Wall Street Firms Knew That Failure of the Auction Rate Securities Market Was Imminent


The Boston Globe has reported that, in addition to UBS Financial Services, other major Wall Street firms expected the failure of the auction-rate securities markets prior to the collapse in February of this year, yet failed to warn investors of the impending disaster. In the months leading up to the collapse, JP Morgan Securities, Inc., Lehman Brothers, Morgan Stanley, Bear Stearns Cos. and Merrill Lynch & Co. warned the Commonwealth of Massachusetts that the auction-rate markets were in trouble and that the state should consider refinancing some of its debt. Unfortunately, this information was not shared with smaller state entities or individual investors.

Previous reports had revealed that, as early as last summer, UBS, Citigroup and Bank of America, among others, had been advising issuers of student loan auction rate securities that their auctions were going to fail unless the issuers agreed to waive caps on the amount of interest they could pay. This information was also withheld from individual investors.

This information would have been particularly important to investors in light of how auction rate securities were sold. Auction rate securities, which were sold to many investors as “cash equivalents”, are long term bonds which are issued by cities, non-profit organizations, student loan agencies, and closed end mutual funds, whose interest rates reset by auction every 7 to 35 days. Unfortunately, auction rate securities become illiquid, long-term investments when auctions fail. There have been thousands of auction failures this year after Wall Street investment firms withdrew their support for the auction rate markets in February. As a result, investors now own illiquid investments which they cannot sell. This result was completely contrary to the representation that auction rate securities were liquid, super-safe investments with interest rates slightly superior to conventional money markets funds. Obviously, any reasonable investor would have wanted to know that the Wall Street firms expected auction failures with attendant illiquidity.

A multi-state task force is examining the actions of the firms who were selling auction-rate securities. The Massachusetts Securities Division, part of this task force, has recently charged UBS with fraud for failing to warn its brokers and individual investors about the potential problems with the auction-rate market. It seems almost certain that additional regulatory and individual civil actions will follow.

Page Perry is an Atlanta-based law firm with over 125 years collective experience representing investors in securities-related litigation and arbitration. While past results are not indicative of future success, Page Perry’s attorneys have recovered over $1,000,000 for clients on more than 30 occasions. Page Perry’s attorneys are actively involved in representing institutional and individual investors in auction-rate securities cases. For further information, please contact us.