WASHINGTON - Mississippi, Chicago, and five other municipal bond issuers have filed two class action suits in a federal district court here against Bank of America, JPMorgan Chase & Co., and 35 other banks, brokers, insurance companies, and investment advisory firms, charging that issuers have been hurt by alleged widespread price fixing and bid-rigging in the multimillion-dollar municipal derivatives industry since 1992.
The two suits, one of which is against Bank of America , and the other against 36 additional companies , were filed March 12 in the U.S. District Court for the District of Columbia. While seven issuers are listed as plaintiffs, lawyers are working to get other state and local governments to join the suits. A spokesman for Florida Attorney General Bill McCollum said Friday, "We have not yet determined whether to intervene in these two lawsuits but we are aware of these allegations and have been reviewing them."
The suits charge the firms conspired to fix the muni derivatives market in violation of federal antitrust laws, according to Michael B. Hausfeld, a senior partner at Cohen, Milstein, Hausfeld and Toll PLLC here, one of 12 law firms representing the issuers.
The complaints in each of the lawsuits state: "This lawsuit arises out of an illegal agreement, understanding, and conspiracy among providers and brokers of municipal derivatives to not compete and to rig bids for municipal derivatives sold to issuers of municipal bonds. This illegal agreement, understanding, and conspiracy is based on per se illegal horizontal communications and conduct among providers of municipal derivatives. These providers have engaged in communications facilitating and conduct restraining competition such as rigging of bids, secret compensation of losing bidders, courtesy bids, deliberately losing bids, and agreements not to bid. Brokers have knowingly participated in this per se illegal conspiracy to limit competition by facilitating indirect communications among providers and have shared the wrongful profits from the illegal agreement to restrain competition."
"This appears to be one of the longest-running, most economically pervasive antitrust conspiracies ever to be uncovered in the U.S.," Hausfeld said. "As a result of this conspiracy, the plaintiffs and other class-action members were deprived of extra money they otherwise would have received from their municipal bond investments and could have spent on important public works projects, such as roads, buildings, and mass transit."
The class action suits come as the Justice Department, Securities and Exchange Commission, and Internal Revenue Service are conducting parallel criminal and civil investigations of alleged antitrust and anticompetitive practices in the municipal market, including bid-rigging and price fixing.
The federal investigations are believed to involve roughly 30 firms and potentially dozens of individuals, many of whom have recently received letters from the Justice Department notifying them that they are targets of the grand jury investigations.
The class-action lawsuits stem from confidential discussions the issuers had over the last eight months with Bank of America, which last year entered into an amnesty agreement with the Justice Department, under which the bank agreed to fully cooperate in the Justice investigation in return for protection against criminal prosecution. The amnesty agreement, however, does not apply to civil charges.
According to Hausfeld, after the amnesty agreement was disclosed, each of the seven issuers approached attorneys about filing charges. For the past eight months, the issuers and bank have been discussing the civil allegations, as well as the possibility of a settlement, under a mediator, Judge Daniel Weinstein, a retired San Francisco Superior Court judge who now works with JAMS, a national mediation, arbitration, and conflict resolution firm.
"In order for both sides to feel that there was both an impartial observer of the process, as well as a neutral party who could mediate and act as a bridge in discussion, we went to a nationally renowned institution and a nationally renowned mediator to oversee the process," Hausfeld said.
The suit against Bank of America only covers the period from Jan. 1, 1998, to Dec. 31, 2004, and was filed separately because the bank cooperated with issuers, entered into early settlement discussions, and engaged in the alleged practices for a shorter time than others, according to a release issued by Hausfeld's firm. Hausfeld said in an interview that the issuers are still working toward reaching a settlement with Bank of America.
The second suit that was filed against the 36 companies covers a longer period, Jan. 1, 1992, to the present. Other than the time periods, the two suits are similar.
The suits state that the basis for the complaints comes, in part, from information obtained by Bank of America and publicly available information, including regulatory filings. The suits also repeatedly cite audiotapes of conversations as sources of information.
The complaints cover the entire derivatives market. "The inevitable and practical result of this illegal conduct affected the market prices of municipal derivatives in all transactions," they stated.
The lawsuits also claim that "the conspiracy has been facilitated through inter-competitor contacts at trade associations," such as the International Swaps & Derivatives Association.
Hausfeld declined to elaborate on how the trade associations were involved but said, "We do not file complaints unless we feel that we have a sufficient verified basis to do so."
At least 11 individuals are identified by, but not named as defendants in, the suits as having "engaged in the illegal communications and conduct" or having "engaged in the illegal agreement."
The two suits each seek an unspecified amount of damages as well as reimbursement for costs and attorneys' fees. Hausfeld said the issuers have hired an economist to analyze the "trillions and trillions of dollars of transactions" in the market in an attempt to determine how much the alleged rigged bids cost them.
Bank of America also has economists trying to come up with estimates, Hausfeld said. He said that ultimate amount of damages the issuers seek will be predicated upon the findings.
As an example of bid-rigging and kickbacks, the suits cite the $453 million guaranteed investment contract that Bank of America provided to Atlanta in 2002, for which CDR Financial Products served as broker and handled the bidding. In a June 28, 2002, e-mail, Douglas Campbell, formerly a Bank of America derivatives sales team manager, told Phil Murphy, a former managing director of the bank's derivatives department, that $182,293 was paid to CDR, Piper Jaffray Cos., PaineWebber, now UBS Financial, and Winters & Co. to build Bank of America's relationship with these companies.
More than 20 lease-to-own deals that involved CDR and Societe Generale SA, as well as California school advance refundings and put-option deals involving CDR, are cited by the suits as other examples "of bid-rigging and kickbacks that exist."
"There is evidence of quarterly payments [that] Societe Generale made to ... CDR for 'unspecified services' relating to these lease-to-own deals," the complaints state. "The IRS' audits of 21 deals done between 1996 and 2005 now center on bid-rigging and price-fixing issues."
The suits also cite $2 billion of blind pool deals entered into between 1997 and 2001, involving George K. Baum & Co., noting the IRS found evidence of bid-rigging in these deals. Baum settled tax law charges with the IRS in 2006.
"Baum had rigged the deals to allow CDC [Funding Corp.], the winning provider on many of them, to underpay for the [guaranteed investment contract] and simultaneously overpay for other investment agreement and remarketing fees, diverting arbitrage profits back to ... Baum," the suits said. "In one case, CDC paid a large fee directly to David Lail of ... Baum." Lail no longer works for the Baum firm.
Bank of America also provided the GIC on at least one of the Baum transactions targeted by the IRS, a $100 million issue from the Illinois Development Finance Authority sold in 2000 by Rural Enterprises of Oklahoma Inc., the suits said. Rural Enterprises disclosed in July 2003 that the provider of the GIC made a significant hidden payment to Baum.
"The objective of the illegal agreement, understanding, and conspiracy is to artificially suppress interest rates paid on, lower the value of, and reduce and stabilize the market prices of municipal derivatives sold by the provider defendants and conspirator Bank of America," the complaints said.
The suits state the alleged illegal behavior not only deprived issuers of money, it also threatened to jeopardize the tax-exempt status of their transactions. Under tax rules, there is a "rebuttable presumption" that a fair price is obtained for GICs if at least three bids are obtained and no potential GIC provider has a last look to review other bids before bidding.
"The intent and purpose behind the IRS safe-harbor regulations is to provide a fair, competitive, and transparent process for issuers to obtain the best possible price for tax-exempt municipal derivatives. But due to the concerted effort of the ... defendants, the provider[s] and ... Bank of America ... conspire[d] to fix prices, rig bids, and allocate customers and markets - as opposed to competing - [and] this laudable goal was not realized."
The suit identifies, not as defendants, 11 individuals that it charges "engaged in the illegal communications and conduct." Besides Campbell and Murphy, they are, according to the suit: Dean Pinard, former manager of Bank of America's derivatives department; James Hertz, former vice president in JPMorgan's capital group; Stephen Salvadore, senior managing director and manager of municipal capital markets derivatives and investments at Bear, Stearns & Co.; Jay Saunders, who formerly worked in derivatives marketing at Wachovia; Martin McConnell, also a former Wachovia employee; Peter Ghavami, former managing director and co-manager of UBS' municipal derivatives group; Patrick Marsh, managing director of Deutsche Bank's municipal restructuring unit who formerly worked at Bear Stearns; Shlomi Raz, a former employee of JPMorgan, now at Goldman Sachs; and Samuel Gruer, a former vice president at JPMorgan.
The issuers state in their suits that this is not the first time that Wall Street and other firms have been accused of running afoul of the laws designed to prevent unfair profiteering from bond issues and related transactions. In 1998, 21 firms settled yield-burning charges with federal regulators in connection with advanced refundings and excessive prices that issuers paid for Treasuries for their escrows. The yield-burning scandal led to settlements of $172 million as result of misconduct on 3,600 muni bond issues, the suits said.
Also in 2002, Robert Cochran, a broker at Stifel Nicolaus & Co. at the time, paid $220,000 to settle civil charges that had been filed against him in connection with bid-rigging on GIC and forward transactions for the Oklahoma Turnpike Authority.
While the two suits list 37 different defendants, that number could grow as the plaintiffs' firms continue looking into the matter and as more issuers join the suit, according to Hausfeld.
Jefferson County, Ala., which is trying to extricate itself from a financial crisis involving its $3.2 billion sewer debt program that includes possible defaults on 13 swaps, does not plan to join the suits for now.
"Our attorneys are looking at them carefully," said Leigh Brooks, an assistant to County Commission President Bettye Fine Collins. "As of now Jefferson County is not planning on involving itself in these or any lawsuits."
Chicago's law department has long internally been monitoring the pending Justice Department probe and was recently approached by Cohen Milstein attorneys about the city's interest in joining in a potential class action lawsuit.
"They approached us about participating in the litigation and we agreed as we felt that it was important to protect the city's interest and take a strong role in this litigation," said Chicago law department spokeswoman Jennifer Hoyle.
Hausfeld said also that more defendants may be included in the suit "if that's where discovery takes it."
Most of the firms contacted either declined to comment or could not be reached. Bank of America's Shirley Norton said: "We have been working and cooperating with the plaintiffs on these matters to try to reach a settlement and we are continuing to have these discussions."
Humberto Sanchez, Shelly Sigo, and Yvette Shields contributed to this story.