(CN) - Credit Suisse may have lied about $460 million worth of residential mortgage-backed securities it sold to Prudential Insurance Co. of America, a federal judge ruled.
U.S. District Judge Katharine Hayden rejected the Swiss bank's motion to dismiss Prudiential's allegations that it misrepresented the securities in violation of New Jersey law.
The Newark-based insurer claims that between 2004 and 2008, it bought about 83 residential mortgage-backed securities that were underwritten by Credit Suisse and third-party firms like Clayton Holdings Inc.
Though the bank's offering materials portrayed the certificates as relatively safe investments backed by reliable, credit-enhancing loans, many of the loans were made without regard to quality or the borrowers' ability to repay, according to Prudential. More than 55 percent of the loans are missing necessary intervening assignments, Prudential claims.
The insurer's 200-page-plus complaint details how it bought the securities while the mortgage-lending industry deteriorated into an "originate to distribute" model, where the various players in the securitization process earned fees and shed risk by selling loans.
As "an inordinate amount" of borrowers became delinquent or defaulted on mortgages in recent years, the certificates' credit ratings and values have plummeted, Prudential alleges.
The firm allegedly suffered significant losses as a result, as it bought the certificates for both their income stream and the potential to resell them on the secondary market.
Prudential and its affiliates accused Credit Suisse and its affiliates of New Jersey common-law fraud, fraudulent inducement, negligent misrepresentation and violations of the state Racketeer Influenced and Corrupt Organizations Act.
In its motion to dismiss, Credit Suisse argued that Prudential failed to plead a material misstatement or omission.
But Judge Hayden agreed with Prudential's attorneys, who argued during oral argument that "this case is about specific statements made in specific offering documents about specific securities."
Hayden said the plaintiffs "have injected enough precision into these allegations to survive a motion to dismiss."
"Statements made by witnesses demonstrate not only that defendants routinely received diligence updates, but also that defendants were aware of the endemic underwriting problems," Hayden wrote. "For example, a former Credit Suisse employee said that account executives at the bank pressured due diligence underwriters to approve loans even when the underwriters wanted to deny them because of 'blatant fraud' by the borrower or originator. Another Credit Suisse employee said that '[d]efendants turned a blind eye to blatant originator fraud,' and a manager at the bank said that 'the mentality was "Credit Suisse was going to acquire the loans one way or another, so we should just get the job done."' A former Clayton employee remembered that Credit Suisse was '"eating up"' loans that failed to adhere to underwriting guidelines."
The complaint contains specific allegations of systematic fraud, according to the unpublished ruling, including claims that Credit Suisse improperly pressured ratings analysts to give high ratings to bad loans.
"Such conduct strongly indicates that defendants knew they wielded influence over the certificates' ratings," Hayden added.
She also rejected the defendants' claim that the fraud claims had been lumped together in an impermissible "group pleading."
"The plaintiffs have pleaded with sufficient particularity which defendants were involved with which offering materials and how their respective roles put them in a position to make and/or know about the misrepresentations," Hayden said.
Credit Suisse reported more than $26 billion in revenue last year, while Prudential reported nearly $85 billion in 2012.
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