BUSINESS

SEC May Target Big Banks In Lawsuit Over Mortgage-Backed Securities

02/09/2012 05:31 pm ET

Regulators may be preparing a lawsuit against some of the country's largest banks in order to probe their role in the acceleration of the financial crisis.

The Securities and Exchange Commission is planning to formally warn a number of firms that sold mortgage-backed securities in the years leading up to the meltdown of an impending enforcement action, the Wall Street Journal reports. At issue is whether banks knew at the time that the mortgages backing their securities were of poor quality -- and whether the banks nevertheless presented a picture of the loans that was misleadingly reassuring.

Mortgage-backed securities are generally believed to have played a central role in the near-meltdown of the national banking system a few years ago. The country's largest financial firms repeatedly bundled subprime mortgages and used them to guarantee securities that were sold to investors. When those mortgages proved unsound, it triggered a series of financial failures that dealt a severe blow to the national economy.

If such a lawsuit does come to pass, it would be part of a broader effort on the part of the federal government to assign responsibility for the financial crisis -- and to better regulate hazardous trading practices and high-risk financial instruments in the hopes of preventing another one. At the same time, the SEC has been criticized for not doing more to stamp out misconduct. In 2009, one prominent whistleblower called the agency "captive to the industry it regulates."

Multiple lawsuits and inquiries have already raised the issue of whether banks misrepresented the health of mortgage-backed securities during the housing boom. JPMorgan Chase faced one such suit last year, as did Washington Mutual and Bank of America's Merrill Lynch division. Goldman Sachs is currently facing a potential class-action suit from investors over whether it purchased a number of mortgage-backed securities in 2005 without first examining their health.

Goldman was also accused last year, by an investigatory Senate panel, of misleading Congress and investors as to the safety of the mortgage-backed securities it was selling.

News of the possible suit comes at a moment when banks are already being called to account for their handling of another result of the collapsing housing market: the foreclosure crisis. On Thursday, the government announced that it had reached a $25 billion settlement with some of the country's largest financial firms -- among them Citigroup, Ally and BofA, all said to be targets of the SEC investigation -- over charges that the banks engaged in systematic and widespread mortgage fraud.

No major bank executives have yet to face prison over their role in the worse financial crisis since the Great Depression.

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