The insurance industry is up in arms over the thought that the SEC wants to regulate stock-market indexed annuities as securities. For years, the insurance companies sold equity indexed annuities (EIA’s in industry lingo) by promising people that their money would be safe from loss, but they would share in the upside if the stock market moved higher.  If these EIAs had been regulated as securities, they would have been subject to the securities laws, which require that ALL material facts have to be disclosed.  Does the insurance industry want that? Absolutely not!Regulating these as securities would mean that the insurance companies would have to disclose:

• The high surrender penalties
• The high commissions
• The fact that most of these annuities just return a portion of what a C.D. would earn
• That the so-called “bonuses” used to sell many of them are bogus, and most people will never get them
• That an annuity only makes sense for someone who wants to turn over their money to the insurance company and then accept monthly checks and that they are not like investments you can withdraw from at any time

If you have been sold an annuity and believe you did not get the complete facts, please write your member of Congress and the SEC and urge that it regulate these EIA’s like the investments they are.  

Corporate and non-profits have been left out of the regulators’ recent auction-rate securities settlements with Wall Street Brokerage firms.  While some investors, such as individuals, trusts, and small businesses, should eventually recover their investments in auction rate securities, corporations and large not-for-profits will not.  None of the settlements are finalized and some firms, like Merrill Lynch, are no longer independent entities so it is unclear whether the “settlement” announced will be finalized. 

Merrill Lynch, Citigroup, Goldman Sachs, Wachovia, Morgan Stanley, Deutsche Bank and UBS have agreed to buy-back auction rate securities sold to individuals, charities, or companies with accounts of less than $10 million.  However, regulators say that companies with accounts worth $10 million or more are largely excluded from the settlements because their officers were “financially sophisticated” and should have known better.

Regardless of investment experience, people who were lied to were relying on their financial advisors.  Even if an investor is supposedly sophisticated, that is only one factor that may be considered by an arbitration panel in determining whether a claim has merit.  Other factors include the investor’s investment objectives and need for liquidity, whether the broker was a fiduciary, whether the investor relied on the advisor, the specificity of misrepresentations relied on by the investor, whether the brokerage firm omitted to disclose material facts to the investor, and whether the fraud was concealed by the broker, among other things.  Therefore, there is no reason to exclude high net worth individuals or companies from such settlements and require them to file FINRA arbitrations, but that is the result of the regulators’ actions.

Institutions, non-profits, trusts, and individuals who have been unable to complete or pursue business opportunities because their working capital is frozen in auction rate securities should contact experienced securities arbitration counsel.  The Nygaard Law Firm has over 30 years experience in representing investors in securities arbitration and is representing many investors in arbitrations involving auction rate securities.  Several of the cases have already settled and millions of dollars returned to investors, with interest and attorneys fees.

On Thursday, July 17, 2008, a National Task Force of securities regulators, led by the Missouri Securities Commissioner, conducted a special investigation of Wachovia Securities’ headquarters in St. Louis, Missouri to gather documents and records related to the firm’s Auction Rate Securities sales practices.  The Missouri Securities Commissioner has issued a News Release to discuss the continuing investigation.

This is at least the second large brokerage firm to have been investigated by a state securities regulator for Auction Rate Securities sales practices.  In June, the Massachussetts Securities Division filed a Complaint against UBS Financial Services.  In the Complaint, the Division charged UBS with fraud and is seeking relief for citizens of Massachussetts.  More information is available here.

This does not appear to be the end of the Auction Rate Securities investigations.  Individual investors have also been actively pursuing their rights by filing arbitration claims to obtain damages and/or rescission for Auction Rate Securities fraud.  The Nygaard Law Firm actively represents individual investors in securities arbitration and if you would like to obtain information, please feel free to contact our firm to speak with one of our attorneys.     

Investors who were sold Auction Rate Securities (ARS) continue to be left with few or no options to access their money.  While some issuers have started redeeming their ARS, there is little incentive for them to do so given that auction-based interest rates have fallen to two-year lows.  According to an article by Michael McDonald (Bloomberg.com), seven-day municipal auction rate securities are paying approximately 2.99% and many municipalities are paying nearly one-half the rate of interest today on their outstanding ARS as they were in February of this year.

Many ARS issuers are municipalities or quasi-municipal entities engaged in student lending.  In fact, Bloomberg.com reports that “municipal obligations made up about half of the $330 billion in auction-rate securities at the beginning of the year . . . .”  These entities have limited budgets from which to pay interest expenses.   As a result, these issuers have made a “business decision” not to redeem their ARS. 

The vast majority of ARS owners who have contacted our firm were sold ARS by their stockbroker or financial advisors as “short-term,”  ”safe,” “liquid,” “cash equivalent” investments.  In addition, virtually all of these individuals never received a prospectus at any time.  These brokers/advisers were often provided necessary information on an “as needed” basis, which generally means they were given information after the auctions failed in February.  Worse yet, many brokers/advisers were never provided the necessary information by their firms.  As many investors discovered in February, the most substatial risk to investing in the ARS market was liquidity risk (being able to access your money by selling your ARS at the auction).  The broker-dealers who employ the brokers/advisers were largely responsible for keeping the ARS market afloat by using their liquid reserves to purchase the ”unpurchased” ARS at the auctions.  In February, these same firms decided, without warning, to pull their support from the ARS market.  As a result, investors were left with few options to access their money.  What makes this truly appalling is that these same firms were typically the underwriter and/or broker-dealer listed in the prospectuses, which means that these firms knew of the liquidity risks in the ARS market. 

Many ARS owners have been asking, “what can I do about this?”  Yesterday, Liz Rappaport, of the Wall Street Journal Online, gave a very consise outline of these options, including “File an arbitration claim.”  Because many issuers are making “business decisions” similar to those discussed above, ARS owners who do nothing could be in for a long wait.  In addition, to the extent that a “secondary” market exists, it has provided little benefit to ARS owners because the only “trades” in this aucton occur at rather large discounts.  Many broker-dealers have offered “loans” to their clients; however, in recent months, many of these firms have written down the value of thier clients’ ARS holdings and have also reduced the loan-to-value ratios (again, the broker-dealers change the rules of the game after it has already begun).   As a result of this double-whammy, many ARS owners who have elected this option have received notice from their broker that they need to repay a portion of the loan.  This is particularly troublesome when an ARS owner’s only liquid asset was their ARS and they took their loan to fund a major purchase (such as a home, car, or education expenses) because now these individuals do not have any liquid reserves from which to pay back a portion of the loan.  In addition, it is quite likely that these markdowns and loan-to value adjustments have not ended, which means that more and more people who were “helped” by their broker, will soon learn that this assistance, much like the ARS market itself, was a sham.

Selling in the secondary market will result in losses, which are recoverable in arbitration.  In most states, rescission and restitution (legal jargon for giving an investor his or her money back) is available to investors who were misled by their broker/adviser that ARS were “short term” and “liquid” investments.  After all, if the broker sold ARS as “liquid,” the investor is entitled to hold them to it.  At the end of the day, unless an issuer redeems their outstanding ARS, an individual’s best option for recovery may truly be to file a claim in arbitration.   

In an article found in today’s bond market publication, The Bond Buyer Online, new issues for variable rate municipal bonds are increasing, while issuers also are no longer supporting the ARS market.  At least on the municipal bond front, the article gives evidence that the ARS market is being left behind as municipalities turn to other kinds of debt.

The article does not discuss the auction rate preferred securities issued by closed end funds, nor the student loan ARS, but the conclusion seems clear:  ARS are a thing of the past.

We’re seeing many clients who were sold student loan ARCS.  These people need securities attorneys because the student loan ARCS are not being redeemed and probably will not be for the foreseeable future.  The municipal ARCs, with high penalty rates, either have or are being redeemed.  The Auction Rate Preferred Securities issued by closed end funds to leverage their trading might be redeemed slowly by some of the companies if they can figure out and market some new debt instrument.  PIMCO has been the notorious exception, taking no responsibility for its having sold illiquid securities, with no maturity date, to investors despite knowing the auctions were “rigged deals” generated by Wall Street to make money coming and going and in between.
 
There are two types of Student Loan ARCs, as this linked article explains:  Those issued by quasi-state agencies, like the Pennsylvania, Illinois and Missouri Higher Education Loan Authorities - and, then, those issued by private companies like Northstar, Collegiate Loan Corporation and ACCESS, for example.
 
Redemption is not more likely for one type versus the other.  It is unlikely for all Student Loan  ARC’s.  However, there’s an additional risk to holders of the ARCs issued by the private companies - they are businesses, with no state backing. So, if student loans default, the businesses could simply go out of business, having dissolved into a mountain of non-performing debt.  Hey, it happened to Bear Stearns.  That explains why we are seeing so many clients who were “sold” these particular Student Loan ARCs in December and January of 2007 and even February of 2008.  Here’s the link for more information:

While other fund companies are doing the right thing and trying to find financing to redeem preferred shareholders’ investments, Bill Gross’ has taken an offensively cavalier reaction to the pleas by ”preferred” shareholders of closed end investment funds managed by Pacific Investment Management Company (”PIMCO”).  Like the neighborhood bully, this master of the universe describes PIMCO’s preferred shareholders as being merely the suckers who ended up holding  the “Old Maid.”  PIMCO used “preferred” shareholders’ money to generate Gross’ record-making performance statistics; meawhile, these “preferred” shareholders have been left without access to money they were told was invested in safe, liquid, cash-equivalent investments.

Investors who were sold Auction Rate Preferred Shares, also known as ARPS, continue to remain unable to access their invested capital.  These “preferred” shares are similar to other preferred stocks, except that the interest rates paid to shareholders of ARPS are determined in the auction market.  Unfortunately, these “preferred” shareholders also depended (unknowingly) on these auctions in order to have access to their capital.  Therefore, when the auction market collapsed, these “preferred” shareholders lost access to their money. Over the past few months, several of the larger issuers of ARPS have begun to redeem some of their outstanding shares.  However, PIMCO, the fourth largest issuer of  ARPS has done nothing to help its “preferred” shareholders access their money.  According to an article on Bloomberg.com, PIMCO has issued approximately $4.3 billion in ARPS.  The article reports that Allianz, PIMCO’s parent, has the audacity to state that “it had so far rejected refinancing options as too risky for common shareholders.”  Ironically, if a common shareholder needs access to his or her money tomorrow so that he or she can make a down payment on a new home, he or she can sell their shares in the open market and fully liquidate their position.  However, if a “preferred” shareholder needs money for a down payment on a  new home, he or she is without access to their money and must wait indefinitely. PIMCO (and Allianz) had no problem taking the $4.3 billion under the guise that the ARPS were “preferred” shares.  However, PIMCO (and Allianz) have clearly subordinated the interest of “preferred” shares by rejecting plans to refinance ARPS because of the potential detriment such action might cause to common shareholders. 

This weekend, Barron’s published an article that verifies what we have observed:  While the owners of ARPS issued by closed end funds are stuck with some “Old Maids”, in the callously dismissive words of Bill Gross, the investors who were sold Auction Rate Securities issued by student loan agencies are not likely to have their ARS redeemed anytime soon.  Because the reset rates are so low on these issues, and because the issuers are public entities with no business reason to redeem them, these investors are stuck for the foreseeable future.  To date, none of our clients with student loan ARS have received offers of redemption.  Some have such securities paying no interest.  We have been filing securities arbitrations for them.  The Barron’s article has reached the same conclusion.  The complete article from Barron’s can be found here.

The Nygaard Law Firm is representing many investors who were sold auction rate securities as being “same as cash” places to park their funds.  Many clients had recently sold businesses, and were told that these auction rate securities would be a good place to put their money while they sorted out their tax liabilities, and worked on developing a longer term plan for their investments.  Other clients committed education savings plans to these, wanting to avoid the gyrations of the stock market.  Now they are asking: where is my money?

Update on the status of lawsuits, arbitrations and liquidity

Many class action lawsuits have been filed against the brokerage firms underwriting and selling the auction rate securities: Morgan Stanley, Merrill Lynch, UBS, E*Trade, Ameritrade, Citigroup, Wachovia, Raymond James, Deutsche Bank, and Wells Fargo. These cases so far involve allegations that the entire class of people were deceived when these securities were sold to them.  However, such class actions may or may not be certified.  If the common questions of fact or law predominate (as they do in most cases involving a “he said/she said” dispute), the courts will not certify the cases as a class action.  For most individual investors, therefore, we believe that filing an individual FINRA arbitration is the better course.  They are faster, get the investors’ claims on the table for resolution faster, and almost always result in a much greater return for the investors than securities class actions.

FINRA arbitration

The arbitration agreements signed when opening an account at a brokerage firm require that all disputes involving the account be submitted to FINRA (formerly the NASD) arbitration process. We have represented thousands of investors in these, and have begun filing these for auction rate securities investors.  The process begins with filing a Statement of Claim, setting forth the facts and law supporting the claim.  The Respondents (Defendants) then file their response, stating their position as to the fact and law.  There are no depositions in arbitration unless there are extraordinary circumstances, so there are no court reporter expenses.  The parties exchange documents and information.  The parties choose a panel of two “public” arbitrators (people who are not in the securities industry) and one industry person.  Although over 95% of cases settle, if the arbitration goes to hearing, it is conducted like a trial.  The Claimant’s attorney does an opening argument, presents witnesses, and then the Respondent puts on their case.  Briefs can be submitted and closing arguments made.   The Panel’s decisions are binding, with limited appellate review.

ARS with low reset rates

We are particularly troubled by some of the auction rate securities that clients have been sold which have a reset interest rate of zero.  There is no incentive for issuers of these to refinance and liquidate them.  Similarly, many of the other municipal, tax-free issues are resetting to only modestly higher interest rates, and we don’t expect to see a secondary market develop for these.

MOHELA, the Missouri higher education loan administration has over $2 billion of auction rate securities outstanding, which have been sold nationally.  MOHELA has had some well-publicized political and financial problems, and the Board has allowed funds to be used to finance the construction of buildings rather than to provide student loans.  We are seeing clients who were sold millions of dollars of these loans.  The underwriters were Banc of America, Commerce Bank, and A.G. Edwards (Wachovia). Many of the clients were sold bonds by one of these firms, and, as underwriters, they have increased legal liability for recommending the purchase of such bonds in their inventory.  Given the unique problems of the issuer, these bonds are subject to special scrutiny.

Update on Refinancings by Closed End Funds

In the last few weeks, some of the closed end funds that issued auction rate securities have liquidated or announced a plan to liquidate some or all of them.

On March 20, Calamos hosted a conference call about its attempt to liquidate the ARS it had issued in tandem with some of its closed end funds.  It alone has issued about $2.5 billion of ARPS, but has yet to announce the actual plan to repurchase or refinance its ARS.  It manages five leveraged closed end funds, and has been a substantial issuer of ARS.

On April 15, Blackrock announced that is would replace the $1.9 billion of ARPS issued both by taxable and tax exempt closed end funds. It is attempting to develop other kinds of bonds, or debt instruments, which it claims would be eligible for purchase by money market funds.  That is a rather frightening thought, as we all are careful about money markets maintaining their $1.00 net asset value in the face of the credit crisis.

In March, Eaton Vance did refinance all the auction rate securities for its Eaton Vance Tax Advantaged Dividend Income Fund, Tax Advantaged Global Dividend Income Fund, and Tax Advantaged Global Dividend Opportunities Fund.  This week, it announced that three of its municipal bond funds would redeem an additional $580 million of outstanding auction rate preferred shares, but not all shares are being bought back.  Eaton Vance did not announce the method it will use to redeem shares.  We don’t know whether only people who have complained will be compensated first, or whether they will be redeemed in order of purchase, orwhether they are using another formula.  Furthermore, Eaton Vance still has more than $2 billion of ARPS outstanding as to which no plan has been announced. 

The Current Value of Auction Rate Securities

UBS has marked down the values of auction rate securities by 15-30%, using some internally generated formula. Clients’ statements are now showing this reduced value, although there is no market, so putting any market value on these seems optimistic at best, and misleading at worst. 

Using the Martin Act, the New York state securities act, which has more teeth than any other state or federal investor protection statute for prosecutors, Attorney General Mario Cuomo of New York has announced the issuance of subpoenas to several of the brokerage firms selling these securities.  He’s an aggressive, ambitious, prosecutor and will probably make more progress than other states’ regulators, who do not have the benefit of strong investor protection statutes.

Some brokerage firms are offering margin loans so that our clients can pay taxes, etc.  However, we have seen people whose margin interest exceeds the default rates on the ARS.  We have negotiated with firms so that the rates are at least the same, if not lower than the interest being earned.  We caution all investors who are considering taking out a margin loan to make sure the loan documents do not include any release from liability, or even a limitation on the firm’s liability (for example, waiving punitive damages, or claims for interest or attorneys fees) for the brokerage firm. 

We are committed to representing our clients by pursuing their legal claims efficiently and quickly, as well as by obtaining for them any other assistance available by way of the secondary market, or by negotiating interest rates with issuers and sellers of these auction rate securities.  Please contact us at http://www.nygaardlaw.com for more information, or if you have additional information that you think would be helpful to us in prosecuting these cases.

A recent article authored by Vidya Ram on Forbes.com was entitled “Auction-Rate Securities:  From Bad To Worse“.  The title of that article could not paint a better picture of the condition of the Auction Rate Securities markets. 

Every day, the news for investors who have been left holding these illiquid and risky investments has gotten worse.  Last week, several states, including Missouri, have announced investigations into investment banking practices related to the sales of Auction Rate Securities to investors.  The Securities and Exchange Commission (SEC) and the Financial Industry Regulatory Authority (FINRA) have also put their hats in the ring.  However, while regulators try to sort out the mess that once was a $330 billion market, individual investors are left holding what are essentially worthless pieces of paper.

Bloomberg.com has recently reported estimates that approximately $60 billion of the auction rate securities in the market three months ago have been redeemed or will be converted by the issuers.  While this 18% “reduction” in the market is good news for some investors, it unfortunately means that 82% of the market continues to remain unresolved.  The fate of this 82% is in serious doubt, as Citigroup, Inc. has predicted that the auction rate market will “cease to exist.”

With all of the issues in the financial markets, it seems as though investors in Auction Rate Securities are receiving the least amount of assistance.  This has led to the filing of several class actions on behalf of Auction Rate Securities owners, as well as individual attempts to resolve disputes through arbitration or settlement negotiations with the firms who sold these investments.  As a result of these legal actions, it appears that some good is being done.  Several firms have now added information about Auction Rate Securities on their websites and securities regulators are spreading the word.  Unfortunately, this may all constitute to be “too little, too late” for many investors.