RBC Capital Markets LLC agreed to pay $30 million to resolve U.S. regulators’ claims that it marketed and sold unsuitable securities to five Wisconsin school districts that wiped out $200 million.
RBC Capital, the investment-banking unit of Canada’s biggest lender, failed to explain the risks of notes tied to synthetic collateralized debt obligations, even though there were “significant concerns” within the bank about whether the investments were suitable for the school districts, the Securities and Exchange Commission said today in a statement.
The RBC unit, which arranged the CDOs, is the second firm to face SEC sanctions over the sale of $200 million in derivative-linked debt to the school districts, which borrowed money to buy the investments and planned to use returns to cover health-care benefits for retiring employees.
The SEC sued brokerage Stifel, Nicolaus & Co. and one of its former bankers last month for selling the CDOs to the school districts.
“RBC Capital’s failure to fulfill its obligation as a broker-dealer to sell suitable investments was particularly troubling because the districts are relatively unsophisticated and the investments were complicated,” Kenneth Lench, who heads an SEC enforcement group focused on structured products, said in a statement.
Unused to Risks
School district board members and business managers had no prior experience investing in CDOs and “lacked sufficient knowledge and sophistication” to appreciate the investments’ risks, the SEC said in its statement.
While RBC arranged the CDOs, it was Stifel that persuaded the school districts to invest in it, said Kevin Foster, a spokesman for RBC in New York. RBC had no “significant access” to the districts and met with them only once before being hired, he said.
“Had we known that Stifel was misrepresenting this product as comparable to Treasury notes, we could have intervened, but we had no significant access to Stifel’s client or the communications between them,” Foster said in an e-mail statement. “We are pleased to resolve this matter and that the school districts benefit from the resolution.”
When Stifel was sued in August, the St. Louis-based brokerage faulted RBC for the loss and said it would fight the SEC allegations.
According to the SEC, RBC bankers raised internal concerns about whether the school districts knew the risks they were taking on by plowing borrowed money into CDOs, and spent more time discussing ways to shelter the firm from liability than whether the investments were appropriate. RBC also prepared marketing materials that distorted the safety of the securities, the SEC said.
“Are these guys sure what they are getting into at effectively 80-100x leverage?” one senior RBC executive asked, according to the SEC.
Because of the way the deals were structured, the districts were at risk of losing everything if the CDO portfolios underlying the investments had losses of 5 percent to 6 percent, according to the SEC. RBC was also leery of the program when first reviewing Stifel’s proposals, the SEC said.
A senior municipal finance banker for RBC wrote in a memorandum that it “clearly is not a concept that we want our bankers as a general group pitching to their clients.”
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