On July 18, 2012, the U.S. Securities and Exchange Commission (the “SEC”) charged Mizuho Securities USA and three former Mizuho employees with misleading investors in a collateralized debt obligation (“CDO”) by using “dummy assets” to inflate the deal’s credit ratings. Mizuho will pay $127.5 million to settle the SEC’s charges. Every time we think the bad news is over, we hear of yet another bank or brokerage firm engaging in investment fraud. This news comes on the heels of news that numerous banks are accused of manipulating LIBOR.
The SEC alleges that Mizuho structured and marketed Delphinus CDO 2007-1, a CDO that was backed by subprime bonds at a time when the housing market was suffering severely. The deal was contingent upon Mizuho obtaining credit ratings that it would use to market the CDO’s to investors. The SEC has alleged that when Mizuho realized that the Delphinus CDO could not meet Standard & Poor’s ratings criteria, it submitted a false portfolio to Standard & Poor’s that inaccurately reflected the collateral held by Delphinus CDO. Once Standard & Poor’s rated the inaccurate portfolio, Mizuho closed the transaction and sold the CDO’s to investors using the misleading and overinflated ratings. The Delphinus CDO defaulted in 2008.
According to the SEC, Mizuho made approximately $10 million in structuring and marketing fees in the deal. So, while investors expect and are entitled to receive legitimate credit ratings in order to help them evaluate potential investments, it appears that Mizuho was willing to engage in misconduct in order to generate millions of dollars of revenue rather than abide by its legal and regulatory obligations to investors.
The institutional investors, such as hedge funds and pension funds, that likely bought these CDO’s may have a valid legal claim against Mizuho.
