They've been called "braindead," "negligent," and "otiose." But some trustees of mortgage-backed securities are proving useful to investors after all in repurchase fights.
Accused by investors' representatives of failing to stand up to mortgage-servicer misconduct, trustees in two recent cases have gone to bat against a major banking firm, JPMorgan Chase, over access to loan files.
Though rare, the trustees' lawsuits offer proof of their capacity to act. The moves also raise the possibility that behind the scenes, against less combative servicers, trustees may be obtaining loan data essential for MBS repurchase requests.
Trustee actions at the very least can strengthen investors' negotiating position. JPMorgan Chase has fought requests by Wells Fargo's and Deutsche Bank's, but it has not taken the hard line of complete inaccessibility of the data. The sparring may be more about determining how and when data are released rather than whether they are released at all.
"With the trustee on board, [getting access to data] should be completely mechanical, zero issue at all," said Joe Mason, a finance professor at Louisiana State University's college of business.
The two trustee suits, one brought by Deutsche Bank and the other by Wells Fargo, both center on potential mortgage-repurchase requests related to private-label MBS serviced by JPMorgan Chase. Both suits were reported by Bloomberg News.
But the circumstances appear to differ beyond that, with those of Washington Mutual's failure potentially playing a key role in Deutsche's actions. While Washington Mutual's 2008 federal receivership only lasted a few minutes, it may have triggered a formal servicer default that led Deutsche to take a more active role on behalf of investors. (Deutsche's court filings notably do not reference investor demands related to the case.)
Another impetus for trustee action was also at hand. Washington Mutual's securitizations had been the subject of a Senate Permanent Subcommittee on Investigations inquiry that found detailed evidence of quality control failings and inadequate loan repurchases.
"The way (pooling and service agreements) I've read work is, that upon the insolvency of the servicer, the trustee's obligations change, significantly," said Christopher Peterson, a professor at the University of Utah's law school. "The trustee is supposed to step in, put its hands on the joystick, and make sure that everything doesn't fall apart."
"It would make sense to me that Deutsche Bank is acting on its own capacity," he said. "I would tend to say they have that obligation once Wamu disappears."
Deutsche filed its case in 2009 against both JPMorgan Chase — which acquired Washington Mutual — and the Federal Deposit Insurance Corp., though its most aggressive demand for documents occurred just last month. If it wins the case, whether JPMorgan or the FDIC should be held responsible would still have to be determined.
The higher standard for duties that Deutsche may now be exercising on Washington Mutual securitizations is bad news for JPMorgan Chase, especially given the size of Washington Mutual's total output of mortgage-backed securities. But though servicer defaults were common following the housing bust, the trustee actions in the Washington Mutual case may remain an outlier.
The very default that triggers greater trustee action would normally rob a trustee of a solvent counterparty to pursue. The combination that made Deutsche's actions feasible — a servicer default coupled with a deep-pocketed target — isn't common.
The other case, brought by Wells Fargo, is occurring without the benefit of a servicer default, and consequently entails greater outside involvement to spur trustee action. Centered on Bear Stearns' EMC Mortgage Corp., the case accuses EMC of "playing rope-a-dope" by repeatedly promising to turn over documents and never delivering. While investors representing 42% of the deal were originally represented by Grais & Ellsworth LLP, a prominent law firm in the private-label litigation field, Wells' case is now being litigated by the Ropes & Gray and Abrams & Bayliss law firms.
The case appears to be the result of an organized investor push.
"We often work with investors, but always within the limits of the governing pooling and servicing agreement," a Wells Fargo spokeswoman wrote in an email to American Banker. "Occasionally, as in the case against EMC, our efforts with the investors may result in Wells Fargo initiating litigation seeking the production of the servicer's files."
The law firms working on the case either did not respond to phone calls or said they could not discuss it.
JPMorgan Chase and Deutsche declined to comment on pending litigation.
Regardless of which investors pressed for the Wells suit, however, it would seem to be a template for how investors can get trustees to champion their interests. Wells declined to discuss the specific details of its actions, but securitization attorneys and law professors have routinely held that a trustee would never demand records or pursue litigation on behalf of a trust without a sufficient quorum of investors (usually at least 25%), legal indemnification and a source of funding for all actions undertaken.
According to comments by Tal Franklin, who runs an investor clearinghouse, by last summer the clearinghouse already had sufficient registrations to surpass the 25% quorum in thousands of deals. That would allow its members to move ahead with demands — assuming, of course, that clearinghouse participants were willing to offer the indemnifications and financial support necessary for trustees like Wells to pursue any action.
"Give it another year," said Peterson. "People holding [RMBS] have more time to stew, and that may lead to them getting organized. Getting lawsuits organized is hard."
Trustee involvement won't guarantee success: As the JPMorgan Chase cases show, servicers may choose to fight or delay trustees rather than hand over the loan files necessary to make repurchase requests.
But JPMorgan Chase's resolve to fight the trustee document requests may have its limits. As the trustees' briefs both note, the pooling and servicing agreements that JPMorgan Chase is party to appear to give trustee requests broad latitude. According to the agreement in the EMC deal, all mortgage records and files "shall be held by the servicer for and on behalf of the trustee and the certificate holders and shall be and remain the sole and exclusive property of the trust." The documents must be made available "at any time upon reasonable request and during normal business hours."
"[T]he PSA expressly states that the requested documents sought by the trustee is the property of the trust, not EMC," the Wells lawsuit said, adding that EMC's behavior potentially amounts to a default on its servicing obligations. "It appears to be EMC's calculated strategy to avoid producing the requested documents as long as possible, so as to avoid their underlying responsibilities under the PSA."
According to Bloomberg News, EMC has now promised to turn over the requested documents in the EMC case.