Freddie Mac Off Hook in Subprime Exposure Suit

CLEVELAND (CN) - The Ohio Public Employees Retirement System failed to prove Freddie Mac concealed a $2 billion loss on risky mortgages from investors before a 2007 financial report set its stocks reeling, a federal judge ruled.

The retirement system, alternately known as OPERS, sued the Federal Home Loan Mortgage Corporation in January 2008, alleging that the government-sponsored mortgage broker lied about the number of "subprime" loans it purchased in 2006 and 2007.

Following the release of a financial statement revealing a $2 billion loss on November 20, 2007, Freddie Mac's stock dropped 29 percent in one day, resulting in shareholder losses of over $6.6 billion.

In its complaint OPERS claimed "the drop in [stock] price 'confirms empirically that the market was previously unaware of the full extent of Freddie Mac's exposure to, and risk from, non-traditional mortgages," while Freddie Mac blamed the price drop on the financial crisis.

U.S. District Court Judge Benita Y. Pearson cited several of Freddie Mac's annual reports in her opinion, pointing out how their disclosures run counter the plaintiff's argument.

She wrote: "before November 2007, Freddie Mac had already disclosed that it was increasing its purchase of non-traditional mortgages products that may default more often."

OPERS also claimed Freddie Mac officials misled investors by using different definitions of "subprime" -- one for public consumption; the other when they were speaking privately or at internal meetings.

Judge Pearson disagreed, and wrote: "Neither the November 20, 2007 press release nor the financial report ... altered defendants' prior definition of subprime. Neither disclosed that previous data regarding the type of loans Freddie Mac had purchased had been incorrect. Neither disclosed that underwriting guidelines, loan analysis software, fraud detection, or risk management measures were faulty or had not been followed. Neither disclosed that Freddie Mac's capital position had previously been misstated."

Ultimately, Judge Pearson found that OPERS failed to prove a substantial connection between Freddie Mac's disclosure of the $2 billion loss and the drop in stock price.

She concluded: "Merely alleging that investors purchased stock at an inflated price is not enough to state a claim - 'a plaintiff must show that an economic loss occurred after the truth behind the misrepresentation or omission became known to the market.'"

Judge Pearson also denied the plaintiff's request file a fourth amended complaint, after concluding that "given the time and the obvious effort invested in this nearly six-year-old case, the court has no bases to reasonably expect that plaintiff can produce an improved pleading that would cure the fatal infirmary in the third amended complaint."

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