Part VIII: SEC Enforcement Trends, 2009 — Auction Rate Securities

Last year, auction rate securities were a significant area of focus for enforcement. The auction rate securities market crashed in February 2008. Prior to that date, a number of banks and brokers sold ARS as essentially cash equivalents. When the market crashed, purchasers of the securities were unable to liquidate their holdings. The SEC, the Attorney General of New York and other state attorney generals have actively investigated the sales practices for ARS. Those investigations have resulted in final settlements with UBS, Citigroup Capital Markets and Wachovia. While the settlements tend to be similar, they are not identical.

The SEC’s settlement with Wachovia is typical of the resolutions reached in these cases. SEC v. Wachovia Securities, LLC., Case No. 09 CV 743 (N.D. Ill. filed Feb. 5, 2009). Key terms of that settlement require the defendant to repurchase ARS in two phases. First, Wachovia will purchase the securities from essentially small investors – individuals, not-for-profits, religious organization and others with account values up to $10 million. Second, Wachovia will purchase ARS from all other holders. Wachovia also agreed to lend customers the full par value of their ARS pending the buy back with interest rates set so that customers will not have negative carry on their loans. Eligible customers who incurred consequential damages from the illiquidity of the market can participate in a special FINRA arbitration. See also SEC v. UBS Securities LLC, Civil Action No. 08 Civ 10754 (S.D.N.Y. filed Dec. 11, 2008) (similar terms); SEC v. Citigroup Global Markets, Inc., Civil Action No. 08 Civ 10753 (S.D.N.Y. filed Dec. 11, 2008) (similar, but for large institutional holders Citi is only required to use is best efforts to bring liquidity to the markets).

Agreements in principle have been reached with Bank of America, RBC Capital Markets Corp, and Merrill Lynch. See SEC Press Release, “SEC Finalizes ARS Settlement To Provide $7 billion in liquidity to Wachovia Investors” (Feb. 5, 2009) (collecting materials and links to other ARS settlements). Generally, these agreements have similar terms to the final settlement reached with Citigroup Global Markets listed above. Accordingly, they provide for the repurchase of ARS from smaller investors. For large investors the agreements provide that the settling party will use its best efforts to provide liquidity to the market. While the Commission will undoubtedly continue to finalize settlements in this area in the future, this is not likely to be a major area of focus for enforcement going forward.

Next: The concluding two segments of this series will cover, respectively, key legal issues and an analysis of the trends.

Additional materials: The subject tabs to the left have been updated with a number of new materials regarding SEC enforcement, cooperation, securities damage actions and internal investigations.