Analyst says: JP Morgan could be in worse shape than Bank of America

Investors who bought billions of residential mortgage securities from Bear Stearns have woken up to the fraud machine I’ve been reporting on at Bear and EMC all year. On Friday, a Texas legal firm made famous for negotiating an $8.5 billion settlement with Bank of America for rmbs investors, made a similar move on JP Morgan. Gibbs and Burns, who represents clients like Blackrock and PIMCO, sent a nasty warning letter to five banks who act as trustees for JP Morgan owned RMBS. They called for an investigation into breach of contracts and substandard servicing of these mortgage bonds.

The news hit every major paper because the number of bonds in question was $95 billion. And this was the first time we saw blind investors figure out who the other was to get a quorum together to fight JP Morgan. You see to get the trustee to actually do their job and make sure the loans in the mortgage security are what the bank said they are; you need at least 25% of the investors to complain. Well that’s happen now and as a result we see top mortgage industry analyst like Mark Hanson, sending warning notes out to clients about JP Morgan facing a mega billion payout over the sins of Bear’s Mortgage team run by Tom Marano.

Hanson wrote to clients yesterday:

“on the JPM $95bb MBS inquiry because I feel it will turn out unlike anything we have seen to date in MBS suits and settlement. In short, the various smaller monoline suits are blazing the way for the much larger MBS suits. My views seem draconian in nature relative to what we know in the Gibbs and Bruns / BAC $8.5bb settlement. But I think those using GSE or BAC math coming up with a few of billion dollars for JPM/Bear/WM MBS fraud will be disappointed.’

Anyone reading my reporting detailing things like EMC analyst being told to make up loan level detail to the raters — to newer news that outside due diligence firms like Clayton were told to ‘not find any bad loans’ when they prepared reports for Bear RMBS investors, knows the level of outright fraud was blatant. I agree with Hanson that $JPM can’t be compared to $BAC when trying to estimate how many billions of RMBS they will have to buy back because this isn’t a case of irresponsible underwriting from the likes of Countrywide – with Bear we have former EMC employees coming forward alledging out right cheating and lying.

Of the $95 billion of JP Morgan RMBS the trustees have to inspect, 47% were originated by Bear Stearns. In the monoline suits against Bear/JPM they’ve shown on average 50 percent of the loans were an early payment default and should be bought back. And then there is the issue of loans already in default before mortgage bonds were even sold. Securities like PRIME 2005 / PRIME 20007 are packed with loans from Puerto Rico. This is interesting because in August I reported a story at DealFlow Media detailing how EMC loan analysts went to their superior, David Hamilton, to complain the $500 million of loans Bear bought from a Puerto Rico bank were already in default. The story explains Hamilton sent the findings up to Tom Marano’s mortgage trading team at Bear and they said “don’t worry about it we’ll just swap them out latter.”

Then there is this little issue I reported on also at DealFlow this summer:

“In 2004, Bear decided to tap the short-term debt market for capital to expand its mortgage operations. To do this, Bear has to set aside some of the mortgages it already had booked as collateral in the RMBS, Van Leeuwen said.

“When the company first did this, it was a little hairy because a couple of times I remember a loan that would be designated for the funding, call is master funding, that was set aside as collateral for the sort-term debt was also sold into a security, so it was in two places at once”, he said. “But because it’s not regulated and nobody is really watching, you can do it quietly.

If Bear couldn’t cover the short-term debt payments, the servicer would have been in a mess trying to figure out who really owned the collateral.

Eventually, the decision from Marano’s mortgage group in New York was to forego the due diligence of wholesale loans that Bear was buying from banks like Countrywide and Wells Fargo, Van Leeuwen said.

Towards the end of 2005, Bear decided to buy the loans and then review them later. If there were problems, Bear would take the most obviously troubled loans out later, which, at least into the 2006 era, kept them from running afoul of customers. Yes, as Van Leeuwen argues, this also helped inflate the value of the MBS that Bear was selling.”

Now when the trustee goes back to ask JP Morgan about this it will be interesting to see if they can wiggle their way out of this apparent breach of reps and warranties. All the trustee has to do is start reading the discovery by New York law firm PBWT in the Ambac, Syncora, and Assured cases. It’s a dotted line to the fraud at Bear Stearns and even details some of the cover up JP Morgan has been doing since they realized they were sitting on a mountain of rmbs putback liability after they bought Bear Stearns.

But what’s really scary for JP Morgan is a loss causation motion in a RMBS putback suit against Bank of America. It’s in New York state court right now and Alison Frankel at Thomson Reuters legal news has written about its possible effects. If the New York Judge decides in the favor of the investors suing it could mean all they have to prove is a bank lied about some aspect of the collateral in the RMBS and that lie, weather it actually caused a loss, means the investors can argue they never would have bought the security. There are already quite a few documented lies in the putback lawsuits against Bear/JPM, which is why Mark Hanson is warning clients that every one of these inquiries and cases are unique and based on the monoline cases against Bear, they made Bank of America look like petty thieves.

Why Does JP Morgan Want This Fraud Suit Sealed?

How Can They Do This?

JP Morgan is being sued by Ambac for allegedly selling the insurance company hundreds of millions of mortgage back securities while knowingly packing them full of loans they knew were bad. The loans stem from MBS created by Bear Stearns that JP Morgan took control of after they bought the failed bank in 2008. While this might sound like an ailing mortgage insurer trying to pass off blame for buying a financial product that didn’t work out, if we could look inside the lawsuit we’d likely see otherwise.

The problem is the bank, who’s known to have close ties to Obama’s administration, has somehow convinced a judge in the Southern District of New York to seal the complaint. Combing through the legal documents filed before the seal was ordered, we get a glimpse of what has JP Morgan so worried – although because the lawsuit is sealed we still don’t get to see how Ambac can claim these violations of securities laws were started.

Ambac accuses JP Morgan (NYSE:JPM) and the Proposed Individual Defendants of:
(i) “accounting fraud”
(ii) implementing a “bad faith” strategy to reject without justification insurers’ and investors’ demands for the repurchase of breaching loans
(iii) “arbitrarily” denying demands by investors and insurers to repurchase loans
(iv) “manipulating” its accounting reserves
(v) “obscene compensation” and “reckless pursuit of fees”
(vi) “encourag[ing]” the acquisition of defective loans

Talk about accusing them with the kitchen sink of bank fraud. Now here is what I find a weak excuse for why the investors in a publicly traded company (or anyone else who’s interested) shouldn’t be allowed to see this complaint. JP Morgan’s argument is because Abmac was able to get sworn testimony, about how they broke the law, from people working inside the mortgage security packaging division; that this information should be considered a trade secret. On top of that, JP Morgan argues that because ex-employees of these alleged financial criminals are testifying exactly who at the bank told them to skirt the law, this information must be suppressed because it might damage top JPM executives’ reputations.

Sound fishy? This week I went on financial TV journalist Max Keiser’s show to tell his international audience just what JP Morgan was up to. It drew hundreds of comments packed with fans of The Keiser Report screaming this shows just how connected JP Morgan is to a Federal government known to play favorites with American’s bulge banks.

Yet what’s going on behind the scenes is even more alarming. Abmac was able to add testimony to its complaint after I broke news at TheAtlantic.com about Bear Stearns falsifying some of the mortgage details they supplied the raters. You know — to get a better rating so firms like Ambac would buy and insure their mortgage securities. One of the ex-Bear employees quoted in my story, Matt Van Leeuwen, then offered to tell Ambac’s lawyers even more about the misconduct and fraud he witnessed. These Ambac lawyers were also able to see unpublished taped interviews in Nick Verbitsky’s upcoming documentary film ‘The Confidence Game’, which added more clues to who and how Bear Stearns was building RMBS with loans they knew were already in default. But eight days before Van Leeuwen was schedualed to appear in depositions he’d been lawyer’ed up by JP Morgan; claiming because he received a severance when he left the bank they had to represent him. Then according to Van Leeuwen’s deposition transcript, he testified that he’d embellished what he told the documentary film maker in a hour long interview and that some of the information he gave me for my The Atlantic story was taken out of context or only offered on background.

Wow talk about a bait and switch. Of course Verbitsky and I had interviewed other co-workers of Van Leeuwen who corroborated most of his original testimony. So to see him try and swear under oath that he made it up was not only shocking but a clear sign of how influential JP Morgan can be when someone wants to whistleblow. As for Van Leeuwen, he’s suddenly found the funds to attend Law School at the University of Texas; the Ambac lawyers are looking into possible payoffs to get him to change his testimony. They’ve also been granted a court order to get copies of emails from Van Leeuwen and the journalist he gave interviews with in an attempt to prove he lied under oath about not being a willing participant in our stories.

Luckily Van Leeuwen isn’t their only star witness; they have near half a dozen more insiders willing to speak out. Since my story at The Atlantic came out, the Financial Crisis Inquiry Commission got Verbitsky to show them his unpublished taped insider interviews, including – Van Leeuwen’s, and there is a chance they will subpoena Van Leeuwen to testify.

Ambac lawyers now wait for the good graces of a New York federal judge to let them submit their evidence in an amended complaint. A decision is expected by the end of the year. Although the American public, along with investors in JP Morgan, might be kept in the dark about who did what and how they did it, if a media company doesn’t pay to sue and unseal the case.

The Case is: AMBAC v EMC Mortgage Et Al New York Fed – USDC Southern District of New York – 110508 091754 – 08 CV

EMC was a wholly-owned sub mortgage company of Bear Stearns and is now owned and controlled by JP Morgan.