Morgan Keegan & Co. is going to trial before a judge whose decision to throw out regulators’ claims the retail brokerage misled thousands of investors about the risks of auction-rate securities was reversed on appeal.
Lawyers for the U.S. Securities and Exchange Commission and the Memphis, Tennessee-based financial firm delivered opening statements today in federal court in Atlanta in a nonjury trial scheduled to take two weeks.
The case, alleging that Morgan Keegan told clients that the more than $2 billion in securities it sold had “zero risk” as the market was collapsing in late 2007 and 2008, was dismissed by U.S. District Judge William Duffey Jr. in June 2011. In May, the U.S. Court of Appeals in Atlanta overruled Duffey, finding he incorrectly concluded brokers’ verbal comments to four customers were immaterial in light of disclosures posted on the firm’s website.
Morgan Keegan brokers told customers auction-rate securities were “liquid, short-term investments,” M. Graham Loomis, a lawyer for the SEC, said during openings today. “None of the brokers told them their money could be tied up indefinitely.”
The first witness who testified today, Lakeland, Florida, orange grower John Tillis, said he invested $400,000 in auction-rate securities in December 2007 in order to “park” the funds in a safe investment until his taxes were due in April. A Morgan Keegan broker told him “I would have no problem getting my money back when I needed it for taxes,” Tillis said. “I did not realize there was any risk.”
When the farmer later tried to withdraw the funds, the broker “never could tell me anything except they couldn’t sell them,” Tillis testified. The company later refunded his principal, he said.
The SEC, in a court filing, listed at least 10 other witnesses it expects to call to the stand, including Calvin Sullivan, Morgan Keegan’s chief strategy officer for fixed income, and General Manager Thomas Galvin. Along with current and former customers and brokers, the list also includes Kevin Giddis, fixed income head at St. Petersburg, Florida-based Raymond James Financial Inc.
Morgan Keegan, which was acquired by Raymond James in April, listed 71 potential witnesses in a court filing. They include Giddis and Galvin as well as customers and brokers.
Morgan Keegan sold as much as $2.2 billion in auction-rate securities that customers were unable to liquidate after the market’s collapse in 2008, according to the SEC. The commission sued Morgan Keegan for securities fraud in 2009, even after the firm had begun buying back the investments.
Typically, auction-rate securities were municipal and student-loan-backed bonds with interest rates that were determined through periodic auctions, the SEC said. The company frequently told customers the investments were the “same as cash” or “cash equivalents,” the agency said in court papers.
The market for auction-rate securities began to disintegrate in August 2007 after the companies insuring the investments began suffering heavy losses in subprime mortgage-related bonds, the SEC said.
In November 2007, Morgan Keegan learned of “a small number of failed auctions” for the securities, in which some of the investments were left unsold, according to the SEC suit.
By February 2008, auctions began to fail on “a widespread basis,” the SEC said.
In March 2008, Morgan Keegan began requiring customers who wished to buy auction-rate securities to sign statements acknowledging “it may be a considerable period of time before liquidity returns to this investment,” the SEC said.
Morgan Keegan said in court filings that auction-rate securities were historically “extremely safe and liquid.” The company denied the SEC allegations that it failed to tell customers about the risks of investing in them.
“Morgan Keegan’s failure to predict the future is not securities fraud,” a lawyer for Morgan Keegan, Amelia Rudolph, said in openings today. “This was a market that went up in smoke overnight. Morgan Keegan did not misrepresent this product to anyone.”
Not ‘a Penny’
After the market collapsed and before the SEC filed its lawsuit, Morgan Keegan voluntarily bought back $2 billion in auction-rate securities from customers, it said in court documents.
“Participants in the repurchase program have not lost a penny” on their auction-rate investments, the company said.
In dismissing the case last year, Duffey said in his ruling that “failure to predict the market does not constitute securities fraud.”
The SEC seeks unspecified monetary penalties against Morgan Keegan. Raymond James paid about $1.2 billion to buy the company from Regions Financial Corp.
The suit is Securities and Exchange Commission v. Morgan Keegan & Company Inc., 1:09-cv-01965, U.S. District Court, Northern District of Georgia (Atlanta).