Landmark Legal Victory for Assured in RMBS Case

In the first residential mortgage-backed securities putback lawsuit to reach a decision in trial, the court ruled in favor of Assured Guaranty regarding breach of contract claims against Troy, Mich.-based Flagstar Bancorp Inc.

Judge Jed Rakoff of the United States District Court for the Southern District of New York gave the decision in a 103-page opinion late Tuesday night, finding that the loans at issue "pervasively breached Flagstar's contractual representations and warranties."

The court granted Assured damages of $90.1 million — the full amount it sought — plus interest, court costs, and attorney fees. The total amount will be determined over the next several weeks.

Assured Guaranty's president and chief executive officer, Dominic Frederico, called the ruling an important victory, saying it sets a strong precedent for the company's rights in these cases.

"The court recognized and clearly articulated the responsibility of an R&W provider to honor its contractual obligations to purchase defective mortgage loans," he said. "[Judge Rakoff's] decision establishes clear liability as it relates to originators and securitizers of RMBS transactions and strengthens Assured Guaranty's resolve to seek full recovery from R&W providers that refuse to recognize this liability."

Following the ruling, Flagstar released a statement saying it "strongly disagrees with the court's ruling and intends to vigorously contest the outcome on appeal."

The lawsuit has been closely watched by many, as the results will likely serve as precedent for several other similar outstanding lawsuits. Assured Guaranty, as well as several of its fellow bond insurers, have filed a number of suits against banks seeking R&W recoveries. Assured has filed suits against UBS Real Estate Securities Inc., JPMorgan Chase & Co., and Deutsche Bank. It settled a R&W dispute with Bank of America Merrill Lynch for $1.6 billion back in April.

Susman Godfrey LLP, which represented Assured Guaranty in the lawsuit, said its team established important precedents, both in the use of loan sampling and a damages model based on Flagstar's obligation to repurchase the loans.

"This ruling is a significant milestone in forcing the banks to honor the contractual commitments they made and have long sought to avoid," said Jacob Buchdahl, a partner in Susman Godfrey's New York office and Assured Guaranty lead counsel.

Flagstar challenged Assured's use of statistical sampling of 800 loans out of 15,610 loans to review for possible breaches, saying it was not necessarily representative of the frequency and magnitude of breaches in the pool. Judge Rakoff, however, ruled that this was an "appropriate method of proof." He also ruled in favor of Assured on the question of whether the bond insurer had acted appropriately in relying upon Flagstar's R&W, rather than conducting and relying on its own due diligence.

BTIG analyst Mark Palmer also noted the significance of these findings and said the ruling positions Assured Guaranty for a potential greater upside relating to its other lawsuits.

"Faced for the first time with a real consequence associated with avoiding negotiations with AGO, the banks may now be willing to discuss settlement terms, which they apparently have been reluctant to do to this point," Palmer said. "And those conversations could result in the realization of much, much larger recoveries for AGO achieved in less time than likely would have been feasible absent the court victory."

William Clark of Keefe, Bruyette & Woods also wrote in a research note that the ruling will likely help the company as it continues to pursue R&W claims against other counterparties. The lawsuit against Flagstar, filed in April 2011, accused the savings bank of misrepresenting the quality and traits of two home equity line of credit securitizations — one from 2005 collateralized by approximately 10,000 loans, totaling $600 million, and one from 2006 collateralized by 5,000 loans, totaling $300 million.

After the housing crisis, Assured paid about $14.7 million in claims on the 2005 securitizations and about $75.4 million in claims on the 2006 securitizations. The damages awarded to Assured equal the amount of claims that have been paid by Assured Guaranty on the two securitizations. Following the ruling, Assured Guaranty's stock was up 5.63% to $18.75 midday Wednesday.

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