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Home > Cases > Auction-Rate Securities > Wall Street Secrets: The Failure of Auction-Rate Securities

Wall Street Secrets: The Failure of Auction-Rate Securities

Some things are better left unsaid. And apparently a few Wall Street investment banks took that sentiment to heart when it came to explaining the risks associated with auction-rate securities to clients.

According to a June 9 article in the Boston Globe, UBS Financial Services Inc. became aware that the auction-rate securities market was in trouble as early as December 2007, yet continued to market and sell the investments to various clients.

Auction-rate securities are municipal bonds, corporate bonds, or preferred stocks that have interest rates reset through auctions held every seven, 14, 28, or 35 days. In February 2008, the $330 billion auction market seized up when auctions for the securities failed to attract enough bidders. Compounding problems was the decision by the investment banks and securities firms that once financially supported the market to pull back their reinforcement.

And while UBS may have publicly said it was caught off guard over the auction-rate securities meltdown, its brokers apparently knew enough to advise several large investment banking clients of the market's problems well in advance of when trading came to a screeching halt in February, according to the Boston Globe article.

If that is indeed the case, it doesn't bode well for UBS. Already, the Swiss banking giant is the subject of an investigation by Massachusetts and New Hampshire securities regulators - as well as one by the Securities and Exchange Commission (SEC) - for allegedly misrepresenting auction-rate securities to investors. UBS also is under investigation to determine what role, if any, it may have played in allowing the auction-rate market to collapse.

Interestingly, UBS already has owned up to at least some culpability in the auction-rate fiasco. In a settlement reached in May, the company agreed to repay 18 Massachusetts cities and towns and the Massachusetts Turnpike Authority the $37 million they had invested in the auction-rate securities market.

Meanwhile, individual and small business investors who are still trapped in the frozen auction-rate securities market continue to wait for their salvation. For them, any potential recourse could be a long time coming. Recent news stories report that dozens of investment firms, including UBS, Bank of America and Wachovia, are blocking attempts by investors who want to sell their securities on the secondary market. The reason, contend the banks, is that releasing the securities would cause unnecessary and significant losses for investors.

A more accurate explanation may be if investors do sell their securities, at a discount, they can establish damages - and therefore pave the way for possible litigation against the brokerage firms that sold them the auction-rate securities as cash-like investments.

Instead, UBS, along with other investment banks, has begun marking down the value of the auction-rate securities held in client accounts, in addition to offering cash loans and using the locked-up investments as collateral.

These kinds of offers are little comfort, however, to scores of investors held hostage in a still-frozen market and by the brokers responsible for leading them to invest there in the first place. Their only solace is empty promises of good-as-cash investments - investments that are now illiquid and, just as important, out of reach because the banks won't allow them to sell their securities even if a buyer is found.

As the difficulties over auction-rate securities continue to rage on, many analysts and financial experts predict that the end of the auction market may very well be a reality in the not-so-distant future. As for Wall Street, its future is less predictable. At the very least, it can expect a slew of upcoming lawsuits from disgruntled investors, not to mention a loss in investor confidence that may never be restored.

Our affiliation of lawyers is actively involved in advising individual and institutional investors in evaluating their legal options when confronted with subprime and other mortgage-related investment losses.


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