VRDO damage allegations soar to nearly $1.6 billion

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The unsealed whistleblower suit accusing banks and broker dealers of defrauding New York issuers in the variable-rate market claims damages of $374 million, bringing the total across four states to nearly $1.6 billion.

The suit filed in the Supreme Court of the State of New York became electronically available last week after it was ordered unsealed. Filed by Minnesota-based municipal advisor Johan Rosenberg via Edelweiss Fund LLC, it accuses JPMorgan Chase & Co., Citigroup, M&T Bank Corp., Merrill Lynch & Co. and Morgan Stanley Smith Barney of conspiring to hold the interest rates of the variable-rate debt of Empire State issuers artificially high for the banks’ own benefit.

Adding the $374 million alleged in New York to the three other cases also filed by Rosenberg brings the total damages claimed to $1.58 billion. Edelweiss lawsuits allege $349 million of damages in Illinois, $134 million in Massachusetts, and $719 million in California.

“All together, defendants since April 1, 2009 have served as the [remarketing agent] for roughly 712 VRDOs issued by New York, which collectively had a value at issuance of roughly $36 billion,” according to the lawsuit. “This represents more than half of the VRDOs New York has had outstanding during this period and accounts for roughly 75% of their total value at issuance.”

The allegations made in the New York lawsuit are familiar. The banks employed a “robo-resetting” scheme and colluded with each other in order to keep interest rates high so that investors would not exercise their rights to tender the VRDOs back to the banks serving as remarketing agents (RMAs), thus allowing the banks to collect fees for serving RMAs and for providing letter of credit services without having to actually remarket the bonds,” according to the lawsuit.

At the heart of the accusations is that the banks “bucketed” large groups of VRDOs and set their rates en masse, without regard to the characteristics of the securities, which Rosenberg’s lawsuits argue is a violation of the remarketing agreements binding those banks. Those agreements generally commit remarketing agents to try their best to set the rates at the level necessary to market the bonds at par. But those agreements are not representations that a firm is promising to hand-reset every VRDO at the lowest possible rate, the banks accused in Illinois have told a Cook County judge.

Rosenberg’s attorneys have said that Rosenberg discovered the alleged fraud based on his own analysis of VRDO interest rates, though in previous court filings some of the accused banks have disputed the both the veracity and originality of that analysis. As a whistleblower filing under state false claims statutes, Rosenberg stands to potentially reap millions of dollars as a reward if his suits result in damages awarded to the issuers he is suing on behalf of.

Rosenberg may have filed additional Edelweiss lawsuits that have yet to be unsealed by the courts.

Two cities, Philadelphia and Baltimore, have also filed lawsuits in federal court leveling the same allegations as those in the Edelweiss lawsuits. The two cases, filed a month apart earlier this year, have been combined in U.S. District Court in New York. Philadelphia has made clear, however, that it has not cut business ties with the banks involved in the litigation, hiring both Barclays and Wells Fargo as underwriters for an April GO bond sale.

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Securities law Variable-rate bonds Lawsuits Secondary bond market Barclays Citigroup Wells Fargo Bank of America Merrill Lynch Washington DC New York Illinois California Massachusetts
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