Federal Housing Finance Agency v. Nomura Holding America, Inc.

Rule of Law:

Sellers of residential mortgage-backed securities violate Section 12(a)(2) of the Securities Act when they make material misstatements in a prospectus about the underlying loans' adherence to underwriting guidelines. To avoid liability for the resulting losses, sellers bear the heavy burden of proving that the depreciation in value was caused by factors entirely unrelated to the misstatement, a burden they cannot meet by blaming a general market downturn that their and similar actors' conduct helped create.

Facts:

• Between 2005 and 2007, Nomura and RBS sold seven private-label securitization (PLS) certificates, a type of residential mortgage-backed security (RMBS), to government-sponsored enterprises Fannie Mae and Freddie Mac.
• To market these securities, Nomura and RBS provided prospectus supplements (ProSupps) to the buyers.
• Each ProSupp contained a key representation stating that the mortgage loans backing the securities 'were originated generally in accordance with the underwriting criteria' described in the document.
• The ProSupps also disclosed that originators could make 'certain exceptions to the underwriting standards ... in the event that compensating factors are demonstrated.'
• Nomura and RBS's own due diligence processes involved reviewing non-representative samples of the loan pools and revealed significant red flags, such as kick-out rates nearly double the normal amount, which were not acted upon.
• A forensic re-underwriting conducted for the litigation found that a substantial percentage of the loans (conservatively estimated at over 45% for each security) contained material defects and did not, in fact, conform to the originators' underwriting guidelines.
• Shortly after the GSEs purchased the certificates, the U.S. housing market began a severe decline in 2007, leading to the Great Recession and a rapid drop in the value of the PLS certificates.
• The widespread issuance of poorly underwritten loans, of the type backing the certificates, was a contributing factor to the housing bubble and subsequent financial crisis.

Procedural Posture:

• The Federal Housing Finance Agency (FHFA), as conservator for Fannie Mae and Freddie Mac, filed suit against Nomura, RBS, and other financial institutions in the U.S. District Court for the Southern District of New York.
• The complaint alleged violations of Sections 12(a)(2) and 15 of the Securities Act of 1933, as well as analogous state Blue Sky laws.
• This case was one of sixteen similar actions coordinated before District Judge Denise Cote; the other fifteen cases settled.
• The district court issued numerous pre-trial rulings, including granting summary judgment for the FHFA on the defendants' 'reasonable care' defense and denying the defendants' motion for a jury trial.
• Following the FHFA's voluntary withdrawal of its Section 11 claims, the district court conducted a four-week bench trial.
• The district court entered judgment in favor of the FHFA, finding the defendants liable and awarding over $806 million in rescission-like relief.
• Defendants-appellants Nomura and RBS appealed the trial court's judgment and pre-trial rulings to the U.S. Court of Appeals for the Second Circuit.