The United States federal government on Tuesday threw its support behind a lawsuit against JPMorgan Chase accusing Bear Stearns, the investment bank JPMorgan bought in 2008, of engaging in massive fraud in deals involving billions in residential mortgage-backed securities.
At a news conference, acting Associate Attorney General Tony West credited a federal-state working group of law enforcement agencies created by President Barack Obama in 2009 with assembling evidence in the lawsuit brought by the New York attorney general's office.
The Obama administration has been under heavy political pressure to hold major Wall Street players accountable for America's biggest financial collapse since the Great Depression.
Bear Stearns was sold to JPMorgan Chase in 2008.
John Walsh, the US Attorney for Colorado, said 11 federal prosecutors interviewed more than 40 significant market participants in the investigation by New York Attorney General Eric T. Schneiderman and that the Justice Department provided a dozen investigative analysts to review millions of pages of documents.
first rmbs lawsuit
The lawsuit alleges that Bear Stearns led its investors to believe that the loans in its portfolio of residential mortgage-backed securities had been carefully evaluated and would be monitored.
The lawsuit is the first to be filed under the auspices of the RMBS Working Group, which was set up by Obama to investigate and prosecute alleged misconduct that contributed to the financial crisis.
New York-based JPMorgan said it intends to contest the allegations.
Spokesman Joseph Evangelisti noted that the lawsuit relates solely to alleged actions by Bear Stearns prior to its takeover by JPMorgan in May 2008.
In the lead-up to the financial crisis, subprime mortgages were sold to people with less-than-ideal credit. Many of them defaulted on their loans when the housing bubble burst and their introductory "teaser" interest rates skyrocketed.
Because many of those mortgages had been sliced and repackaged as securities that could be bought and sold - known as RMBS - the mass defaults led to huge losses at large US banks and other financial firms, helping fuel the global economic meltdown.
Schneiderman is alleging that Bear Stearns led its investors to believe that the loans in its RMBS portfolio had been carefully evaluated and would be continuously monitored.
Bear Stearns failed to do either, resulting in investors buying securities backed by mortgages that borrowers couldn't repay and defaulted on in huge numbers, Schneiderman alleges.
The complaint further alleges that even when Bear Stearns executives were made aware of the problems, the firm failed to correct its practices or disclose material information to investors.
The executives routinely overlooked negative findings and continued to package the loans into securities for sale to investors, it says.
Investors have so far lost US$22.5 billion on more than 100 subprime securities that Bear Stearns issued in 2006 and 2007, according to the complaint.
That's over one-quarter of the original principal balance of US$87 billion. The lawsuit seeks injunctive relief, damages and payment of restitution to investors for "fraudulent and deceptive acts".
"We're disappointed that the NYAG decided to pursue its civil action without ever offering us an opportunity to rebut the claims and without developing a full record - instead relying on recycled claims already made by private plaintiffs," JPMorgan's Evangelisti said in a statement.
"We will, nonetheless, continue to work with members of the president's RMBS Working Group and are fully cooperating with their inquiries," he added.
Bear Stearns teetered on the verge of bankruptcy in early 2008 after its two hedge funds imploded, costing investors US$1.8 billion and kicking off the domino effect that led to the 85-year-old bank's demise.
With the backing of the New York Federal Reserve, JPMorgan bought the ailing investment bank for about US$2.3 billion.