(c) 2008 Dow Jones & Company, Inc.
NEW YORK (Dow Jones)–An arbitration claim against UBS Financial Services Inc. and the global head of its Municipal Securities Group, David Shulman, seeks the return of $2.5 million now frozen in auction-rate securities along with punitive damages for alleged fraudulent sale of the shares.
The investor filing the claim had been sold the securities by his own son, a UBS broker at the time, and later by other UBS brokers.
The claim, filed with the Financial Industry Regulatory Authority Tuesday by New York law firm Meissner Associates., alleges that the division of UBS AG (UBS) misled investors by not providing material information regarding the liquidity risks of such securities. It also alleges that the firm did not disclose the manner in which the auctions were run and the fact that UBS helped prop up the auction-rate securities market.
The claim was filed on behalf of one investor, a 70-year-old retired doctor residing in Florida, who, according to attorney Stuart Meissner, was sold student-loan-related auction-rate securities by his son, a broker, through an individual-retirement account. The client’s son, who left UBS several years ago, was told that the securities were cash alternatives and could properly be used to attract clients away from bank money-market funds, Meissner said.
“UBS failed to warn investors of the risk of auction failures as well as the various features of the securities that impacted their liquidity as well as what they were doing internally in respect to propping up the auctions, which created the liquidity,” Meissner said in an interview with Dow Jones Newswires. The investor would not have purchased the securities had he had this information, the lawyer said.
In addition to the return of the $2.5 million invested in the securities and punitive damages, the claim is seeking interest on the investments.
UBS had no comment on the claim, but said it is committed to addressing its clients’ concerns about the events that caused the liquidity issues in the auction-rate securities market.
“We are working with clients, on a case-by-case basis, to address their immediate liquidity needs, offering such solutions, in many cases, of loans of up to 100% of the par value of their ARS holdings at preferred lending rates,” spokesman Kris Kagel said. “In addition, we are committed to working with our peers and industry groups to develop solutions to restore liquidity.”
Municipalities, mutual-fund companies, nonprofit institutions, corporations and student-lending companies borrowed money in the $330 billion auction-rate securities market, where they obtained long-term financing that had the features of short-term securities. The rates
reset periodically in auctions conducted and backed by Wall Street firms until the second week of February, when dealers stopped supporting the market. Investors were then left stranded with no way to sell their auction-rate shares.
UBS is facing increasing fallout as a result of the credit crunch and the resulting frozen auction-rate market. Last week, the Massachusetts secretary of state, William Galvin, levied civil charges of fraud and dishonest conduct against UBS, alleging it misled investors about the risk of auction-rate securities.
The arbitration claim from Meissner cites the Massachusetts regulator’s complaint. Many arbitration claims related to auction-rate securities have already been filed against UBS and other firms, but the action by Galvin’s office has opened the door to punitive damages, Meissner said.
He noted that Galvin’s office charged that Shulman engaged in an internal marketing campaign in the latter part of 2007 to sell UBS’ own inventory of auction-rate securities to investors, and that Shulman sold his personal stake in the shares prior to the auction failures because of the increasing risks.
Shulman’s sale of his own auction-rate securities while UBS continued to sell them to clients highlights the conflict within UBS’s business “more than anything else, and how they mistreated their own customers, which mandates punitive damages, in my view,” Meissner said.
In addition, a financial advisor who sold millions in auction-rate securities to municipalities while working for UBS Investment Services Inc. filed a federal whistle-blower complaint against the firm in mid-June, alleging that he faced retaliation after cooperating with a Massachusetts investigation into the sales.
In the complaint filed with the U.S. Department of Labor, Timothy Flynn, a former senior vice president at UBS Financial Services, alleges that after he told Massachusetts regulators that financial advisors had not been informed of the liquidity issues in the auction-rate marketplace,
the UBS AG unit locked him out of his office, prevented its staff from talking to him and ultimately suspended and prevented him from doing his job.
The arbitration claim filed by Meissner alleges that little, if any, training was provided to brokers explaining the risks involved in auction-rate securities and the differences between various versions of the instruments. It also alleges that UBS failed to inform its brokers of the liquidity risks or internal conflicts that existed between the investment-banking arm of UBS and its retail clients, and didn’t inform brokers and clients of numerous critical features related to the securities. Those features include the penalty interest rates that are triggered upon auction failures, impacting the likelihood that the issuer may refinance if auctions fail.
The auction-rate securities purchased by the investor named in the arbitration claim include Missouri Higher Education, Pennsylvania Student Loan, Iowa Student Loan, Illinois Student Loan Assist, Utah Student Board of Regents and Kentucky Higher Education Student Loan. All of the securities were listed under “cash alternatives” on his account statements, but were in reality long-term instruments with maturity dates ranging up to the year 2045, when the investor would be 107 years of age, according to Meissner.
The Meissner firm, which focuses on securities arbitration matters, says it plans to file similar claims. Meissner formerly worked in the investor protection unit of the New York Attorney General’s office.
(Daisy Maxey writes about personal finance; she covers topics including hedge funds, annuities, closed-end funds and new trends in mutual funds.)
-By Daisy Maxey, Dow Jones Newswires; 201-938-4048;
(Jaime Levy Pessin contributed to this report.)
See our March 1, 2008 posting relating to Auction Rate Securities Investigation.
See our April 3, 2008 posting relating to Auction Rate Securities: Meissner Firm Criticize FINRA Release
See our April 4, 2008 posting relating to Auction Rate Securities: Filing Complaints with Regulators / Participating in Class Actions
See our April 10, 2008 posting relating to Auction Rate Securities: Auction Rates Upset Bank-Broker Clients
See our June 27, 2008 posting relating to Auction Rate Securities: Suit Claims UBS Misled