On August 8, Barclays Bank PLC and Barclays Capital Inc. (collectively “Barclays”) reached a $100 million settlement to resolve a 44-state multistate investigation that exposed Barclays’ fraudulent and anticompetitive schemes to manipulate the London Interbank Offered Rate (“LIBOR”) from 2005 to 2009.  The investigation, led by Attorney General Eric T. Schneiderman of New York and Attorney General George Jepsen of Connecticut, revealed that Barclays’ managers instructed LIBOR rate submitters to artificially lower their LIBOR submissions in order to avoid the appearance that Barclays was in financial difficulty.  Also, Barclays’ traders asked LIBOR rate submitters to adjust the submissions to benefit the traders’ positions.

LIBOR is a benchmark that is designed to reflect the cost of borrowing funds in the market, and it is applied to many types of financial instruments, including futures, swaps, options, and bonds.  It is also referenced by consumer lending products such as mortgages, credit cards, and student loans.  LIBOR manipulation had a widespread impact on global markets and consumers, including government entities and not-for-profit organizations.

New Jersey Attorney General Chris Porrino highlighted the importance of this settlement: “As we all recognize, when public confidence in banks and the practice of investing erodes, the entire economy can suffer.  This is an important settlement, not only for the recovery it provides for government entities and nonprofit organizations that were harmed, but also for the message it sends — that manipulation of financial markets is not acceptable and will not be tolerated.”

While Barclays is the first big bank to reach a settlement for LIBOR manipulation, it will likely not be the last.  Connecticut Attorney General George Jepsen stated that the multistate investigation “developed significant evidence that some banks, like Barclays, that were responsible for setting LIBOR rates intentionally manipulated LIBOR in order to protect their public image and to help the business side of their operations be more profitable.”

Last week, a German regional court in Braunschweig ordered that shareholder litigation against Volkswagen AG proceed to a German court of appeals.  The 170 separate shareholder suits allege that Volkswagen defrauded investors when it concealed that the company falsified emissions data in 11 million of its diesel vehicles.   Together, the suits bring claims of nearly €4 billion.

Although German law does not provide for traditional American-style class action litigation, the Capital Markets Model Case Act allows a German trial court to refer multiple investor suits with common questions of fact or law to a court of appeals.  The appellate court then selects a bellwether case to try, the outcome of which will be binding on the remaining cases.

In the Volkswagen cases, the plaintiff private and institutional investors allege that the company evaded emissions standards by rigging the software in millions of its diesel cars to allow those vehicles to emit more pollution after initial testing by government regulators was complete, when the vehicles were sold to consumers.  The investors claim that Volkswagen decided to manipulate the emissions readings as early as 2005, and was put on notice of the fraud by both its suppliers and technicians in 2007.  Additionally, they allege that Volkswagen was aware of potential U.S. regulatory exposure as early as 2008, and further, that the company should have disclosed the issue after the EPA began investigating it in 2014.

Ultimately, the plaintiffs allege that Volkswagen had a duty to disclose both its fraud and the risk of ultimate government action against the automaker.  Without such disclosures, the investors were deprived of the opportunity to decide whether and when to sell their Volkswagen stock.  They allege that they were damaged in September 2015, when the company disclosed that it had rigged the emissions software.

Progress in the German suit could further encourage the plaintiffs of the shareholder class action pending against Volkswagen in California, where the company’s motion to dismiss is also pending.  Volkswagen has separately settled with the U.S. government, agreeing to pay $15 billion, repurchase or repair vehicles, repay car owners, and pay to promote zero-emission vehicles.

A Connecticut-based trading firm filed a class action lawsuit against 25 large banks, alleging they used their “privileged position” as primary dealers to collude to artificially depress the auction prices of U.S. Treasury securities at the expense of the Treasury and secondary market participants.  According to the complaint, the plaintiff, Torus Capital, LLC, performed a statistical analysis that revealed the Treasury auction yields were artificially high (and prices correspondingly low) “from at least 2007 through early June 2015,” when the Department of Justice (DOJ) announced it “had commenced an investigation into Defendants’ misconduct within the Treasuries markets.”  The DOJ investigation is ongoing.

The complaint describes findings from the analysis of “reissued Treasuries,” or securities auctioned by the Treasury that are identical in principal amount and maturity date to securities previously auctioned.  In a competitive market, since the reissued Treasuries are identical to those previously issued, the price and yield of the reissued securities and the previously auctioned securities trading on the secondary market should be the same or similar.  According to the complaint, the plaintiffs’ analysis found the yields “were inflated in 69% of the auctions, by 0.91 basis points,” a result the complaint alleges “cannot be explained as a result of random chance.”

The complaint seeks to certify a class of “many thousands” who sold Treasury securities or Treasury futures “around the time of a Treasury auction” and others who were parties to swaps, contracts, or other instruments where “cash flows were tied to a Treasury Security auction result” since January 1, 2007.  The action was filed on July 7 in the U.S. District Court for the Southern District of New York.

On July 7, the Southwark Crown Court in London sentenced four former Barclays traders to prison sentences, ranging from just under three years to six and a half years, for their involvement in a conspiracy to manipulate the London InterBank Offered Rate (“LIBOR”) between 2005 and 2007.  This trial was the third in Britain to focus on the global manipulation scandal.

The four traders, Peter Johnson, Jonathan Mathew, Jay Merchant, and Alex Pabon, and their colleagues, Stelios Contogoulas and Ryan Reich, were charged by the United Kingdom’s Serious Fraud Office (“SFO”) in 2014.  After an 11-week jury trial, the four traders were convicted of conspiring with each other and others to procure or make submissions of rates into the US Dollar LIBOR setting process.  The jury was unable to reach a verdict regarding Contogoulas and Reich, who will be retried in February 2017.

Former head of Barclays PLC dollar swaps desk in New York, Jay Merchant was portrayed as the ringleader of the conspiracy and received the longest sentence of six and a half years.  In Judge Anthony James Leonard QC’s Sentencing Remarks, he stated that Merchant “[bore] the greatest responsibility…It was under [his] leadership on the desk that the requests to the Libor submitters really took off.”  Even though Merchant received the longest sentence, the judge stated that he was “left in no doubt that [they] were all, for varying amounts of time, involved in a deliberate plan to manipulate the rates for [their] benefit and that of Barclays…”

Director of the SFO, David Green CB QC, commented that the “key issue in this case was dishonesty.”  He also explained how this trial illustrated the international effect of the LIBOR manipulation scandal: “The trial in this country of American nationals also demonstrates the extent to which the response to LIBOR manipulation has been international and the subject of extensive cooperation between US and UK authorities.”

While this verdict was a great victory for the SFO, it was by no means an end to their LIBOR investigation.  So far, a total of 19 individuals have been charged.  The SFO continues with its investigation, with six individuals awaiting trial on September 4, 2017, for the alleged manipulation of the Euro Interbank Offered Rate (“EURIBOR”).

Financial services companies and their directors and officers are frequently the target of lawsuits alleging dishonest or fraudulent conduct.  Additionally, federal and state agencies increasingly target directors and officers for misconduct in the management of corporations and are devoting significant resources to investigating companies in the finance sector.

When properly structured, insurance provides one way to address the risk of such claims.  Although there is a common misconception that there can be no coverage for claims alleging intentional misconduct, insurance policies commonly provide such coverage.  For example, directors and officers liability insurance policies provide coverage for securities fraud and breach of fiduciary duty while employment practices liability policies provide coverage for claims alleging discrimination and wrongful termination.

A recent opinion by the United States Court of Appeals for the Second Circuit affirms this important point:  Nat’l Fire Ins. Co. v. E. Mishan & Sons, Inc. (“Emson”), 2016 U.S. App. LEXIS 10151 (2d Cir. June 1, 2016).  In the case, Emson faced two class action lawsuits alleging that it conspired with two other companies to deceptively trap customers into recurring credit card charges. The causes of action in the lawsuits included claims for fraud, violations of state consumer protection acts, violations of the Telephone Consumer Protection Act, and unjust enrichment.  After Emson sought coverage under its liability insurance policy, the trial court held that coverage was barred by a knowing violation exclusion because all of the allegations were caused by knowing violations of another’s rights.  On appeal, the Second Circuit reversed.  The court reasoned that it could not conclude “that the policy does not provide coverage, because the conduct triggering the knowing violation policy exclusion [was] not an element of each cause of action.”  The court noted that Emson could be liable even absent evidence “that it knowingly violated its customers’ right to privacy,” because “the actual conduct described [did] not rule out the possibility that Emson acted without intent to harm.”  The court, therefore, found that the insurer had an obligation to fully defend Emson in both lawsuits.

Given that they are frequently the target of suits alleging fraud, conspiracy, and other intentional wrongdoing, the case has broad implications for sophisticated companies engaged in the global capital markets.  The bottom line is that policyholders should not assume that a claim is not covered simply because it alleges intentional misconduct.  See also J.P. Morgan Sec. Inc. v. Vigilant Ins. Co., 126 A.D.3d 76, 82, 2 N.Y.S.3d 415, 419 (N.Y. App. Div. 2015) (payments by Bear Sterns to settle claim with SEC were not excluded by dishonest acts exclusion since settlement did not constitute adjudication of wrongdoing within meaning of exclusion).

Policyholders, however, are well-advised to make sure that their liability insurance policies are written to maximize the likelihood that such claims will be covered.  As highlighted by the Emson decision, exclusions that purport to bar coverage for dishonest or fraudulent conduct are one common obstacle to coverage for claims against financial institutions and financial services companies.  See, e.g., Dupree v. Scottsdale Ins. Co., 129 A.D.3d 586, 587, 12 N.Y.S.3d 62 (N.Y. App. Div.) (claims against chief investment officer alleging conspiracy to commit bank fraud, bank fraud, and making false statements were not covered following criminal conviction); see also Millennium Partners, L.P. v. Select Ins. Co., 24 Misc. 3d 212, 217, 882 N.Y.S.2d 849, 854 (Sup. Ct.) (funds paid by hedge fund to settle claim constituted disgorgement of improperly obtained funds and were not insurable).

To minimize the scope and effect of these types of exclusions, policyholders should carefully consider the way their insurance policies are drafted and address, among other things, the following three issues:

  • Make sure that the language of any dishonesty exclusion specifically identifies the conduct that will be excluded.  The exclusion should not bar coverage for “reckless” or “criminal” conduct, as that could limit coverage for a variety of common claims.
  • The application of any dishonesty exclusion should be tied to a final adjudication in the underlying case.  Including this language will help preserve coverage for defense costs and possibly settlements, and will help avoid a scenario where you are re-litigating the merits of the underlying claim in a subsequent coverage suit.
  • Include a severability clause in any dishonesty exclusion so that the exclusion applies only to the bad actor.  This way the exclusion does not bar coverage for any innocent insureds.

The Appellate Division of the New York Supreme Court, First Judicial Department, held this week that Bank of New York Mellon (BNY Mellon) could be liable for its failure to maintain complete mortgage loan files in its capacity as trustee for certain residential mortgage backed securities (RMBS).  The appellate court affirmed the trial court’s denial of BNY Mellon’s motion to dismiss the claims brought by plaintiff investors.

In a suit initially filed in the Commercial Division before Justice Saliann Scarpulla, the plaintiffs alleged that BNY Mellon failed to meet its contractual obligation to keep and preserve complete mortgage files documenting the loans serving as collateral for the RMBS at issue.  When the housing market collapsed and borrowers defaulted on their mortgage loans, many of those properties entered foreclosure and became real estate owned (REO).  To successfully sell an REO property, a trust must be able to show that it has good and marketable title to that property.  The plaintiffs alleged that BNY Mellon’s lack of complete mortgage files caused defects in title for those properties, resulting in delays or even the complete inability to sell certain homes, as well as liability for properties already sold.  The plaintiff investors, including SBLI USA Mutual Life Insurance Company and Commerce Bank, brought claims for breach of contract, breach of fiduciary duty, and negligence against BNY Mellon.

Judges John W. Sweeny, Rolando T. Acosta, Paul G. Feinman, and Marcy L. Kahn of the Appellate Division agreed with Justice Scarpulla that the plaintiffs sufficiently alleged breach of contract against BNY Mellon.  Because trustees owe certificate holders a duty to perform “basic, nondiscretionary, ministerial functions,” it would be improper to dismiss the plaintiffs’ suit before allowing discovery into whether BNY Mellon failed to preserve and maintain the mortgage files at issue.  The plaintiffs also succeeded in alleging a negligence claim, as the duty to act with due care was not duplicative of the breach of contract claim.  In contrast, the appellate court affirmed dismissal of the plaintiffs’ claim for breach of fiduciary duty, agreeing that the relationship between the parties was contractual.

The case is captioned Commerce Bank et al. v. the Bank of New York Mellon, case number 651967/2014, in the Commercial Division of the Supreme Court of the State of New York, County of New York.

As Puerto Rico’s dire economic health continues its downward spiral, a proposed class action complaint was filed against Ambac Financial Group, Inc. (“Ambac”), and four individual company officials – including the current and former chief executive officer, the current chief financial officer, and the chairman of the board – in New York federal court on June 28. The proposed shareholder class includes all investors who purchased or acquired Ambac stock between November 13, 2013, and June 30, 2015 (the “Class Period”). The complaint accuses Ambac and its executives of violating the Securities Exchange Act by concealing the declining value of its bond portfolio, which includes approximately $2.5 billion in Puerto Rican bonds, causing investors to lose money and suffer damages.

The complaint alleges that Ambac stock traded at artificially inflated prices during the Class Period as a result of “numerous materially false and misleading statements and [the omission of] material facts concerning [] the Company’s losses and loss exposure on its public finance bond portfolio” contained in Ambac’s SEC and other public filings. Complaint ¶ 3, 6. According to the complaint, Ambac knew but concealed from investors that the bondholder’s “credit risk surveillance strategies were inadequate…and [that] Ambac failed to maintain adequate internal controls over financial reporting.” Id. ¶ 7.

Investors allegedly learned the truth when Puerto Rico’s governor announced on June 29, 2015, that the commonwealth’s approximately $70 billion in debt was not payable, and that Puerto Rico would likely default on interest payments. This first alerted investors that if the U.S. territory was likely to default, Ambac was potentially liable for up to $2.5 billion of Puerto Rico’s debt it insured. Id. ¶ 8. According to the complaint, after the governor’s announcement, Ambac’s stock price fell by roughly 29 percent, causing investors to sustain significant losses.

The case is Joseph Pirinea v. Ambac Financial Group Inc. et al., case number 1:16-cv-05076, in the U.S. District Court for the Southern District of New York.

Two former Deutsche Bank traders accused of manipulating the London InterBank Offered Rate (“LIBOR”) were indicted by the Department of Justice (“DOJ”) on June 2, 2016. Dubbed “the world’s most important number,” LIBOR is a benchmark for global short-term interest rates that underpins trillions of dollars in mortgages and other debt. The case against the two indicted individuals, Matthew Connolly and Gavin Campbell Black, occurs more than a year after Deutsche Bank resolved its role in the LIBOR scheme by agreeing to pay $2.5 billion in regulatory and criminal penalties, and signals increased DOJ vigilance in the years-long probe into the manipulation of benchmark rates.

Since the onset of the LIBOR investigation—which was started by the U.S. Commodity Futures Trading Commission (“CFTC”) eight years ago—the DOJ has charged 15 individuals linked to the case, two of whom were convicted at trial while four pleaded guilty. After the most recent indictment, Assistant Attorney General Leslie R. Caldwell of the DOJ’s Criminal Division cautioned that “manipulation of . . . [LIBOR] undermines the integrity of our financial system and the Justice Department will continue to hold accountable both the financial institutions and the individuals responsible for this conduct.”

The CFTC’s Enforcement Director Aitan Goelman expressed similar views just a day earlier, when the CFTC announced Citibank’s agreement to pay a combined $425 million to resolve claims of manipulating and attempting to rig three benchmark rates. “We will vigorously continue to investigate any efforts to manipulate financial benchmarks,” Goelman warned. These prosecutions are part of an ongoing effort by an interagency Financial Fraud Enforcement Task Force—established by President Barack Obama in November 2009—that aims “to wage an aggressive, coordinated and proactive effort to investigate and prosecute financial crimes.”

The recent developments seem to be consistent with the goal of the Task Force, and if they are any indication of what is to come, we are likely to see more individuals indicted for benchmark manipulation-related conduct in the future.

*Joon Hwan Kim is a summer associate with the firm. He is not an attorney.

On May 23, 2016, the Second Circuit Court of Appeals vacated a judgment which dismissed antitrust claims against 16 big banks.  The plaintiffs’ claims arose from the alleged manipulation of what has been called “the world’s most important number”—the London InterBank Offered Rate (“LIBOR”), a primary benchmark for global short-term interest rates.  According to the plaintiffs, the defendants, who are members of a panel assembled by a bank trade association to calculate a daily interest rate benchmark, conspired to submit artificial, depressed rates during the period of August 2007 to May 2010.  The plaintiffs, who are members of a class action that paid interest indexed to LIBOR, alleged that they suffered injury because they held positions in various financial instruments that were negatively affected by the defendants’ fixing of the benchmark interest rate.

The United States District Court for the Southern District of New York dismissed the plaintiffs’ claims on the grounds that the complaints failed to plead antitrust injury, which is required to successfully establish standing under the Clayton Antitrust Act.  The district court explained that because the LIBOR-setting process was a “cooperative endeavor,” there could be no anticompetitive harm.

The Second Circuit Court of Appeals disagreed, stating that “[t]he Sherman Act safeguards consumers from marketplace abuses; [plaintiffs] are consumers claiming injury from a horizontal price‐fixing conspiracy.  They have accordingly plausibly alleged antitrust injury.”  The court vacated the lower court’s decision and remanded the case to determine whether the plaintiffs sufficiently alleged the second requirement to establish standing—whether the plaintiffs are efficient enforcers of antitrust laws.

While limited in scope, this decision may affect how courts assess standing in antitrust cases involving other benchmark rates.