Derivative Suit Filed Against JPMorgan Alleges Culture of Risk
Adding to JPMorgan Chase’s widely publicized recent legal woes, shareholder Bradley P. Miller filed a derivative suit against the bank and its directors in California federal court on January 23, 2014, as a result of the $20 billion in fines the bank paid last year for nearly a decade’s worth of alleged wrongdoing. “Defendants put their own short-term financial interests ahead of the long-term financial interests of the company resulting in billions of dollars of penalties and fines,” the complaint alleges. The derivative suit exemplifies the reasons why the reputations of so many Wall Street banks are in tatters.
The complaint criticizes Chase’s top executives for creating a “culture of risk” underscored by the allegedly fraudulent marketing and sale of mortgaged-backed securities. In addition, the complaint alleges that the bank’s executives breached their fiduciary duty, committed waste, and were unjustly enriched in connection with the “London Whale” trades, manipulating the energy market, instituting questionable overseas hiring and credit card billing practices, and helping to launder money for Bernie Madoff’s Ponzi scheme. The complaint indicates that in addition to the financial cost that the $20 billion in fines has had on the company, as a result of these activities there has been substantial damage to Chase’s reputation, the cost of which is not quantifiable.
Bulk of Claims Relate to Misconduct and High Risk Lending Practices
It should be no surprise that the bulk of Miller’s claims relate to Chase’s alleged misconduct in the origination, securitization, marketing and sale of subprime residential mortgage-backed securities that became glaringly obvious after Chase agreed in November to settle federal and state lawsuits for $13 billion that alleged the bank made false statements about the quality of the mortgage-backed securities it sold prior to the financial crisis. Miller alleges that Chase either knowingly authorized or recklessly permitted the bank to engage in substantial wrongdoing. Specifically, that “JPMorgan originated subprime mortgage loans with apparently little concern for the ability of the borrowers to repay the mortgages.” Additionally, the complaint alleges that “JPMorgan ignored and/or overrode its own underwriting standards in order to maximize loan origination, loaning hundreds of millions, if not billions of dollars, to subprime borrowers who had no documented history of repayment and were high risks for foreclosure. JPMorgan engaged in this high risk lending in order to maximize loan volume. It should have known the proverbial house of cards would someday collapse as it did.”
Miller alleges that throughout this period, Chase’s directors were overpaid and unjustly enriched. In particular, that JPMorgan CEO Jamie Dimon made $134.1 million from 2005 to 2012. Perhaps telling of the extent of Chase’s alleged misconduct is the fact that a significant portion of Dimon’s compensation was made in 2007, according to Miller, at “the height of JPMorgan’s wrongdoing.”
Reforming Chase’s Culture of Risk
Among other requests for relief, Miller asked the court to award injunctive or declaratory relief necessary to “change and/or reform JPMorgan’s corporate governance, policies, and culture.” This is particularly important, in light of recent reports that U.S. banks are easing underwriting standards as the economy begins to improve. At the same time, however, the Federal Reserve recently told the eight largest U.S. banks, including Chase, to strengthen their risk monitoring and reporting in their resolution plans in order to increase their ability to survive a financial shock and avoid another meltdown. The letter issued by the Fed stated companies like Chase, “may pose elevated risk to U.S. financial stability.”
When faced with a mortgage loan “repurchase” request from Chase or any other aggregator, mortgage correspondents and originators should consider allegations of this sort on multiple levels. We have believed from the beginning that, in most instances, the GSEs and Chase (and the other) mortgage loan aggregators are merely seeking to revise the history of the U.S. mortgage market crisis. They have worked diligently and successfully to cause many originators and correspondents to believe that only the contract “reps and warranties” matter. At a minimum, when allegations such as these made against Chase come to light, originators and correspondents, who often simply complied with the requirements of what were of course risky programs, might question why it is that, years after the fact, they are expected to be the ultimate insurers of the mortgage meltdown that severely impacted the entire nation.
The complaint criticizes Chase’s top executives for creating a “culture of risk” underscored by the allegedly fraudulent marketing and sale of mortgaged-backed securities. In addition, the complaint alleges that the bank’s executives breached their fiduciary duty, committed waste, and were unjustly enriched in connection with the “London Whale” trades, manipulating the energy market, instituting questionable overseas hiring and credit card billing practices, and helping to launder money for Bernie Madoff’s Ponzi scheme. The complaint indicates that in addition to the financial cost that the $20 billion in fines has had on the company, as a result of these activities there has been substantial damage to Chase’s reputation, the cost of which is not quantifiable.
Bulk of Claims Relate to Misconduct and High Risk Lending Practices
It should be no surprise that the bulk of Miller’s claims relate to Chase’s alleged misconduct in the origination, securitization, marketing and sale of subprime residential mortgage-backed securities that became glaringly obvious after Chase agreed in November to settle federal and state lawsuits for $13 billion that alleged the bank made false statements about the quality of the mortgage-backed securities it sold prior to the financial crisis. Miller alleges that Chase either knowingly authorized or recklessly permitted the bank to engage in substantial wrongdoing. Specifically, that “JPMorgan originated subprime mortgage loans with apparently little concern for the ability of the borrowers to repay the mortgages.” Additionally, the complaint alleges that “JPMorgan ignored and/or overrode its own underwriting standards in order to maximize loan origination, loaning hundreds of millions, if not billions of dollars, to subprime borrowers who had no documented history of repayment and were high risks for foreclosure. JPMorgan engaged in this high risk lending in order to maximize loan volume. It should have known the proverbial house of cards would someday collapse as it did.”
Miller alleges that throughout this period, Chase’s directors were overpaid and unjustly enriched. In particular, that JPMorgan CEO Jamie Dimon made $134.1 million from 2005 to 2012. Perhaps telling of the extent of Chase’s alleged misconduct is the fact that a significant portion of Dimon’s compensation was made in 2007, according to Miller, at “the height of JPMorgan’s wrongdoing.”
Reforming Chase’s Culture of Risk
Among other requests for relief, Miller asked the court to award injunctive or declaratory relief necessary to “change and/or reform JPMorgan’s corporate governance, policies, and culture.” This is particularly important, in light of recent reports that U.S. banks are easing underwriting standards as the economy begins to improve. At the same time, however, the Federal Reserve recently told the eight largest U.S. banks, including Chase, to strengthen their risk monitoring and reporting in their resolution plans in order to increase their ability to survive a financial shock and avoid another meltdown. The letter issued by the Fed stated companies like Chase, “may pose elevated risk to U.S. financial stability.”
When faced with a mortgage loan “repurchase” request from Chase or any other aggregator, mortgage correspondents and originators should consider allegations of this sort on multiple levels. We have believed from the beginning that, in most instances, the GSEs and Chase (and the other) mortgage loan aggregators are merely seeking to revise the history of the U.S. mortgage market crisis. They have worked diligently and successfully to cause many originators and correspondents to believe that only the contract “reps and warranties” matter. At a minimum, when allegations such as these made against Chase come to light, originators and correspondents, who often simply complied with the requirements of what were of course risky programs, might question why it is that, years after the fact, they are expected to be the ultimate insurers of the mortgage meltdown that severely impacted the entire nation.
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