(The authors are Reuters Breakingviews columnists. The opinions expressed are their own)
LONDON, Sept 6 (Reuters Breakingviews) - Just when investors in European and U.S. banks thought things couldn’t get worse, 17 financial institutions have been sued over $196 billion-worth of toxic mortgage bonds. Bank shares fell up to 12 percent across Europe with U.S. markets closed. But it's hard to rationalise the falls on the basis of the lawsuit alone.
Investors’ fears are understandable. The central allegation is that banks misrepresented mortgage deals packaged up and sold to quasi-state mortgage giants Fannie Mae and Freddie Mac. Whatever the merits of the case -- and Deutsche Bank, and Bank of America have pointed out that Fannie and Freddie are no neophytes in the mortgage world -- it's not good to get into a scrap with the Federal Housing Finance Agency. Moreover, no specific claims for damages have been registered, leading investors to fear the worst. There is also a worry that a successful case could open the gate to private-sector litigation.
But the scale of the sell-off seems to far outweigh any plausible case for damages that the FHFA could make. The six affected European banks saw their shares lose almost $19 billion in value on Sept. 5, more than a quarter of the $71 billion of bonds they underwrote.
But UBS, which was sued over alleged mis-representation concerning $4.5 billion-worth of mortgage bonds in July, disclosed that $900 million in damages, or 20 percent, is being sought by the FHFA. And it’s unlikely that the agency would win its entire claim.
Now consider Barclays. The FHFA suit concerns eight bond packages that ended up with delinquency, default or foreclosure rates averaging 40 percent. That equates to just under $2 billion at par value. Barclays' market value fell by 9 percent more than this. And these loans are not worthless.
Monday's sell-off was clearly also a lot to do with the mass of nasties surrounding banks stocks -- an unresolved euro zone crisis and fears of global recession. A jumbo lawsuit, even one whose ultimate financial cost may be manageable and distant, could hardly have landed at a worse time.
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-- The U.S. Federal Housing Finance Agency (FHFA) on Sept 2 sued 17 financial institutions which, it alleges, mis-sold $196 billion worth of securities to Fannie Mae and Freddie Mac.
-- The FHFA was established amidst the financial crisis as “conservator” for the two entities, which invest in and guarantee American mortgages worth trillions of dollars. The pair were bailed out by the U.S. government, which has spent $170 billion in an attempt to keep the pair solvent after they lost billions as American house prices collapsed.
-- The FHFA sued UBS over alleged mis-selling of $4.5 billion of mortgage bonds in July. UBS revealed in its second quarter financial report in July that it faces demands from a counterparty -- believed to be the FHFA -- amounting to $900m, or 20 percent of the par value of the affected loans.
-- The FHFA's latest suits were filed shortly before a three-year deadline for filing lawsuits over the bonds runs out.
-- On Sept. 5, shares in the six affected European banks all fell sharply. RBS, with the biggest pool of bonds among affected European banks, fell 12.32 percent, to 21.8 pence, Deutsche Bank fell 8.86 percent, to 23.715 euros, Credit Suisse was off 8.13 percent at 19.99 Swiss francs, HSBC dipped 3.81 percent to 505 pence, Barclays tumbled 6.7 percent, to 157 pence, and Societe Generale fell 8.64 percent to 20.25 euros.
-- Reuters stories: FACTBOX-Who the FHFA has sued over subprime bonds [ID:nN1E7811MD]
-- Federal Housing Finance Agency press release:
Bad Charlotte [ID:nN1E77M10D]
That sinking feeling [ID:nN1E7770OX]
Frannie frown [ID:nN1E76619D]
-- For previous columns by the author, Reuters customers can -- For previous columns by the author, Reuters customers can click on [DOYLE/]
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