Banks ask court to toss VRDO rate-setting case

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WASHINGTON — The defendants in the Illinois lawsuit alleging widespread fraud and collusion in the variable rate demand obligation market have pleaded their case in favor of dismissal, setting the stage for the court to decide if the matter will move to a trial.

The outcome could have have significant consequences for the reputation of the variable-rate market and could be an indication of how similar lawsuits might play out.

Attorneys representing several banks including JPMorgan Chase & Co., Citigroup Inc., Bank of America Corp., Barclays PLC, Morgan Stanley, William Blair & Co., BMO Financial Group, and Fifth Third Bancorp this week filed a new document hoping to persuade a Cook County, Ill., Circuit Court judge to toss the case. The banks are accused of setting VRDO rates artificially high in order to be paid for remarketing services without having to remarket the securities. Similar lawsuits have been filed in other parts of the country.

VRDOs are tax-exempt, variable-rate bonds that are nominally long-term with 20- or 30-year maturities, but are considered short-term because their interest rates are reset periodically, typically weekly. They contain a “put” feature that allows investors to tender them back to tender agents or remarketing agents. The RMAs will then market the VRDOs at a par rate that is 100% of the face value of the security as well as accrued interest.

The newest filing in Illinois is in response to a mid-September argument by lawyers representing Edelweiss Fund LLC, the Delaware-registered limited liability company incorporated on April 29, 2014, specifically to pursue the litigation. Edelweiss brought the suit on behalf of Illinois as the “relator” under the state’s False Claims Act. The banks originally asked the court to dismiss the suit for failing to identify any specific false claims they made or show that such claims influenced the state’s decision to pay them for remarketing services.

Further, the banks argued, the VRDO reset rates were publicly disclosed and available on EMMA and courts have ruled that False Claims Act suits can’t be based on publicly available information. This “public disclosure bar” should preclude the suit from moving forward, the banks’ lawyers told the court.

Edelweiss’ lawyers countered that the information made available to the public did not disclose the alleged fraud, which involved robotically resetting the rates in a way that Edelweiss alleged cost Illinois millions of dollars. The suit should move forward to a trial, they told the court.

In the latest filing, the banks largely restated their original arguments behind their motion to dismiss. The suit does not allege with enough specificity any false claims made by the banks, their lawyers told the court. Further, the public disclosure bar should apply to the suit because the “key factual elements” of Edelweiss’ claims were disclosed there, the banks said.

“Relator is merely an outsider who collected information from public sources and repackaged it in a complaint salted with conclusory allegations of fraud,” the banks’ lawyers told the court. “It is precisely the sort of ‘busybody’ whose claims the bar prohibits.”

The court should also dismiss all claims relating to conduit bond issuances, the banks argued, because Illinois is not the party responsible for the payments.

The outcome of the Illinois suit, while not binding on similar lawsuits (including another filed by Edelweiss in Massachusetts), could be an indication of their likelihood of success as well as prove influential in the perception of the variable-rate market.

Attorney Michael Behn of the Chicago law firm of Behn and Wyetzner, who represents Edelweiss, said the court is likely to schedule oral argument and then decide whether to proceed to trial or dismiss the case. If the court decides to allow the suit to go forward, it would begin the evidence discovery and other pre-trial procedures prior to selecting a jury.

“We anticipate winning,” Behn said.

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Variable-rate bonds Securities law Secondary bond market Washington DC Illinois