Citi to Pay $285M for Creating CDO and Betting on Its Failure
Citigroup has agreed to pay $285 million in a settlement with the U.S. Securities and Exchange Commission (SEC) to settle fraud charges that it misled investors in a $1 billion mortgage bond deal, without telling investors that it was betting that the deal would fail, according to the Wall Street Journal and other sources.
So, once again we have Wall Street creating a collateralized debt obligation (CDO) and betting that it would fail without telling anybody as the housing market was deteriorating. Sound familiar? It should because this is the same kind of shenanigans that got Goldman Sachs in trouble with the Abacus 2007-AC1 deal. The only difference being Goldman misled investors about who was picking the investments in the CDO. There the assets were chosen by John Paulson, a hedge fund manager who picked the assets he felt would most likely go down in value. With Citigroup, they actually picked or had “significant influence” over picking $500 million worth of the assets and then bet against the CDO called Class V Funding III. According to the SEC complaint, assets in the deal were linked to other CDOs invested in subprime mortgages, aptly calling the portfolio “a collection of dogs” and “possibly the best short EVER!”
The investment went down like a rock after it closed February 28, 2007. Over 80% of the portfolio was downgraded by credit rating agencies by October and it went bust November 19, 2007 causing investors to lose hundreds of millions of dollars.
The $285 million settlement is broken down as follows: disgorgement of $160 million, prejudgment interest of $30 million and a monetary fine of $95 million, all of which will go to investors. Citigroup made $160 million in fees and trading profits according to the SEC, while investors lost everything.
Named in the action was a Citigroup employee, Brian Stoker, who was responsible for putting the deal together and Samir Bhatt, a Credit Suisse portfolio manager, who served as the collateral manager for the CDO transaction.
Obviously, the settlement is pending approval in the Federal District Court for the Southern District of New York, where the case is pending.