October 19, 2011 / 9:37 PM / 6 years ago

Analysis: SEC and Rakoff to reunite in Citi CDO case

NEW YORK (Reuters) - And so they meet again.

Through a random selection process, the Securities and Exchange Commission’s $285 million settlement with Citigroup Inc over a collateralized debt obligation was assigned to U.S. District Court Judge Jed Rakoff, who will decide whether or not to approve the deal.

Rakoff is not prone to rubber-stamp anything involving the SEC. Two years ago, he famously rejected an initial $33 million settlement between the SEC and Bank of America Corp over disclosures related to its merger with Merrill Lynch. He chastised the SEC for, among other things, seeking a relatively puny fine and not charging any individuals. Last year, he grudgingly approved a $150 million deal.

Rakoff appeared to embolden other judges to question settlements. Last August, for example, U.S. District Judge Ellen Huvelle in Washington initially refused to approve a $75 million settlement between Citigroup and the SEC over charges the bank misled investors regarding its exposure to subprime mortgages. Huvelle questioned the size of the penalty and how the SEC chose which individuals to charge, according to a report in the Washington Post. (Huvelle ultimately OK’d the deal.)

Will the SEC’s settlement announced Wednesday with Citi fare any better?

It may be harder for Rakoff to question the size of the fine this time. Among the banks that have settled with the SEC over allegations that they misled investors about CDOs, the Citigroup settlement would rank near the top. Last year Goldman Sachs agreed to pay $550 million for over its Abacus 2007-AC1 CDO, while JPMorgan reached a $153.6 million deal last month over its Squared CDO 2007-1.

In announcing the settlement with Citigroup, the SEC also said that the proceeds of the settlement will be returned to investors. When Rakoff initially rejected the BofA settlement, he raised concerns that the penalty would be unfairly shouldered by the company’s shareholders.

This time around, the SEC has also named individuals. The agency filed a lawsuit against former Citigroup employee Brian Stoker, who allegedly structured the deal. It also settled an administrative action against a former Credit Suisse portfolio manager it says was primarily responsible for the transaction.

The SEC appears to be following the same playbook it employed in its case against JPMorgan and Edward Steffelin, a former managing director at the now bankrupt GSC Capital Corp, which served as collateral agent for the JPMorgan CDO marketed as Squared CDO 2007-1.

In both the Citigroup and JPMorgan cases, the agency settled with the banks and pursued charges against individuals who ran the deals. And in both cases, it charged the banks with negligent fraud, an easier standard to prove than intentional fraud.

“I think Judge Rakoff will have questions,” said Thomas Gorman, a partner at Dorsey & Whitney who runs the SEC Actions blog. “But I think at the end of the day he’ll approve this deal.”

This item first appeared on Thomson Reuters News & Insight: link.reuters.com/ras54s

Reporting by Andrew Longstreth; Editing by Jesse Wegman

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