Court clears path for trial in VRDO rate-rigging lawsuit against top banks

A group of Wall Street banks may be headed to trial over whistleblower allegations of variable-rate bond rate-rigging after a New York judge denied their requests to dismiss the case.

"The mountain of evidence raised in opposition" to the banks' separate summary judgment dismissal motions "necessarily requires denial," wrote New York Judge Andrew Borrok in a strongly worded 44-page opinion that lambasted many of the banks' arguments.

The ruling comes after oral arguments in early March that dug deep into details of the banks' VRDO rate-setting practices and claims.

The New York case is one of several state-level False Claims Act lawsuits brought by Minnesota-based municipal advisor Johan Rosenberg, who filed them under the name of a Delaware-incorporated entity called Edelweiss Fund LLC. Edelweiss sued on behalf of the states and their entities that issued variable-rate debt and entered into contracts with banks as remarketing agents and liquidity providers.

The New York lawsuit charges JPMorgan Chase & Co., Citigroup, Inc., Morgan Stanley Smith Barney LLC., and Bank of America Merrill Lynch & Co., Inc., under the New York False Claims Act.

The parties are set to meet on May 5 to determine the next steps, which may be to set a trial date. A similar case in Illinois was settled just days ahead of a trial.

Edelweiss accuses the banks of conspiring to keep VRDO interest rates high in a "robo-resetting" scheme so investors would not exercise their rights to tender the VRDOs back to the banks serving as remarketing agents, thus allowing the banks to collect fees for serving as RMAs and for providing letter of credit services for a fee without having to actually remarket the bonds.

Borrok used words like "substantial" and "considerable" to describe evidence that the banks falsely claimed to set the lowest possible rates and that they colluded and conspired to set artificially high rates.

Edelweiss has "adduced copious persuasive contemporaneous evidence in satisfaction of each element of the claims brought under the New York False Claims Act as against each of the defendants," Borrok wrote.

Emails showing that bank rate resetters would lower VRDO rates when issuers complained helped to undermine their defense, Borrok added.

The banks argued that the issuers' continued payments were "strong evidence" that the claims lacked materiality, but the judge rebuffed the defense.

"The continued future payments may only be evidence under the circumstances of the fact that NY and the companies did not appreciate that the alleged lack of the required judgment in this case was not merely a 'one-off' or outlier mistake as to a particular rate reset," Borrok wrote. "Given the substantial evidence of collusion and conspiracy in the record, it is also not clear that there were tax free variable rate market alternative providers to do the rate resets."

The judge swiped at affidavits from bank rate-resetters that they "monitored the markets constantly" to ensure proper weekly rate-setting judgement.

"These affidavits appear to be irreconcilably at odds with the contemporaneous evidence which shows that the VRDOs were bucketed, rate resetting did not occur individually with little exception and that the rate resets occurred during a discrete amount of time such that each VRDO resets occurred within a few seconds each week."

It wasn't all a win for Edelweiss however, as Borrok dismissed its claims involving conduit bonds, arguing that Edelweiss failed to establish that the State of New York incurred damages. The judge also dismissed the claims seeking disgorgement of fees as an option not available under the state's false claims act.

Morgan Stanley, JPMorgan, Citi and Bank of America all declined to comment.

The California case remains in discovery and parties in the New Jersey lawsuit are waiting to hear if the state's supreme court will take the case.

The Illinois case was settled last October for $70 million, of which $48 million went to the state and $14.4 million to Edelweiss.