Prosecutions of Securities Fraud Will Unravel Mortgage Mess

EDITOR’S NOTE: The fraud is that they lied about the quality and legal status of the mortgages, as well as the quantity of the mortgages. They lied about what investors were getting. Prove that and you get two for the price of one. Because when that is proven in court, especially in criminal prosecutions where the proof is beyond a reasonable doubt, then the proof and the verdict can be used to show that that the same lies and the same method of operation was used with the borrowers.

If you look at it from some perspective you can see that the sale to investors was identical to the sale to borrowers. Both relied upon fraudulent misrepresentations about the same facts. Both involved appraisal/ratings fraud, which are the same thing.

See Full Article on Syracuse.com

Securities Fraud: Public interest compels prosecutors to act boldly

Published: Friday, January 06, 2012, 2:00 AM

In late 2006, when the overheated and under-regulated mortgage investment market already was starting to self-destruct, the giant German financial institution Deutsche Bank began selling collateralized debt obligations (CDOs) under the name Gemstone 7.

Bankers at the fourth-largest CDO marketer in the United States knew the subprime mortgage securities in the $1.1 billion Gemstone 7 offering were unstable. Mortgage defaults were accelerating, and the value of the securities was dropping. In its subsequent analysis of the six-month sale period for Gemstone 7, the U.S. Senate’s Permanent Subcommittee on Investigations discovered the bank’s own employees dismissed the securities as “crap” and “pigs.” One sales officer wrote in an email: “We need to sell it now while we still can.” Wrote another: “I think we will price this just before the market falls off a cliff.”

Did those salespeople share their misgivings with prospective customers? No, they promoted the doomed securities relentlessly — even as some of the bank’s own traders bet against Gemstone 7. Ratings agencies were no help. Although Moody’s and Standard & Poor’s had bestowed subpar ratings to one-third of Gemstone 7’s assets, the agencies eventually rated 73 percent of these securities AAA. Deutsche Bank proceeded to sell $700 million of Gemstone 7 securities.

Those millions turned to dust in the hands of investors. So did much of the $400 million worth of Gemstone 7 securities Deutsche Bank was unable to unload despite its best — or worst — efforts.

The saga of Gemstone 7 is just a small part of the financial collapse. In the year after December 2006, Deutsche Bank alone put together 15 similar CDOs with a claimed value of $11.5 billion, earning $6 billion from its sales of tainted securities. Investors saw trillions of “face value” disappear. U.S. taxpayers paid hundreds of billions to bail out tottering financial institutions. There were some financial settlements of egregious investment scams — but not one criminal conviction of a major banker involved in the historic scandal.

Enonomist Jeff Madrick of Cooper Union, and Frank Partnoy, who teaches finance at the University of San Diego, recently singled out Gemstone 7 as a case worth prosecuting. A guilty verdict “would establish precedents that would make other prosecutions workable,” they write. “Then — and perhaps only then — would a strong deterrence against such activities be created.”

There are daunting obstacles to such federal prosecutions. Some worry that going after bankers could precipitate another financial crisis. Wading through mathematical investment formulas with a jury is a challenge. Plus, banks include pro forma warnings and disclaimers in their solicitations — and will argue that sophisticated investors should know the risks before they take the plunge. They can point to rating agencies that certified their junk securities as squeaky clean. Wall Street firms will hire the best lawyers money can buy.

But none of those obstacles trump the compelling public rationale for prosecuting the schemers who nearly brought down the U.S. economy. “If prosecutors are paralyzed by fear of losses and the complexity of these cases,” write Madrick and Partnoy, “justice may never be done.”