The Royal Bank of Scotland will pay $120 million to settle claims brought by the state of Connecticut, which accused RBS of misrepresenting the quality of mortgages backing residential mortgage-backed securities during the run-up to the financial crisis.
According to an announcement from Connecticut Attorney General George Jepsen and state Department of Banking Commissioner Jorge Pérez, RBS served as the lead underwriter for approximately 250 RMBS deals valued at $250 billion from January 2005 to December 2008.
As lead underwriter, RBS was required to conduct due diligence on the pools of loans that backed its RMBS deals. The due diligence is conducted to provide assurances to the public and potential investors that representations about the securities are accurate and complete.
Per the announcement from Jepsen and Pérez, Connecticut accused RBS of using an “inadequate” due diligence process before the crisis, which then led to RBS making “omissions and misstatements” in the representations made to the public and investors about the securities.
“The state alleged that, on one or more occasions, a material number of loans deviated so greatly from underwriting guidelines that they should have been excluded from the loan pools, yet they were not,” Jepsen and Pérez said in the announcement. “In some cases, the state alleged, RBS's own third-party vendors – who conducted an independent review of the loans – gave low grades to certain loans, but RBS re-graded them at a higher level and included the loans in the pools.”
Additionally, Connecticut accused RBS of making representations in its prospectus materials stating that all of the underlying mortgage loans were subject to due diligence, that portfolios received “thorough” credit and compliance reviews and that loans would not be included in mortgage bond deals if RBS learned of any reason that the loan would not meet underwriting guidelines or quality standards.
“The state alleged that RBS's conduct was dishonest and/or unethical and that RBS made untrue statements in representing its securities products,” the announcement stated.
“The collapse of financial instruments, especially residential mortgage-backed securities, was directly responsible for the financial crisis that led to the Great Recession that so badly impacted the economies of our state and our nation,” Jepsen said.
“RBS failed to properly determine – and misstated – the quality of the mortgage loans comprising many mortgage-backed securities,” Jepsen continued.
Jepsen said that over the past four years, his staff worked in close coordination with the state’s Department of Banking to review thousands of documents, emails and other records; participated in depositions of former and current employees; and analyzed detailed data about RBS's processes and procedures for conducting its due diligence.
“What we found through this investigation was that RBS, one of the largest RMBS underwriters, failed on multiple fronts to ensure that the information it provided about RMBS deals was accurate,” Jepsen said.
“RBS was one of the key players in the RMBS business in the lead up to the financial crisis, underwriting $250 billion in securities that have to date suffered more than $40 billion in losses,” Jepsen concluded. “With today's settlement, we are holding RBS accountable under Connecticut law for its behavior that contributed significantly to the 2008 financial crisis.”
According to the announcement, the Department of Banking will receive $250,000 of the settlement funds, which will be used for financial education and training and a financial literacy program.
The remainder of the settlement funds, $119,750,000, will be deposited in the state's general fund.
“The ripple effect of the practices of financial institutions coupled with the devaluing of residential mortgage backed securities was felt by residents across Connecticut who were foreclosed out of their homes and lost their jobs as a result of the ensuing financial crisis," Pérez said.
“We were pleased to have collaborated with the Attorney General's office on this investigation,” Pérez added. “Examiners and attorneys from our Securities and Business Investment Division used their extensive knowledge of the industry to help identify how the values of these securities were misstated. Together our work helped bring to light where these investors were failed.
Additionally, as part of the settlement, RBS will be required to certify with the Connecticut Department of Banking its compliance with conditions of the Supervisory Plan approved by the National Adjudicatory Council of the Financial Industry Regulatory Authority for 10 years.
RBS has agreed to comply with all applicable state law, the state said.
In a statement to The Wall Street Journal, a spokesperson for RBS said that the company is “pleased” to resolve this matter.
“Putting these issues behind us remains a priority; there is more work to be done, but we are making progress,” the spokesperson told the WSJ.
The settlement is the latest in a string of RMBS settlements for RBS.
Just last week, RBS agreed to pay $1.1 billion to the National Credit Union Administration in order to settle claims related to faulty mortgage-backed securities sold to U.S. credit unions.