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The Bank of New York Mellon Corporation (BK - Analyst Report) is the latest financial institution to settle the class-action lawsuit related to Sigma Finance Inc., a risky debt vehicle that tanked in 2008. BNY Mellon has agreed to a $280 million settlement, which still awaits court approval.
BNY Mellon was sued in the federal court in Oklahoma by CompSource Oklahoma, a state’s workers’ compensation insurance firm. It claimed that the company irresponsibly invested the money in medium-term notes issued by Sigma and lost significant amount of cash collateral when the commercial paper markets froze during the height of the financial crisis.
Sigma, a structured investment vehicle (SIV), was formed by UK-based Gordian Knot Ltd. When Sigma failed in 2008, it had about $1.9 billion as security for nearly $6.2 billion of medium-term notes and other debts.
Generally, SIVs used short-term lending to invest in high yielding long-term securities. Nevertheless, during the financial crisis these SIVs were severely hit and the majority of them collapsed, thereby leading to huge losses to investors.
Earlier this year, JPMorgan Chase & Co. (JPM - Analyst Report) agreed to pay $150 million to settle a similar suit for investing the money in Sigma. The plaintiffs in the case included the American Federation of Television and Radio Artists (AFTRA) Retirement Fund, the Bronx Surface Transit Operating Authority Pension Fund and the Imperial County Employees' Retirement System.
Apart from BNY Mellon and JPMorgan, Wells Fargo & Company (WFC - Analyst Report) is the other bank that has been sued for its failed investments in Sigma. Further, cases have also been filed against the rating agencies – Moody’s Investors Service, the ratings unit of Moody’s Corp. (MCO - Analyst Report), and Standard & Poor’s (S&P) – for their ‘AAA’ ratings on Sigma.
Separately, in the second quarter of 2012, BNY Mellon would be taking a charge of $350 million ($210 million after-tax), mostly related to the settlement of Sigma litigation. Additionally, the company stated that after reviewing the recently released capital rules, its Basel III Tier 1 common equity ratio would increase more than 1%, mainly attributable to estimated reduction in risk-weighted assets related to securities portfolio. As of March 31, 2012, Basel III Tier 1 common equity ratio was 7.6%.
BNY Mellon is scheduled to release its second quarter results on July 18. We believe that the above-mentioned charge will not have any substantial adverse impact on the results. The company’s top line will benefit from various restructuring initiatives and acquisitions. However, a low interest rate environment, rising operating expenses and changing regulatory landscape are the major causes of concern.
Currently, BNY Mellon retains a Zacks #3 Rank, which translates into a short-term Hold rating.