$286 Million Auction Rate Securities Loss?
The fallout from the subprime mortgage contagion continues to spread to other parts of the credit markets. Wall Street Journal reporter Robert Frank recently (Feb. 14, 2008) recounted the story of Brian and Basil Maher who sold their family's shipping business last summer for more than $1 billion. The brothers then put the some of these proceeds in what should have been a safe investment with Lehman Brothers Holdings Inc., with strict orders to “make only the most conservative, cash like investments.” Instead, the brothers lost $286 million within weeks.
Unbeknownst to the Mahers, Lehman Brothers invested more than two-thirds of their money in auction rate securities, which are an obscure type of bond now sending shock waves through the economy. Auction rate securities are an unusual type of long-term bonds that behave like short-term bonds. Auction rate securities are used to fund a wide variety of programs, including college student-loan programs and municipal road and bridge projects. These securities became popular with investors looking for cash-like investments because they offered better returns than traditional money-market investments but were just as easy to buy and sell.
The advantages of the securities however, quickly vanished in the subprime-mortgage crisis. New York’s Port Authority saw the interest rate on some of its auction rate debt climb from 4.2% to 20%.
The Mahers are a classic American rags-to-riches story. Their father Michael Maher worked as a longshoreman to pay his way through law school. After returning from the service after World War II, he borrowed money and established a shipping terminal in New Jersey. The Mahers were among the first terminal operators in the 1960’s to upgrade their facility to handle the shipping containers that are now the building block of the global shipping trade.
The brothers took over the business from their father and doubled the port’s size to 450 acres. In 2006, however, the Mahers began to consider selling the business. Cash rich global investors went on a shopping spree for shipping terminals that bid up prices. The company was also requiring increasing amounts of capital, and the Mahers were reluctant to take on large amounts of debt. The family was also facing the prospect of a huge estate tax bill if one of the brothers died.
The Mahers sold the company to one of Deutsche Bank’s investment units in July 2007 for more than $1 billion. The brothers had no real investing experience so they wanted to put the money in a safe place until they could hire a team of wealth advisors. As a favor, John Liu, the co-head of mergers and acquisitions at Greenhill & Co., who had advised the Mahers on the sale of the company, agreed to help them find professional managers.
The three of them drew up a basic list of financial objectives: (i) preserve capital; (ii) provide sufficient liquidity; and (iii) capture a market rate of return based on the Mahers’ investment policy parameters and market conditions. To spread the risk, Liu also recommended that three separate firms handle the temporary investments – Lehman, UBS, and JP Morgan Chase. All of the accounts were discretionary so that the brokers could make trades without obtaining approval form the Mahers for each transaction.
UBS and JP Morgan Chase invested in Treasuries, money market funds and government bonds, and those investments have been profitable. But two thirds of the Lehman account – about $400 million – was invested in corporate auction rate securities with obscure names like Tortoise TYY I and INC 2003-02. The Mahers demanded that Lehman get them out of the trades, but the firm could only sell $114 million of the securities. There were no buyers for the rest so the Mahers still own the securities for which they paid $286 million. As of now, however, effectively no market exists for these securities.
Like the Mahers, wealthy investors are discovering that exotic securities that are sold as both safe and liquid investments can be neither.
Last month, the Mahers filed a claim with the Financial Industry Regulatory Authority against Lehman Brothers. The complaint notes that Lehman ignored the Mahers' request to put the money in short-term, low-risk investments. The Mahers are demanding that Lehman buy back the securities at their original value with interest. They are also seeking punitive damages of up to $857 million.
Page Perry, LLC is an Atlanta-based law firm with over 125 years collective experience representing investors in securities-related litigation and arbitration. While past results are not indicative of future success, Page Perry’s attorneys have recovered over $1,000,000 for clients on more than 30 occasions. Page Perry’s attorneys are actively involved in counseling investors regarding their subprime investment problems and have brought claims for investors with losses relating to subprimes. For further information, please contact us.
