Journalism in the Public Interest

SEC Investigating Citigroup Mortgage Deal

The SEC is investigating whether in the run-up to the financial crisis Citi acted improperly as it created and marketed a $1 billion CDO.


A pedestrian walks by Citibank on July 17, 2009, in New York, N.Y. (Spencer Platt/Getty Images)

The Securities and Exchange Commission is investigating Citigroup's role in a $1 billion deal that the bank created in the run-up to the financial crisis. The agency is looking at whether Citi improperly pushed an independent manager to put specific assets into the deal, according to people familiar with the probe.

The deal was a collateralized debt obligation named Class V Funding III, which was completed in late February 2007. The CDO was made up of pieces of other CDOs that were themselves backed by risky slices of subprime mortgages. The deal was managed by Credit Suisse Alternative Capital, a division of the Swiss banking giant. Independent managers such as Credit Suisse were charged with picking the best assets for the CDO. Citigroup arranged and marketed the deal to investors.

Details on the investigation are sparse. The SEC declined to comment on the probe. But the SEC has been conducting a wide-ranging investigation into Wall Street's CDO business, including whether investment banks created deals in order to dump assets of declining value onto unsuspecting buyers.

Citigroup declined to discuss specifics of the deal or the investigation and repeated a statement it had previously issued: "It has been widely reported that there are ongoing industry-wide investigations into CDO-related matters, and we do not comment on pending investigations."

Among the assets purchased by Class V Funding III were portions of, or sidebets involving, at least 15 CDOs that the Illinois-based hedge fund Magnetar helped to create. Four of those CDOs were also underwritten by Citigroup. In April, ProPublica, together with Chicago Public Radio's "This American Life" and NPR's "Planet Money," detailed how Magnetar had helped create more than $40 billion worth of CDOs as part of its strategy to bet against the housing market.

Class V Funding III was cited in another ProPublica-NPR collaboration published in August. Class V bought a piece of, or had a side bet involving, two other Citi CDOs: Octonion and 888 Tactical. Those CDOs in turn purchased exposure to Class V. All three CDOs closed within about two weeks of each other. Such transactions could have helped investment banks to complete CDOs and earn deal-completion fees.

Citi hedged its exposure to the Class V CDO, persuading bond insurance company Ambac to insure $500 million of it. Eight months after Class V was completed, rating agencies downgraded the deal. Earlier this month, Ambac filed for bankruptcy, largely due to its exposure to CDOs like Class V Funding III.

It's unclear whether Citi made other trades that would pay off in the event of a drop in Class V's value. Ultimately, the bank failed to protect itself against losses from most of the CDOs it invested in; Citigroup lost almost $34 billion on its mortgage CDO business.

One hurdle for any SEC action is that banks' CDO marketing materials often included warnings about generic risks involving conflict of interests. The prospectus for Class V Funding III has such language.

A shareholder class-action lawsuit filed against Citigroup in federal court in Manhattan accused the company of using CDOs, including Class V Funding III, as a way to "clean out its warehouse" even as it downplayed the risk of its exposure to CDOs.

Last week, District Judge Sidney Stein dismissed several of the claims but allowed the case to go forward on a number of the allegations, including that Citi misstated its exposure to CDOs.

In a statement to ProPublica in response to the suit, Citi said it has "strong defenses, including the absence of any intentional or reckless misconduct, and we will continue to defend the balance of this case vigorously."

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Next up:  CHASE.  Batter up!!!

Justin Spitzer

Nov. 18, 2010, 1:04 p.m.

Caveat Emptor!  Who but an idiot would buy someting named Class V Funding III?  Certainly nobody spending their own money!  Im shocked shocked that Citi would sell a bag of poop to the unwitting institutional community.

Problem here is SEC is bought off.

The fact of the matter is there is sooo much corruption on Wall Street, it’s turned into a veritable cesspool of chicanery and government graft. Wall Street has Washington in a head lock and they are not letting up. What this in fact is is the beginning of a totalitarian government. It really is quite evident. Corporations, not politicians, run Washington. And the soup du jour is vested interest.

Anita Mitchell

Nov. 18, 2010, 5:24 p.m.

If no one goes to prison over this, then we should stop trying to export democracy to other countries.  Here, democracy has become synonymous with capitalism, and the worst form of capitalism….the form where profits are privatized and losses made the taxpayers’.  I am in favor of a third political party in the U.S. (and not the Tea Party) and if necessary, a fourth and fifth.  All this global collapse was made possible by government being inept, asleep at the switch, or directly in collusion with thieves that have perpetrated the largest transfer of wealth in history.  Now, as Republicans insist that the public’s bones get picked by reducing “entitlements”, we will have lost our pensions, our home values, and our social safety nets.  Nuthin’ much left….but a homicidal anger..

cathy lawrence

Nov. 18, 2010, 5:37 p.m.

Do I have this straight? First, the shell company called MERS is created to make it easier and faster to securitize mortgages without actually possessing or proving possession of the original note and mortgage (illegal per fed. regs.).

When MERS makes mortgage recording and transfers easy, trading is electronic—just numbers, no actual paper is now changing hands. So, securitization booms and creates a market for more.

Mortgage lenders and their undisclosed mortgage underwriters have a strong incentive to write more and more mortgages. They have been known to securitize and sell them days before you even sign the note…

Investors, those pesky wall street traders won’t stop asking for more and more bundles of bundled mortgages. And if there’s a dollar to be made, a lender is sure to find a way.

So they start to sell homes to low-income buyers. After all, there are a lot more of them than there are of middle-class first-time buyers. Just be sure to squeeze the last dime from their hands as they go down for the last time in the morass of adjustable rate mortgages you tricked them into signing up for.

To the rescue? Uncle Sam! Does he have a hand out to the drowning homeowner? Wait, wait! Who is Sam rescuing?

He’s bailing out wall street. Are they in a leaky boat? Maybe. But at least they have a boat. Poor, poor traders, who lost ... wait! they lost someone else’s money—and raked in huge bonuses for total trades while doing it.

But Sam’s a generous guy. So we/he bail out wall street.

Awwww. But what about the poor mortgage lenders? The mortgages they underwrote are going into default—and who knows, maybe even foreclosure. But wait—there’s hope. You insured your mortgage against default. Remember reading about PMI in your mortgage loan?

So, wall street traders are safe. Mortgage lenders dodged the bullet.

What about us, the homeowners? Is there a program for us? No way!

OK, there’s HAMP, but homeowners can’t sign themselves up for the program. Not even if we ARE the government and it’s a government program. The mortgage company and its still undisclosed investors have to run the numbers FOR you behind the scenes. Guess what? You don’t “qualify” for HAMP. They don’t tell you why not; they don’t provide numbers.

What’s the reason? Modifying a mortgage using HAMP gives investors a small pittance. There’s far bigger money to be had in foreclosures—our houses are now on their balance sheet as an asset!

Let’s see: First they profit from investing in undocumented mortgages (MERS) and then bundling and selling them for what they’d be worth in 30 years. Then, they profit from betting against the same bundled mortgages as the saturated market starts to topple. The government rescues them (wait. Aren’t we the people?) Then they get the mortgage insurance (remember the PMI in your mortgage loan?) Then they foreclose on the house. And then, they sell it again…

But not to us. We’re too busy treading water.

I agree with Anita. As I have stated before I believe that there must exist a law against economic sabotage, or even sabotage, in US law.

I think a creative mind should be able to frame the argument correctly. If someone like Magnetar is able to prove they were unaware of the knock-on effects then they are too stupid to deal in finacial matters. If they were aware of the ramifications then they have willingly damaged the US.

The first truth is that the liberty of a democracy is not safe if the people tolerate the growth of private power to a point where it becomes stronger than their democratic state itself. That, in its essence, is fascism — ownership of government by an individual, by a group, or by any other controlling private power.    ”
— Franklin D. Roosevelt, “Message from the President of the United States Transmitting Recommendations Relative to the Strengthening and Enforcement of Anti-trust Laws

I can’t leave this country fast enough….if I just had a few bucks…......

the sec is doing the investigating? hummmmm.
Aren’t they the same sec that declined to expose who placed the bets on United and American just before 9/11 and the money won in that bet still has not been claimed last I heard. Lets take bets the sec won’t find any wrong doing here, either.

“Details on the investigation are sparse. The SEC declined to comment on the probe…........ “

“There’s to be an investigation” is a way of shutting the public up. Nobody can “comment” if there’s an “ongoing investigation”. But nothing ever comes of investigations. Time wears on, people forget, other issues (crimes against society) arise,  yielding more “investigations” on which nobody can “comment”,.............. etc.

Nissim Sasson

Nov. 19, 2010, 4 p.m.

The SEC works for the banks, this is just for show ! If they really wanted to do something they would Break up the banks so their are not to big to fail and they will regulate them so they do not do those FRAUD-CLOSUSES that we find out that they been doing lately
SEC what a Joke!

Your bail bondsman bails you out because he expects to get his money back plus a profit.  The Government got its bailout money back from Goldman - plus a 20% profit.  Money advanced to some massively underwater mortgage holder isn’t going to be returned - let alone with a profit.

The system is so broken.  It is up to us to change it.
Any ideas on a first viable step?

Readers: Do some cursory research on the internet and you will see that CITI has a putrid record of scamming the public…..even their own in house counsel back in the 1990’s said what Citi did at that time was,  “criminal in nature”. 
Enough said about this incredibly crooked company.

Yeah, everybody “underwater” on their properties just declare bankruptcy…....NOW!

This article is part of an ongoing investigation:
The Wall Street Money Machine

The Wall Street Money Machine

Enticed by profits and bonuses, Wall Street took advantage of complicated mortgage-based instruments to reap billions, only to exacerbate the eventual crash.

The Story So Far

As the housing market started to fade, bankers and hedge funds scrambled for ways to maintain the lavish bonuses and profits they had become so accustomed to, repackaging mortgages in complex securities called collateralized debt obligations. The booming CDO market masked how weak the housing market was, and exacerbated its collapse.

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