Catalyst Health Solutions, a provider of pharmacy benefit management services, has won a $9.8 million FINRA arbitration award against Credit Suisse in connection with student loan-backed auction rate securities. This is one of several successful arbitrations brought against Credit Suisse by investors since the auctions for such securities froze in early 2008, leaving thousands of investors holding billions of dollars worth of illiquid securities. The particular securities involved in the Catalyst award were backed by student loans; other awards, including a 2009 $431 million award in favor of STMicroelectronics and a May 2010 award ordering Credit Suisse to buy back the securities it sold to Luby’s Restaurants LP, involving auction rate securities backed by municipal bonds or preferred shares.
Auction rate securities are fixed-income debt instruments ? typically municipal bonds, preferred shares of closed end mutual funds, or asset-backed securities collateralized by student loans or mortgages ? for which the interest rate is regularly reset through an auction process. Auction rate securities were once routinely marketed as safe, cash equivalents that were highly liquid, but the broker-dealers who sold them failed to disclose that liquidity was entirely dependent upon the success of the auction process, which was being artificially supported by the undisclosed participation of brokers bidding in the very auctions in which they had an interest. Auctions were once held every 7 to 35 days by the brokerage firms that dealt in auction rate securities, but auctions ground to a halt in February 2008 because they were no longer viable investments and broker-dealers who had previously propped up the market by bidding in their own auctions were no longer inclined to invest in them. The result has been that many investors have been unable to cash out even at a loss, and investors who were led to believe that they were purchasing a liquid cash equivalent have learned that they essentially have no liquidity at all. Others have been forced to take steep losses by selling at a discount in a limited secondary market.
Since the market collapse, there have been many regulatory settlements with broker-dealers that have allowed certain investors to redeem their auction rate securities at par, but many of those investors have made claims for consequential damages caused by the loss of liquidity?for example, lost business opportunities that they were unable to take advantage of. Many more investors have still not achieved liquidity, however, because the broker-dealers who sold them their auction rate securities were not party to the regulatory settlements or because the investors were not eligible under the terms of the settlements, which primarily benefited individual “retail” investors. Some investors who have been unable to redeem their securities have been able to sell them, at a steep discount, in a limited secondary market, forcing them to take substantial losses. Others have continued holding the securities, which have long-term maturities but are locked into paying short-term interest rates?in some cases less than one percent for periods of more than thirty years.
“The problems with the auction rate securities are by no means limited to Credit Suisse,” says Craig T. Jones, of Page Perry in Atlanta, noting that approximately 15 investment banks and brokerage firms have entered into settlements with regulators since the market collapse. Page Perry represents a number of investors who are still holding illiquid auction rate securities, along with others who have gone ahead and taken a loss on the secondary market. “But the Credit Suisse awards are especially noteworthy since two of the bank’s brokers were sentenced to prison for federal securities fraud in connection with auction rate securities sales, mainly because they told clients that they were getting securities backed by government guarantees but they were in fact buying CDO (collateralized debt obligations) securities backed by mortgage debt ? which was the type of stuff that nearly brought down the entire financial industry in 2007 to 2008.
“Now that the regulatory settlements have largely concluded, many investors have learned that they are ineligible for those settlements, either because of the size of their investment or the date when their securities were purchased.” Furthermore, says Jones, “there are several large broker-dealers who were either not targeted by regulators or have not yet been party to the settlements. ” Because it has been two years since the collapse of the market, investors who are still holding illiquid auction rate securities need to be concerned about the statute of limitations. “If you still do not have liquidity at this point,” says Jones, “you may never get it unless you take legal action. Under the laws of some states, the time for doing that is about to expire, and it will eventually run out in other states as well. If you are thinking about consulting a lawyer, you need to do it now before it is too late.” Jones’ law firm, Page Perry, is based in Atlanta but represents investors in securities arbitrations and lawsuits all over the country.