Meanwhile, Barclays Capital, which was on the receiving end of a $151 million CDO lawsuit from HSH Nordbank, settled with the German landesbank only weeks before the case was due to be heard in London’s High Court (Risk October 2004, page 10).
The BPI lawsuit revolves around a €62 million portfolio of seven unrated credit-linked notes on which BPI says it lost €40 million. The notes were a mixture of standard CDOs, CDO squareds and CDOs of asset-backed securities. BPI says some of these notes appear to be carved out of the retained equity layer of Helix Capital, a publicly rated series of balance-sheet synthetic CDOs issued by BoA between 2001 and 2002.
BPI claims BoA mis-sold five of the seven notes. In particular, it says BoA sold it equity tranches or quasi-equity tranches despite being told BPI was counting on repayment of its principal. Two of the notes declined to zero after 18 months, BPI says.
Another bone of contention is the pricing and structuring of the notes. One note contained a call feature BPI says was mispriced. The call was exercised by BoA in August 2002, causing a loss to BPI of €3.25 million. BPI also says an independent valuation service has determined that the fair value of two of the notes was 25% of par, whereas they were originally sold to BPI at 80% and 98% respectively.
Equally serious are BPI’s allegations about BoA’s management of the notes, in particular concerning collateral substitutions that were allegedly motivated by credit exposure considerations not communicated to BPI. One such substitution is said by BPI to have taken place in August 2002 involving a securitisation called NPF-XII, which had been originated by National Century Financial Enterprises, a healthcare receivables financing company that declared bankruptcy in November 2002, along with NPF-XII.
BPI says another BoA substitution involved Helix synthetic CDOs referenced to debt issued by WorldCom. These substitutions were made in October 2002, when the impact of the WorldCom bankruptcy protection filing in July that year had not yet been reflected in the Helix ratings.
The junior triple-B rated tranches of the Helix CDOs issued prior to mid-2002 have performed badly, according to Fitch, with current ratings ranging from B+ to double D. BPI claims these substitutions breached the terms of its deal with BoA.
Officially, BoA is remaining tight-lipped. “We have not been provided with the details of BPI’s complaint against us,” says a press officer, “nor have we yet been formally served with any claims. We are therefore not able to respond to any specific allegations BPI may make in the claims or in the press, but plan to address them in due course in the proper forum – the courts. However, we do intend to defend ourselves vigorously.”
But sources close to the US bank maintain that the fact BPI bought other CDO tranches from other banks – CDO tranches that in contrast with BoA’s did not default or under-perform – demonstrates BPI was a sophisticated and professional investor in structured credit. Any claimed ignorance by BPI of structured credit concepts and documentation is not credible, the sources say, adding that high-yield products have proportionate risks well understood by such investors.