Wall Street Banks In Talks To Settle SEC Lawsuit Over CDOs

12/02/2010 09:19 am ET | Updated May 25, 2011

As the government hunts for conflicts of interest at Wall Street banks that peddled investments which contributed to the worst financial collapse since the Great Depression, those banks are reportedly near settlement.

The SEC is looking at banks such as Citigroup, JPMorgan Chase and Morgan Stanley, to determine whether they knew crucial information that they didn't tell investors, when they sold complicated mortgage-based securities. But those banks and their regulators have begun talks that could lead to out-of-court settlements, agreements that would relieve the banks of an enormous legal headache, the Wall Street Journal reports.

Goldman Sachs reached a similar deal in July, after the SEC said the bank sold investors a set of securities that had been partially selected by a hedge fund (and Goldman client) that was betting against it. Goldman paid $550 million, a record sum, but peanuts for a bank that earned $13.4 billion last year.

In the years leading up to the financial crisis, Wall Street banks combined vast batches of prime and subprime mortgages into securities known as collateralized debt obligations (CDOs) that, though they later tanked dramatically, received seals of approval from the major credit ratings agencies.

When the housing market crashed, these CDOs, and the other derivatives that insured them, ravaged balance sheets throughout the financial system, exacerbating the need for a taxpayer bailout.

As ProPublica has chronicled, Wall Street banks often recycled pieces of complicated securities that they couldn't sell, using them to create still more securities that again received the ratings agencies' blessing. CDOs became a more than $1 trillion industry.

Read the full WSJ story here.