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On Friday, South Korea-based Woori Bank, a unit of Woori Finance Holdings Co. Ltd. (WF), sued Merrill Lynch unit of Bank of America Corporation (BAC - Analyst Report). Woori's complaint accuses the investment bank of creating and selling seven collateralized debt obligations (CDOs) that were made up of residential mortgage-backed securities in 2005 and 2006.
CDOs typically repackage bonds and other assets into new securities. These are not traded on a public exchange, and hence allow the firms like BofA to generate fees by brokering deals between buyers and sellers. However, CDOs have performed dismally since these were invested in securities comprising sub-prime mortgages, which are known to have larger-than-average risk of defaulting in the market. Eventually, the market downturn shattered the investment banker’s expectations and led to huge losses for the common investors.
Woori alleged that Merrill issued misleading statements and omissions related to the mortgage-backed securities and also concealed the risks associated with the securities. The company claims that the documents used in offering these securities contained untrue statements or omissions regarding the risks involved in these investments. These misrepresentations of the risks provoked investments, which virtually have no value at current levels.
Woori has filed the lawsuit in the New York State Supreme Court in Manhattan. The company demands for damages worth $143 million along with other penal charges.
Recently, the U.S. District Judge in Manhattan approved BofA’s $315 million settlement with investors related to the Public Employees' Retirement System of Mississippi pension fund. The settlement was made to compensate the investors as BofA misled these investors by giving them deceptive information on risks associated with mortgage-backed securities issued by its Merrill Lynch unit.
BofA denied all the charges made against it. However, Merrill Lynch, which was purchased by the investment bank in 2009, averred that the losses faced by the investors were attributable to the downturn in economy and housing bubble.
Last week, Citigroup Inc. (C - Analyst Report) also faced similar legal charges made by Woori Bank. The complaint lodged claims that Citi misrepresented documents as an underwriter in the sale of CDOs and residential mortgage-backed securities, which turned Woori’s $95 million investment, made during 2006 and 2007, into loss.
Numerous lawsuits alleging BofA of such wrongdoings would surely dent its reputation and financials. However, we believe that the investors, who have lost their hard-earned money in such investments, should feel relieved.
Shares of BofA currently retain a Zacks #3 Rank, which translates into a short-term ‘Hold’ rating.Considering the fundamentals, we also maintain a long-term “Neutral” recommendation on the stock.