CDO DEBT COULD POSE RENEWED DANGER FOR BANKS (Full text - Thanks Les)
By MARK DeCAMBRE
May 13, 2008 -- Just when Wall Street firms thought the worst of the credit crisis was over, investors in funky mortgage-tainted debt may unleash a fresh bout of pain for embattled banks like Citigroup, UBS, Lehman Brothers and Bank of America.
Investment managers, including GSC Group, which buy bonds in arcane securities known as asset-backed collateralized debt obligations, are looking to force Wall Street banks to take back onto their balance sheets a big chunk of the $380 billion in mortgage loans used to back these CDOs.
Mortgage lenders, including Countrywide Financial and Thornburg Mortgage, are also being targeted.
These investors are reviewing agreements tied to the arrangement of these mortgage securities to determine if the banks and lenders misrepresented the quality of the underlying collateral supporting these securities.
Due to the language embedded in many CDO deals, bondholders can return the securities to the so-called depositor or bank at 100 percent of their original investment if they can prove that there was fraud involved in originating the mortgage.
Investors are growing emboldened because fraud claims are becoming more prevalent over these loans as it's discovered that borrowers lied about their incomes or that lenders turned a blind eye.
Posing a sticky issue for those seeking to force their investments back onto the banks is the fact that many of these CDO offerings weren't created with clear-cut contractual language that stipulates under what conditions payouts would occur.
"It's not enough to prove that a defaulted loan was deficient in underwriting but you have to prove that the reason that it defaulted is tied to the deficiency," said Joshua Rosner, a financial consultant at Graham Fisher & Co.
It's rare for bondholders to take such action given the potential legal costs and the strain a move like this could have on an investor's relationship with a Wall Street bank.
However, many investment managers are facing billions in losses, and things are widely expected to get worse, one CDO manager told The Post.
Investors are said to be targeting specifically banks and mortgage firms that can pony up cash rather than going after struggling firms such as the now-bankrupt New Century Financial. "This is going to become a bigger and bigger problem," Rosner said. |
