October 3, 2016
AG Jepsen, Banking Commissioner Pérez: RBS enters $120M Settlement with State of Connecticut to Resolve RMBS Investigation
Largest single state settlement in Connecticut history resolves four-year investigation into bank's financial crisis conduct
This news release was issued by the Attorney General's Office.
Connecticut RBS Securities, Inc. will pay $120 million to the state of Connecticut to resolve an investigation into its underwriting of residential mortgage-back securities (RMBS) in the lead-up to the 2008 financial crisis, Attorney General George Jepsen and state Department of Banking Commissioner Jorge Perez announced today.
"The collapse of financial instruments, especially residential mortgage-backed securities, was directly responsible for the financial crisis that led to the Great Recession that so badly impacted the economies of our state and our nation," said Attorney General Jepsen. "RBS failed to properly determine – and misstated – the quality of the mortgage loans comprising many mortgage-backed securities. Over the past four years, my staff – working in close coordination with the Department of Banking – reviewed thousands of documents, emails and other records; participated in depositions of former and current employees; and analyzed detailed data about RBS's processes and procedures for conducting its due diligence. What we found through this investigation was that RBS, one of the largest RMBS underwriters, failed on multiple fronts to ensure that the information it provided about RMBS deals was accurate."
"The ripple effect of the practices of financial institutions coupled with the devaluing of residential mortgage backed securities was felt by residents across Connecticut who were foreclosed out of their homes and lost their jobs as a result of the ensuing financial crisis," said Banking Commissioner Pérez. "We were pleased to have collaborated with the Attorney General's office on this investigation. Examiners and attorneys from our Securities and Business Investment Division used their extensive knowledge of the industry to help identify how the values of these securities were misstated. Together our work helped bring to light where these investors were failed."
An RMBS is a type of mortgage-backed investment product that is backed by the mortgage payments of thousands of homeowners. Investors in these securities are entitled to the cash flows – the interest and principal payments – from the underlying mortgage loans. Prior to the 2008 financial crisis, these securities were backed by thousands of subprime loans that homeowners could not pay back when home prices collapsed and the recession took hold.
From January 2005 to December 2008, RBS served as the lead underwriter for approximately 250 RMBS deals valued at $250 billion. As lead underwriter, RBS was required to conduct due diligence on the pools of residential mortgage loans that collateralized its RMBS deals. This due diligence was intended to ensure that representations made to the public and potential investors about the securities were accurate and complete.
The state alleged that RBS's due diligence process was inadequate and resulted in omissions and misstatements in the representations made to the public and investors about the securities. The state alleged that, on one or more occasions, a material number of loans deviated so greatly from underwriting guidelines that they should have been excluded from the loan pools, yet they were not. In some cases, the state alleged, RBS's own third-party vendors –who conducted an independent review of the loans – gave low grades to certain loans, but RBS regraded them at a higher level and included the loans in the pools.
The state alleged that RBS made representations in its prospectus materials indicating that all mortgage loans were subject to due diligence, that portfolios received thorough credit and compliance reviews and that loans would not be included in RMBS deals if RBS became aware of anything that would cause it to believe that the loan did not meet underwriting guidelines or quality standards. The state alleged that RBS's conduct was dishonest and/or unethical and that RBS made untrue statements in representing its securities products.
"RBS was one of the key players in the RMBS business in the lead up to the financial crisis, underwriting $250 billion in securities that have to date suffered more than $40 billion in losses," Attorney General Jepsen said. "With today's settlement, we are holding RBS accountable under Connecticut law for its behavior that contributed significantly to the 2008 financial crisis."
The Department of Banking will receive $250,000 of the settlement funds to be used for financial education and training and a financial literacy program. The remainder of the settlement funds – $119,750,000 – will be deposited in the state's General Fund.
"One of the primary missions of our Department is to protect Connecticut residents and consumers of financial products. This settlement helps us do that by compelling a modification to RBS's business practices that ensures this does not happen in the future," said Commissioner Pérez. "The money the Department of Banking receives as a result of this settlement will be used to continue to train staff to identify, and investigate these practices in the future and provide educational outreach to Connecticut residents."
RBS is no longer engaged in the business of securitizing newly originated residential mortgage-backed securities. Additionally, as part of the settlement, for ten years RBS will be required to certify with the state Department of Banking its compliance with conditions of the Supervisory Plan approved by the National Adjudicatory Council of the Financial Industry Regulatory Authority. RBS has agreed to comply with all applicable state law.
RBS has also signed a consent order with the Department of Banking to resolve claims based on RBS plc's agreement with the United States Department of Justice on May 20, 2015 to plead guilty to one violation of the Sherman Antitrust Act for conspiring to manipulate the price of U.S. dollars and euros exchanged in the foreign currency exchange (FX) spot market.
This settlement represents the largest single state settlement in the history of the state of Connecticut. The next largest single state settlement in Connecticut was last year's settlement with Standard & Poor's for its conduct in the lead-up to the 2008 financial crisis; Connecticut received $36 million from that settlement and led the national investigation.
Assistant Attorneys General Laura Martella, John Langmaid and Matthew Budzik, head of the Finance Department, assisted the Attorney General with this matter. From the Department of Banking Principal Financial Examiner Mark Hornyak, Staff Attorney Elena Zweifler, Assistant Director for Securities and Business Investment Cynthia Antanaitis and retired former Director for Securities and Business Investment Eric Wilder, assisted Commissioner Pérez.