegations regarding the Certificates' decline in value and their resale at a
loss identify legally cognizable injuries. See In re Morgan Stanley, 2011 WL 4089580, at * 19
20; New Jersey Carpenters Health Fund v. DLJ Mortg. Capital, Inc., 08 Civ. 5653(PAC), 2010
WL 1473288, at *4-5 (S.D.N.Y. Mar. 29, 2010); In re Countrywide Financial Securities
Litigation, 588 F. Supp. 2d 1132, 1169-70 (C.D. Cal. 2008) (holding that a complaint is
sufficient with respect to damages if a plaintiff "allege[ s] facts creating the reasonable inference
that the value of the securities on the presumptive damages date - that is, either the value at the
time plaintiff sold the securities; or the value at the time of suit, if the plaintiff still holds the
32
BEAR STEARNS
Defendants incorrectly claim that Plaintiffs fail to specifY damages for SAMI
2006-AR5 and BALTA 2007-1. In fact, the T AC states quite clearly that the
values of those Certificates dropped from approximately $1 to $0.3586 and
$0.3817, respectively. (TAC ~ 19, 21.)
MTD TAC.WPD
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42
securities
is less than the purchase price"}.
Accordingly, the Court denies Defendants' motion to the extent it seeks to
dismiss the T AC for failure to plead a legally cognizable injury.
V.
The "Sole Remedy" Provision
In each securitization, the mortgage loan seller made representations and
warranties in the mortgage loan purchase agreement ("MLP A") regarding each loan, including
representations that "at the time of origination, each Mortgaged Property was the subject of an
appraisal which conformed to the underwriting requirements of the originator of the Mortgage
Loan" and that "each Mortgage Loan was originated in accordance with the underwriting
guidelines of the related originator." (See, ~ B ALTA 2006-6 MLP A, § 7, attached as Ex. KK
to the Robins Decl.) The MLP A further provided that:
The obligations of [the Mortgage Loan Seller] to cure, purchase or substitute a
qualifYing Substitute Mortgage Loan shall constitute the Purchaser's, the
Trustee's and the Certificateholder's sole and exclusive remedies under this
Agreement or otherwise respecting a breach of representations or warranties
hereunder with respect to the Mortgage Loans ....
(ld. § 7(xxvii).) The Prospectus for BALTA 2006-6 recited the general content of certain
representations that each mortgagc seller made, described the seller's obligation under the
MLP A to cure violations of the representations, or repurchase or substitute loans whose
characteristics are inconsistent with the representations, and described the obligations of the
master servicer or trustee in connection with the enforcement of the seller's obligations under the
MLPA; the Prospectus provides that the obligations described "will constitute the sole remedies
available to securityholders or the trustee for a breach of any representation by a Seller or for any
other event giving rise to the obligations as described above." (See BALTA 2006-6 Prosp. at 20
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25, attached as Ex. G to the Robins Decl.)
Relying on Lone Star Fund V (U.S,), L.P. v. Barclays Bank PLC, 594 F.3d 383
(5th Cif. 2010), Defendants argue that, even if Plaintiffs have adequately pled material
misrepresentations or omissions, the sole remedy for breach of any representations or warranties
is for the seller to repurchase or replace the particular non-conforming loans.
Defendants' reliance on Lone Star is misplaced. There, the plaintiffs discovered a
number of delinquent mortgages in the loan pools and brought a misrepresentation claim based
specifically on the breach of a representation in a prospectus supplement that there were "no
delinquent loans." 594 F.3d 383, 388. The prospectus supplement contained a "sole remedy"
provision, similar to that in the BALTA 2006-6 documentation, providing that the defendant
would "substitute or repurchase" delinquent loans. The Fifth Circuit affirmed the dismissal of
the claim, holding that the plaintiffs could not state a misrepresentation claim based on the
limited number of delinquencies that had been identified because the defendant never
represented that the pools were "absolutely free" of delinquent mortgages. Id. at 388. To the
contrary, the repurchase and substitution clause amounted to an implicit acknowledgment that
some amount of delinquency was unavoidable, thereby qualifying the defendant's representation
that there were "no delinquent loans." Id. at 390. 33 The Fifth Circuit did not rule, as Defendants
here suggest, that their remedies would still be limited to repurchase or substitution even if
33
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As the Fifth Circuit noted: "[There are] difficulties ... investigating the
underlying residential mortgages. Even the best due diligence may overlook
problems. A mortgage may become delinquent from a single missed payment.
Some of the loans might fall into delinquency during the pendency of the
transactions leading to an investor's purchases. Because mistakes are inevitable,
both seller and purchaser are protected by a promise that the mortgage pools will
be free from later-discovered delinquent mortgages [by including the repurchase
and substitute clause]." Id. at 388.
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plaintiffs had shown a misrepresentation.
Nor are the claims in the instant case as limited as those in Lone Star. Here,
Plaintiffs point not only to seller representations as to the confonnity of specific loans, but to
representations in the Registration Statement and other Offering Documents concerning the
underwriting and appraisal practices that were employed in constituting the pools. Rather than
claiming a limited number of deviations from the underwriting and appraisal standards, Plaintiffs
claim that the representations were belied by systemic noncompliance. While the "sole remedy"
clause could be read as an acknowledgment of occasional underwriting violations, it cannot be
read as an acknowledgment of the pandemic of violations that Plaintiffs allege. See City of Ann
Arbor Employees' Retirement System v. Citigroup Mortg. Loan Trust Inc., 08 No. 1418(LDW),
2010 WL 6617866, at *7 (E.D.N.Y. Dec. 23,2010) (distinguishing Lone Star on the same
grounds); Emps. Ret. Sys. of the Gov't ofthe Virgin Islands v. J.P. Morgan Chase & Co .. et al.,
09 Civ. 3701(JGK), 2011 WL 1796426, at *7 (S.D.N.Y. May 10,2011) (same); Boilennakers
Nat. Annuity Trust Fund v. WaMu Mortg. Pass Through Certificates, Series AR1, 748 F. Supp.
2d 1246, 1256 (W.D. Wash. 2010) (same).
Moreover, preclusion of statutory remedies through limiting language in the
Offering Documents would violate the well-established rule that "individual security holders
may not be forced to forego their rights under the federal securities laws due to a contract
provision." McMahan & Co. v. Wherehouse Entm't, Inc., 65 F.3d 1044, 1051 (2d Cir. 1995);
see also 15 U.S.C.A. § 77n (West 2010) ("Any condition, stipulation, or provision binding any
person acquiring any security to waive compliance with any provision of this subchapter ...
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shall be void.").34
Accordingly, Defendants' argument that the "sole remedy" language precludes
Plaintiffs' damages claims under Sections 11 and 12(a)(2) fails.
V.
Tranche Standing
Although not raised in their moving papers, Defendants argue in post-briefing
letters that the named Plaintiffs lack standing to bring suit on behalf of purchasers oftranches that
no named Plaintiff purchased. Defendants cite a handful of recent cases from other districts
which hold that the Securities Act explicitly limits standing to a person who acquires or purchases
a specific security, and that every tranche is a unique security because each one "has its own
certificates, credit rating, interest rate, risk profile and a unique CUSIP identifier" (Defs' Dec. 22,
2011, Letter at 2), and because each was backed by a different assortment ofloans. See Plumbers'
& Pipefitters' Local No. 562 Supplemental Plan & Trust v. J.P. Morgan Acceptance Corp. I
("Plumbers"), No. 08 Civ. 1713(ERK), 2012 WL 601448 (E.D.N.Y. Feb. 23, 2012); In re
Washington Mutual Mortgage-Backed Secs. Litig. ("WaMu"), 276 F.R.D. 658 (W.D. Wash. Oct.
21,2011); Maine State Retirement Sys. v. Countrywide Fin. Corp., No. 10 Civ. 0302(MRP), 2011
WL 4389689 (C.D. Cal. May 5, 2011). These cases also hold that named plaintiffs lack
34
Cf. Plumbers' & Pipefitters' Local No. 562 Supplemental Plan & Trust v. J.P.
Morgan Acceptance Corp. I, No. 08 Civ. 1713(ERK), 2012 WL 601448, at *19
(E.D.N.Y. Feb. 23, 2012) (declining to follow Lone Star as incompatible with the
anti-waiver provision and inconsistent with strict liability under Sections 11 and
12); Emps. Ret. System of the Gov't of the Virgin Islands v. J.P. Morgan Chase &
Co., 804 F. Supp. 2d 141, 155 (S.D.N.Y. 2011) (same); Genesee County
Employees' Retirement System v. Thornburg Mortg. Securities Trust 2006-3, --
F.Supp.2d ---, No. 09 Civ. 0300(1B), 2011 WL 5840482, at *85-87 (D.N.M. Nov.
12,2011) (same); City of Ann Arbor Emps. Ret. System v. Citigroup Mortg.
Loan Trust Inc., No. 08 Civ. 1418(LDW), 2010 WL 6617866, at *7 (E.D.N.Y.
Dec. 23, 2010) (same).
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constitutional standing to bring claims based on tranches they did not purchase because they
cannot have been injured by the decline in value of a security they did not hold.
Plaintiffs argue that they have standing to sue as to every tranche because at least
one named Plaintiff purchased from every offering; the tranches in each offering were constituted
from "a single pool of mortgages" and the Certificates from each tranche were "issued pursuant to
identical Offering Documents containing the exact statements Plaintiffs allege [are] untrue." (Pis'
Jan. 4, 2012, Letter at 5.) Thus, Plaintiffs contend, the untrue statements and omissions in the
Offering Documents regarding the quality of the underlying loan pool negatively affected all
tranches within each respective offering in a like manner. See Genesee County Employees'
Retirement System v. Thornburg Mortg. Securities Trust 2006-3, No. 09 Civ. 0300(JB), 2011 WL
5840482, at *105-06 (D.N.M. Nov. 12,2011) (rejecting tranche-based standing).
A.
Constitutional Standing
To have standing under Article III, "a plaintiff must allege an actual or threatened
injury to himself that is fairly traceable to the allegedly unlawful conduct of the defendant."
Lamar Advertising of Penn, LLC v. Town of Orchard Park, New York, 356 F.3d 365,373 (2d Cir.
2004) (citation omitted). This requirement is "no less true with respect to class actions than with
respect to other suits." Lewis v. Casey, 518 U.S. 343, 357 (1996); Central States Southeast and
Southwest Areas Health and Welfare Fund v. Merck-Medco Managed Care, L.L.c., 433 F.3d 181,
199 (2d Cir. 2005). To bring suit on behalf of a class, the named plaintiffs "must allege and show
that they personally have been injured, not that injury has been suffered by other, unidentified
members of the class to which they belong and which they purport to represent." Warth v. Seldin,
422 U. S. 490, 502 (1975). Put differently, the named plaintiff "must be a part of that class, that is,
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he must possess the same interest and suffer the same injury shared by all members of the class he
represents." Schlesinger v. Reservists Committee to Stop the War, 418 U.S. 208,216 (1974).
"[1]1' none of the named plaintiffs purporting to represent a class establishes the requisite of a case
or controversy with the defendants, none may seek relief on behalf of himself or any other
member of the class." O'Shea v. Littleton, 414 U.S. 488,494 (1974).
It is uncontested here that at least one named Plaintiff purehased securities from
every offering. It is likewise uncontested that each tranche within a given offering was constituted
from a singlc pool of mortgages, issued pursuant to the same set of Offcring Documents, each
with the same alleged misreprescntations and omissions. 35 As a result of these common
misrepresentations and omissions, named Plaintiffs assert, every tranche experienced a higher rate
of defaults and delinquencies than anticipated. Paraphrased in standing terminology, named
Plaintiffs and the members of the class have suffered an identical form of injury (a decline in their
Certificates' value) traceable to a single, allegedly unlawful act by Defendants (disseminating
Offering Documents with misrepresentations and omissions). As such, named Plaintiffs have
clearly established that they, and the purchasers of all other tranches within the offerings, are part
of the same case and controversy with Defendants. Cf. N.J. Carpenters Health Fund v.
Residential Capital, LLC, 272 F.R.D. 160, 166-67 (S.D.N.Y. 2011) ("Plaintiffs show that the
[loans] ... were originated under identical loan underwriting guidelines, and by the same four
principal loan originators ... The alleged disregard for those guidelines thus impacted all
proposed class members in the same manner, irrespective of which tranche they purchased."); see
35
There is no indication in the record that there were separate Offering Documents
for individual tranches within the various offerings.
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also Genesee County Employees' Retirement System v. Thornburg Mortg. Securities Trust 2006
No. 09 Civ. 0300(JB), 2011 WL 5840482, at *105-06 (D.N.M. Nov. 12,2011) (finding that
named plaintiffs have constitutional standing to sue with respect to tranches which they did not
purchase because "the same misrepresentations flow to all of the tranches"); In re Am. Int'l
Group, Inc., 741
Supp. 2d 511,538 (S.D.N.Y. 2010) (plaintiffs had standing to sue on behalf of
offerings from which they did not purchase because each offering was issued pursuant to shelf
registration statements that incorporated the same misstatements, which meant plaintiffs could
"trace the injury of the purchasers in each of the 101 offerings to the same underlying conduct on
the part of the defendants").
Defendants' central contention - that named Plaintiffs lack standing to sue over
losses in the tranches which they did not purchase because an investor is not injured when a
security she does not hold declines in value
reflects an excessively narrow view of the standing
requirements for a lead plaintiff. 36 That view is expressed most aptly in Maine State Retirement
Sys.
a case on which Defendants rely heavily - which held that "[ a] lead plaintiff cannot
36
Defendants' argument also appears to be based on a false premise. While the
point is not developed in Plaintiffs' briefs, the TAC pleads that a decline in value
in the more junior tranches does, in fact, decrease the value of the higher tranches.
(See T AC ~ 41 ("Of course, because the lower tranches are designed to provide a
cushion, diminished cash flow to the lower tranches results in impaired value of
the higher tranches.").) See also Pub. Emps. Ret. Sys. of Miss. v. Merrill Lynch
& Co., 277 F.R.D. 97, 108 (S.D.N.Y. 2011) ("because of the 'waterfall' method
of repaying investors in order of the quality of security purchased, false statements
in Offering Documents affect all Certificates in the Offering"). If this is correct,
purchasers of senior tranches are not merely part of the same case and controversy
as purchasers ofjunior tranches the fonner can also trace personal injury to
declines in securities they did not hold. However, because the Court finds that
there is a common case and controversy, it need not rely on this underdeveloped
aspect of the record to find that named Plaintiffs have constitutional standing.
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prosecute a class action based on claims he could not advance individually." 2011 WL 4389689
at *3 (quoting In re Wells Fargo Mortgage-Backed Certificates Litig., 712 F. Supp. 2d 958, 965
(N .D. Cal. 201 0)). If, by "claim," the court meant "a cause of action arising from a discrete case
and controversy," the statement is both correct and consistent with Plaintiffs' assertion that they
have constitutional standing to bring claims as to all tranches. However, if "claim" is supposed to
mean a cause of action based on a discrete manifestation of an injury - which is apparently what
Defendants intend
that statement is demonstrably false. Every time a lead plaintiff prosecutes
an action on behalf of a class, she brings claims based on injuries she did not personally suffer
in other words, claims she could not have advanced individually. For example, the cancer
stricken lead plaintiff in an asbestos case brings claims based on other peoples' cancers; a lead
plaintiff, paralyzed from the waist down due to a car brake malfunction, can bring product liability
claims on behalf of other people who were paralyzed from the neck down due to the same faulty
brake design. To say, as Defendants do, that named Plaintiffs cannot bring claims on behalf of
purchasers of other securities because they cannot trace an injury to securities they did not hold is
analogous to asserting that a driver who suffered injury when her brakes malfunctioned cannot sue
on behalf of purchasers of cars with the same defective brake design because a plaintiff cannot
claim to have been harmed by a car she never drove.
Defendants' assertion that named Plaintiffs lack standing over tranches they did
not purchase because each tranche differs in its particularities is no more convincing. Arguing
that named Plaintiffs lack standing because each tranche has, for example, a unique CUSIP
number and a different interest rate is akin to asserting that the hypothetical plaintiff who drove a
red two-door model lacks standing to sue on behalf of those who were driving the blue four-door
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model with the same faulty brake design. They are, in short, legally inconsequential distinctions.
Defendant has identified no substantive differences among the tranches that would warrant
treatment of the tranches as separate securities here for Article III standing purposes.
Once, as here, a named plaintiff has established that she suffered the same species
of injury as the members of the class, traceable to the same unlawful conduct by a defendant, she
has fulfilled the requirements of constitutional standing. Having satisfied Article III's standing
criteria, the dissimilarities between the tranches is an issue appropriately left to the class
certification stage. See 7AA Charles Alan Wright & Arthur R. Miller, Federal Practice and
Procedure § 1785.1, at 388-89 (2d ed. 2005) ("Representative parties who have a direct and
substantial interest have standing; the question whether they may be allowed to present claims on
behalf of others who have similar, but not identical, interests depends not on standing, but on an
assessment of typicality and adequacy of representation. ").
B.
Statutory Standing
Section 11 (a) provides that where "any part of the registration statement ...
contained an untrue statement of a material fact or omitted to state a material fact ... any person
acquiring such security" may sue. 15 U.S.c.A. § 77k(a) (West 2010). Section 12(a)(2) similarly
provides that, where an individual "offers or sells a security ... by means of a prospectus or oral
communication, which includes an untrue statement of a material fact or omits to state a material
fact," that individual will be liable to "the person purchasing such security." 15 U.S.C.A.
§ 771(a)(2) (West 2010). The dispute here centers on the meaning of the phrase "such security" in
either section. Relying on Maine State Retirement Sys., WaMu, and Plumbers, Defendants
interpret "such security" to encompass securities with certain shared attributes. 2011 WL
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4389689, at *6; 276 F.R.D. 658, 663-64; 2012 WL 601448, at *7. Defendants again point to the
rate of return, rating, interest rate, and CUSIP number as the salient attributes. In addition,
Defendants appear to argue that "such security" only encompasses Certificates that are backed by
the same mixture ofloans, but have not pointed to anything in the record illuminating the
differences in the nature or composition of the loans underlying the various tranches. Plaintiffs,
on the other hand, argue that "such security" means any security issued pursuant to an offering
document that contains an actionable misrepresentation or omission.
The text of Sections 11 and 12(a)(2) does not support Defendants' interpretation.
While the phrase "such security" has no grammatical referent in Section Il(a), the text makes
clear that the only prerequisite to filing suit is the presence of a misrepresentation or omission in
its registration statement. Section 12(a)(2) is even clearer: there, the referent of "such security" is
"a security [sold] ... by means of a prospectus or oral communication" that contains a material
misrepresentation or omission. Neither makes any reference to the characteristics of the security
outside the flaw in its offering documents. There is no mention of common rates of return,
equivalent ratings, shared interest rates, or investors' needs and expectations. Cf. Maine State
Retirement Sys., 2011 WL 4389689, at *7 (emphasizing that the tranches "provided a different
investment opportunity with unique characteristics" to allow each investor to choose the security
"that best matched its needs"). In short, there is nothing in the record that indicates that the
differences between the tranches that the Defendants' identify warrant treating the tranches
which were issued pursuant to the same, allegedly defective Offering Documents- as "different"
securities for the purpose of Sections 11 and 12( a)(2). See, e.g., In re Countrywide Financial
Corp. Securities Litigation, 588 F. Supp. 2d 1132, 1165-66 (C.D. Cal. 2008) ("[Section 11] grants
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standing to anyone who buys 'such security'
one traceable to a defective registration
statement."); see also In re WorldCom, Inc. Sec. Litig., No. 02 Civ. 3288(DLC), 2004 WL
540450, at *6-7 (S.D.N.Y. Mar. 19,2004) (purchasers of one type of debt security (domestic) had
standing to pursue claims of purchasers of a second type of debt security (foreign) issued pursuant
to the same registration statement); In re Fleming Cos. Sec. & Derivative Litig., No. 5-03-MD
1530 (TJW), 2004 WL 5278716, at *49 (E.D. Tex. June 10,2004) ("purchasers of one type of
security have standing to sue on behalf of purchasers of other types of security issued pursuant to
a single registration statement"); see also In re Citigroup Bond Litig., 723 F. Supp. 2d 568, 584-85
(S.D.N.Y. 2010) (named plaintiff has standing under Sections 11 and 12(a)(2) to bring suit based
on offerings from which it did not purchase where alleged misrepresentations were in a
registration statement common to all offerings); accord In re Am. In1'l Group, Inc., 741 F. Supp.
2d 511, 538 (S.D.N.Y. 2010).
The Court recognizes that the dissimilarities between the tranches can be highly
relevant to those who purchased them; but there is nothing in the text of Sections 11 and 12(a)(2)
that enables the Court to assign any statutory standing significance in this case to the mere fact
that the securities differ in their bibliographic, payment priority, or rate of return particulars. As
with constitutional standing, to the extent these differences are relevant, they may be appropriately
addressed at the class certification stage.
CONCLUSIOl\;
Defendants' motion to dismiss the TAC is granted without prejudice insofar as
Plaintiffs' claims are premised on the alleged unreliability of the ratings of securities included in
the investment pools. Plaintiffs are granted leave to file a Fourth Amended Complaint alleging
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facts sufficient to state a claim or claims based on the securities' ratings, by April 16, 2012.
Failure to timely file such an amended pleading may result in dismissal ofthe ratings-related
claims with prejudice and without further advance notice. The motion to dismiss is denied in all
other respects.
This opinion and order resolves docket entry no. 138.
SO ORDERED.
Dated: New York, New York
March 30, 2012
~SWAlN--
United States District Judge
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