Morgan Stanley [1] agreed to pay back $275 million to investors whom the Securities and Exchange Commission [2] say were mislead by a pair of mortgage bonds the company marketed during the financial crisis.
According to the SEC [3], three entities of Morgan Stanley ‒‒ Morgan Stanley & Co. LLC, Morgan Stanley ABS Capital I Inc., and Morgan Stanley Mortgage Capital Holdings LLC ‒‒ misrepresented their delinquency status regarding mortgage loans in the subprime market in 2007. Federal regulations require the disclosure of delinquency information for the mortgage loans serving as collateral.
According to the SEC, Morgan Stanley had a chart showing that approximately 17 percent of its HE7 loans (which guarantee such protections as full replacement costs in the event that a homeowner needs to rebuild a home back to its pre-loss condition) had been delinquent at some point. Morgan Stanley also reportedly used information about payments made after the cut-off date to label the loans as delinquent as of the cut-off date. By using the later payment data, Morgan Stanley reported 46 fewer loans as delinquent, leading the firm to disclose that less than 1 percent of the loans were delinquent, the SEC reported.
“The delinquency status of mortgage loans in an RMBS securitization is vital information to investors because those loans are the primary source of funds by which they potentially can recover and profit from their investments,” said Michael Osnato, chief of the SEC Enforcement Division’s Complex Financial Instruments Unit. “Morgan Stanley understated the number of delinquent loans behind these securitizations during a critical juncture of the financial crisis and denied investors the full extent of the facts necessary to make informed investment decisions.”
The case involving Morgan Stanley comes less than two weeks after Citigroup [4]’s $7 billion settlement [5] with the federal government over similar accusations of misleading mortgage customers during the crisis. Morgan Stanley itself has neither admitted nor denied wrongdoing.