UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
ABU DHABI COMMERCIAL BANK, et al.,
Individually and On Behalf of All Others
Civil Action No. 1:08-cv-07508
CLASS ACTION Similarly Situated,
PLAINTIFFS' MEMORANDUM OF LAW
IN SUPPORT OF THEIR OPPOSITION TO
DEFENDANTS' JOINT MOTION FOR
SUMMARY JUDGMENT PURSUANT TO
FEDERAL RULE OF CIVIL
MORGAN STANLEY & CO.
INCORPORATED, et al.,
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 1 of 60
TABLE OF CONTENTS
2 II. ARGUMENT
The Ratings Are Actionable Misstatements
Morgan Stanley Made an Actionable Misstatement
The Evidence of Falsity and Scienter Present Disputed Issues of Fact
Plaintiffs Justifiably Relied on Defendants' False Statements 20 D.
The Evidence of Loss Causation Presents Disputed Issues of Fact 32
Plaintiffs' Losses Were Caused by the Materialization of the Risks
Concealed by Defendants' Fraud 34
Plaintiffs' Losses Were Within the "Zone of Risk" 41
All of the Plaintiffs Were Damaged by Defendants' Fraud 42
Generic Disclosures Do Not Negate Loss Causation or Scienter
Aiding and Abetting Has Been Established
45 III. CONCLUSION
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 2 of 60
TABLE OF AUTHORITIES
Abu Dhabi Commercial Bank v. Morgan Stanley & Co.,
269 F.R.D. 252 (S.D.N.Y. 2010) 20
Abu Dhabi Commercial Bank v. Morgan Stanley & Co.,
651 F. Supp. 2d 155 (S.D.N.Y. 2009) passim
ADL, LLC v. Tirakian,
No. CV 06-5076(SJF)(MDG), 2010 WL 3925131
(E.D.N.Y. Aug. 26, 2010) 3
Advanced Magnetics v. Bayfront Partners,
106 F.3d 11 (2d Cir. 1997) 32
AIG Global Sec. Lending Corp. v. Banc of Am. Sec. LLC,
646 F. Supp. 2d 385 (S.D.N.Y. 2009),
aff'd, 386 Fed. App'x 5 (2d Cir. 2010) 38, 40, 43
Alexander v. Evans,
No. 88 Civ. 5309 (MJL), 1993 WL 427409
(S.D.N.Y. Oct. 15, 1993) 28
Am. Optical Co. v. Curtiss,
56 F.R.D. 26 (S.D.N.Y. 1971) 30
Anderson v. Liberty Lobby, Inc.,
477 U.S. 242 (1986) 2
Anschutz Corp. v. Merrill Lynch & Co.,
785 F. Supp. 2d 799 (N.D. Cal. 2011) 4
Aristocrat Leisure Ltd. v. Deutsche Bank Trust Co. Americas,
727 F. Supp. 2d 256 (S.D.N.Y. 2010) 43
Atl. Mut. Ins. Co. v. CSX Lines, L.L.C.,
432 F.3d 428 (2d Cir. 2005) 2
B.R.I. Coverage Corp. v. Air Canada,
725 F. Supp. 133 (E.D.N.Y. 1989) 32
Bank of N.Y. v. Tyco Int'l Grp., S.A.,
545 F. Supp. 2d 312 (S.D.N.Y. 2008) 2
- ii -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 3 of 60
Banque Arabe et Internationale D 'Investissement v. Maryland Nat 'l Bank,
30, 32 57 F.3d 146 (2d Cir. 1995)
Banque Franco-Hellenique de Commerce Int 'l Maritime, S.A. v. Christophides,
29 106 F.3d 22 (2d Cir. 1997)
Brandoff v. Empire Blue Cross & Blue Shield,
707 N.Y.S.2d 291 (N.Y. Civ. Ct. 1999) 30, 32
Center v. Hampton Affiliates, Inc.,
19 66 N.Y.2d 782 (1985)
Century Pac., Inc. v. Hilton Hotels Corp.,
528 F. Supp. 2d 206 (S.D.N.Y. 2007),
aff'd, 354 Fed. App'x 496 (2d Cir. 2009) 8
Chem. Bank v. Arthur Andersen & Co.,
34 726 F.2d 930 (2d Cir. 1984)
China Dev. Indus. Bank v. Morgan Stanley & Co., Inc.,
22 927 N.Y.S.2d 52 (1st Dep't 2011)
Chubb & Son, Inc. v. Kelleher,
No. 92CV4484(TLM), 2010 U.S. Dist. LEXIS 141842
(S.D.N.Y. Oct. 22, 2010) 6
Compuware Corp. v. Moody's Investors Servs.,
6 499 F.3d 520 (6th Cir. 2007)
CPC Int'l Inc. v. McKesson Corp.,
3, 6 70 N.Y.2d 268 (1987)
Danna v. Malco Realty, Inc.,
857 N.Y.S.2d 688 (2d Dep't 2008) 6
Defer LP v. Raymond James Fin., Inc.,
654 F. Supp. 2d 204 (S.D.N.Y. 2009) 18
Edison Fund v. Cogent Inv. Strategies Fund, Ltd. ,
551 F. Supp. 2d 210 (S.D.N.Y. 2008) 45
ESBE Holdings, Inc. v. Vanquish Acquisition Partners, LLC,
6 858 N.Y.S.2d 94 (1st Dep't 2008)
- in -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 4 of 60
Eurycleia Partners, LP v. Seward & Kissel, LLP,
849 N.Y.S.2d 510 (1st Dep't 2007) 7
Fait v. Regions Fin. Corp..,
5 655 F.3d 105 (2d Cir. 2011)
Gabriel Capital, L.P. v. NatWest Fin., Inc.,
122 F. Supp. 2d 407 (S.D.N.Y. 2000)... 16
Genesee Cnty. Emps.' Ret. Sys. v. ThornburgMortg. Sec. Trust 2006-3,
No. CIV 09-0300 JB/KBM, 2011 WL 5840482
(D.N.M. Nov. 12, 2011) 4
Gabriel Capital, L.P. v. NatWest Fin., Inc.,
177 F. Supp. 2d 169 (S.D.N.Y. 2001)... 20, 21
Glatzer v. Scappatura,
470 N.Y.S.2d 675 (2d Dep't 1984) 7
Gordon & Co. v. Ross,
20 84 F.3d 542 (2d Cir. 1996)
Hotaling v. A.B. Leach & Co.,
247N.Y. 84(1928) 32
Houbigant, Inc. v. Deloitte & Touche, LLP,
8 753 N.Y.S.2d 493 (2003)
In re Ambac Fin. Grp., Inc.,
693 F. Supp. 2d 241 (S.D.N.Y. 2010) 39
In re Charles Schwab Corp. Sec. Litig.,
39, 40 257 F.R.D. (N.D. Cal. 2009)
In re Citigroup Inc. Sec. Litig.,
753 F. Supp. 2d 206 (S.D.N.Y. 2010) 18
In re Cnty. of Orange,
No. CV96-0765GLT, 1997 U.S. Dist. LEXIS 22459
(C D. Cal. June 2, 1997) 3
In re Countrywide Fin. Corp. Sec. Litig.,
588 F. Supp. 2d 1132 (C D. Cal. 2008) 39
- iv -
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In re Eugenia VI Venture Holdings, Ltd.,
649 F. Supp. 2d 105 (S.D.N.Y. 2008) 29
In re Flag Telecom Holdings, Ltd. Sec. Litig.,
618 F. Supp. 2d 311 (S.D.N.Y. 2009) 45
In re IBM Corp. Sec. Litig.,
163 F.3d 102 (2d Cir. 1998) 3
In re JPMorgan Chase Sec. Litig.,
363 F. Supp. 2d 595 (S.D.N.Y. 2005) 18
In re Lehman Bros. Mortg.-BackedSec. Litig.,
5 650 F.3d 167 (2d Cir. 2011)
In re Marsh & McLennan Cos. Sec. Litig.,
501 F. Supp. 2d 452 (S.D.N.Y. 2006) 18
In re MBIA, Inc. Sec. Litig.,
700 F. Supp. 2d 566 (S.D.N.Y. 2010) 18
In re Merrill Lynch Auction Rate Sec. Litig.,
No. 09 MD 2030(LAP), 2011 WL 1330847
(S.D.N.Y. Mar. 30, 2011) 44
In re Metlife Demutualization Litig.,
262 F.R.D. 217 (E.D.N.Y. 2009) 19
In re Mut. Funds Inv. Litig.,
590 F. Supp. 2d 741 (D. Md. 2008) 39
In re Omnicom Grp., Inc. Sec. Litig.,
33 597 F.3d 501 (2d Cir. 2010)
In re Optimal U.S. Litig.,
No. 10 Civ. 4095(SAS), 2011 WL 6424988
(S.D.N.Y. Dec. 21, 2011) 5, 7
In re Oxford Health Plans, Inc. Sec. Litig.,
244 F. Supp. 2d 247 (S.D.N.Y. 2003) 43
In re Refco Inc. Sec. Litig.,
No. 07 MDL 1092 (JJR), 2011 U.S. Dist. LEXIS 33554
(S.D.N.Y. Mar. 28, 2011) 5, 20
- v -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 6 of 60
In re Tycom Ltd. Sec. Litig.,
No. 03-CV-1352-PB, 2005 WL 2127674
(D.N.H. Sept. 2, 2005) 39
In re Vivendi Univ., S.A. Sec. Litig.,
605 F. Supp. 2d 570 (S.D.N.Y. 2009) 32
In re Vivendi Universal, S.A. Sec. Litig.,
765 F. Supp. 2d 512 (S.D.N.Y. 2011) 19
In re WorldCom, Inc. Sec. Litig.,
352 F. Supp. 2d 472 (S.D.N.Y. 2005) 18
Int'l Design Concepts, LLC v. Saks, Inc.,
486 F. Supp. 2d 229 (S.D.N.Y. 2007) 32
Internet Law Library, Inc. v. Southridge Capital Mgmt., LLC,
No. 01 Civ. 6600(RLC), 2007 WL 1222583
(S.D.N.Y. Apr. 25, 2007) 34
Janus Capital Grp., Inc. v. First Derivative Traders,
U.S. , 131 S. Ct. 2296 (2011) 7, 15, 17
Jay Dees Inc. v. Defense Tech. Sys., Inc.,
No. 05 Civ. 6954(SAS), 2008 WL 4501652
(S.D.N.Y. Sept. 30, 2008) 23
JP Morgan Chase Bank v. Winnick,
350 F. Supp. 2d 393 (S.D.N.Y. 2004) 28
JSMS Rural LP v. GMG Capital Partners III, LP,
No. 04 Civ. 8591(SAS), 2006 WL 1867482
(S.D.N.Y. July 6, 2006) 44
Kalnit v. Eichler,
7, 13, 14 264 F.3d 131 (2d Cir. 2001)
Kimmell v. Schaefer,
637 N.Y.S.2d 147 (1st Dep't 1996),
aff'd, 89 N.Y.2d 257 (1996) 4
King County v. IKB Deutsche Industriebank AG,
708 F. Supp. 2d 334 (S.D.N.Y. 2010) passim
- vi -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 7 of 60
King County, Wash. v. IKB Deutsche Industriebank AG,
No. 09 Civ. 8387(SAS), slip op. (S.D.N.Y. Oct. 29, 2010) 45
Kuo Feng Corp. v. Ma,
699 N.Y.S.2d 575 (1st Dep't 1998) 19
Lapin v. Goldman Sachs Grp., Inc.,
506 F. Supp. 2d 221 (S.D.N.Y. 2006) 3
Lemanik, S.A. v. McKinley Allsopp, Inc.,
125 F.R.D. 602 (S.D.N.Y. 1989) 31
Lentell v. Merrill Lynch & Co.,
396 F.3d 161 (2d Cir. 2005) 32, 41
Louros v. Kreicas,
367 F. Supp. 2d 572 (S.D.N.Y. 2005) 33
Mandarin Trading Ltd. v. Wildenstein,
16 N.Y.3d 173 (2011) 6
Mateo v. Senterfitt,
918 N.Y.S.2d 438 (1st Dep't 2011) 7
MBIA Ins. Corp. v. Countrywide Home Loans, Inc.,
928 N.Y.S.2d 229 (1st Dep't 2011) 32
McClellan v. Smith,
439 F.3d 137 (2d Cir. 2006) 2
Mogul v. Jenkins Bros.,
120 N.Y.S.2d 585 (1st Dep't 1953) 30
N.J. Carpenters Health Fund v. DLJ Mortg. Capital, Inc.,
No. 08 Civ. 5653(PAC), 2010 WL 1473288
(S.D.N.Y. Mar. 29, 2010) 44
Ohio Police & Fire Pension Fund,
No. 2:09-cv-1054, 2011 WL 4448847
(S.D. Ohio Sept. 26, 2011) 5
Owens v. Gaffken & Barriger Fund, LLC,
No. 08 Civ. 8414(PKC), 2009 WL 3073338
(S.D.N.Y. Sept. 21, 2009) 42
- vii -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 8 of 60
Pemex-Refinacion v. Tbilisi Shipping Co. Ltd.,
No. 04 Civ. 02705(HB), 2004 WL 1944450
(S.D.N.Y. Aug. 31, 2004) 32
Pension Comm. of the Univ. of Montreal Pension Plan v. Banc of Am. Sec., LLC,
592 F. Supp. 2d 608 (S.D.N.Y. 2009) 30
Pension Comm. of Univ. of Montreal Pension Plan v. Banc of Am. Sec., LLC,
No. 05 Civ. 9016(SAS), 2006 WL 708470
(S.D.N.Y. Mar. 20, 2006) 31, 32
Plumbers' Union Local No. 12 Pension Fund v. Nomura Asset Acceptance Corp.,
632 F.3d 762 (1st Cir. 2011) 6
Pro Bono Invs., Inc. v. Gerry,
No. 03 Civ. 4347(JGK), 2008 WL 4755760
(S.D.N.Y. Oct. 29, 2008) 32
Pub. Emps. Ret. Sys. of Miss. v. Merrill Lynch & Co.,
277 F.R.D. 97 (S.D.N.Y. 2011) 44
Ret. Sys. v. Hartford Fin. Servs. Grp., Inc.,
No. 10 Civ. 2835(NRB), 2011 WL 4357368
(S.D.N.Y. Sept. 19, 2011) 18
Ret. Sys. v. Moody's Corp.,
No. CGC-09-490241, slip op.
(Cal. Super. Ct., Cnty. of San Francisco June 1, 2010) 4
Sheehy v. New CenturyMortg. Corp.,
690 F. Supp. 2d 51 (E.D.N.Y. 2010) 8, 20
Shields v. Citytrust Bancorp,
25 F.3d 1124 (2d Cir. 1994) 8
Silver Oak Capital L.L.C. v. UBS AG,
920 N.Y.S.2d 325 (1st Dep't 2011) 32, 45
Stichting Ter Behartiging Van de Belangen Van Oudaandeelhouders
in Het Kapitaal Van Saybolt Int 'l B. V. v. Schreiber,
407 F.3d 34 (2d Cir. 2005) 30
Tahini Invs., Ltd. v. Bobrowsky,
470 N.Y.S.2d 431 (2d Dep't 1984) 22
- viii -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 9 of 60
Teamsters Local 445 Freight Div. Pension Fund v. Bombardier Inc.,
No. 05 Civ. 1898(SAS), 2005 WL 2148919 (S.D.N.Y. Sept. 6, 2005) 32
Teamsters Local 445 Freight Div. Pension Fund v. Dynex Capital, Inc.,
19 531 F.3d 190 (2d Cir. 2008)
Todd v. Pearl Woods, Inc.,
248 N.Y.S.2d 975 (2d Dep't 1964),
aff'd, 15 N.Y.2d 817 (1965) 28
United States v. Bank of New England, N.A.,
821 F.2d 844 (1st Cir. 1987) 18
UST Private Equity Investors Fund, Inc. v. Salomon Smith Barney,
29 733 N.Y.S.2d 385 (1st Dep't 2001)
Va. Bankshares, Inc. v. Sandberg,
3 501 U.S. 1083 (1991)
Valentini v. Citigroup, Inc. ,
No. 11 Civ. 1355(LBS), 2011 WL 6780915
(S.D.N.Y. Dec. 27, 2011) 18
Vandenberg v. Adler,
No. 98 CIV. 3544 WHP, 2000 WL 342718
(S.D.N.Y. Mar. 31, 2000) 16
Wechsler v. Steinberg,
8 733 F.2d 1054 (2d Cir. 1984)
STATUTES, RULES AND REGULATIONS
Federal Rules of Civil Procedure
2 Rule 56(a)
22, 26 SEC Rule 2a-7
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Pub. L. 111-203, H.R. 4173
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 11 of 60
Plaintiffs collectively purchased more than $980 million of the Cheyne SIV's Rated Notes
1 and suffered devastating losses. ^40. The overwhelming evidence establishes that those losses
were caused by defendants' fraud. Plaintiffs have established a triable issue of fact as to the claims
All defendants made materially false statements. The evidence establishes that the ratings
had materially false components and defendants had no reasonable basis to believe the assigned
ratings were justified. Each defendant knew of or recklessly disregarded the falsity of the alleged
misstatements. All defendants knew that the data and assumptions used to rate the Cheyne SIV
notes were unreliable and insufficient to support the ratings. They knew that the assets the Cheyne
SIV held were not accurately rated and that the ratings were not commensurate with the risk. The
defendants ignored these facts and issued top ratings without a basis in fact for doing so. Kai Gilkes,
S&P's most senior quantitative analyst in Europe when the Cheyne SIV was launched, summed it
So it is a factual statement that the ratings of those [structured investment] vehicles
were inappropriate because the ratings of the underlying assets were not appropriate.
So it leads to the conclusion that they should not have been rated, but that is not
necessarily my - is not necessarily my belief. It is just a factual statement.
P(w). Nevertheless, defendants issued the fraudulent ratings, which arose out of the rating
agencies' unquenchable thirst for market share and Morgan Stanley's ("MS") desire to feed its
lucrative mortgage securitization machine.
Every plaintiff (or its investment advisor) testified that the ratings assigned to the Rated
Notes were a substantial factor in each of the plaintiffs' decision to purchase the Rated Notes. This
1 Unless otherwise indicated, all "^" and " ^ " references are to Plaintiffs' Response to
Defendants' Joint Statement of Undisputed Material Facts Pursuant to Local Rule 56.1.
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 12 of 60
testimony is corroborated by contemporaneous documents. Moreover, because of the complexity
and opacity of the Cheyne SIV, plaintiffs had no choice but to rely on the ratings to assess the credit
risk of these investments. Defendants' fraud pervaded the Cheyne SIV so deeply that no
investigation conducted by the plaintiffs could have revealed that the ratings were false.
There is no question that plaintiffs' losses were proximately caused by defendants' fraud.
When the market realized the true quality of the Cheyne SIV and its assets, the SIV collapsed. As
Moody's conceded: "[T]he undoing of the SIVs . . . is primarily explained by the overly aggressive
ratings of underlying assets, from the market's perspective." ^30(b). As a result, the Senior
Noteholders incurred substantial losses, and the Mezzanine Capital Notes ("MCN") investors lost
Summary judgment is appropriate only "if the movant shows that there is no genuine dispute
as to any material fact and the movant is entitled to judgment as a matter of law." Fed. R. Civ. P.
56(a). "'[I]n assessing the record to determine whether there is a genuine issue as to a material fact,
the court is required to resolve all ambiguities and draw all permissible factual inferences in favor of
the party against whom summary judgment is sought.'" Atl. Mut. Ins. Co. v. CSX Lines, L.L.C., 432
F.3d 428, 433 (2d Cir. 2005).2 To that end, "'[i]t is a settled rule that "[credibility assessments,
choices between conflicting versions of the events, and the weighing of evidence are matters for the
jury, not for the court on a motion for summary judgment. Bank of N. Y. v. Tyco Int 'l Grp., S.A., ?? c 55
545 F. Supp. 2d 312, 318 (S.D.N.Y. 2008) (quotingMcClellan v. Smith, 439 F.3d 137, 144 (2d Cir.
2006)). Thus, a court should consider granting summary judgment "with caution." Anderson v.
Liberty Lobby, Inc., 477 U.S. 242, 255 (1986). The record in this case is replete with genuine
2 Emphasis is added and citations are omitted unless otherwise noted.
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 13 of 60
disputes of material fact that preclude summary judgment.
A. The Ratings Are Actionable Misstatements
Notwithstanding defendants' renewed attack, the Court has already "reject[ed] the argument
that the Rating Agencies' ratings are nonactionable opinions," stating that the "ratings [on the
Cheyne SIV] were not mere opinions but rather actionable misrepresentations." Abu Dhabi
Commercial Bank v. Morgan Stanley & Co., 651 F. Supp. 2d 155, 176 (S.D.N.Y. 2009).3 Contrary
to defendants' contention, an "opinion" is actionable (1) "'if the speaker does not genuinely and
reasonably believe it'" or (2) if the "'opinion'" "'is without basis in fact.'" Id. (quoting In re IBM
Corp. Sec. Litig., 163 F.3d 102, 109 (2d Cir. 1998)); accord Va. Bankshares, Inc. v. Sandberg, 501
U.S. 1083, 1095 (1991) (rejecting the argument that statements containing opinions or beliefs could
not be a basis for an action for federal securities fraud); Lapin v. Goldman Sachs Grp., Inc., 506 F.
Supp. 2d 221, 240-41 (S.D.N.Y. 2006).4 In New York, "even statements of opinion are actionable if
they are made in bad faith or are not reasonably supported by the available evidence. See CPCInt 'l
Inc. v. McKesson Corp.., 70 N.Y.2d 268, 286 . . . (1987)." ADL, LLC v. Tirakian, No. CV 06-
5076(SJF)(MDG), 2010 WL 3925131, at *12 (E.D.N.Y. Aug. 26, 2010). Under New York law,
therefore, "'"where one party does have superior knowledge, the expression of an opinion implies
that the declarant knows facts which support that opinion and that he knows nothing which
3 Defendants claim erroneously that the "only alleged misstatement in this case is the credit
rating opinions . . . " See Defendants' Joint Memorandum of Law in Support of Their Motion for
Summary Judgment ("MSJ") at 3. To the contrary, plaintiffs identified false and misleading
statements regarding, inter alia: "eligibility criteria, portfolio parameters, mark-to-market
procedures," "minimum overcollateralization requirement," "portfolio composition," "sensitivity
tests," and "leverage and capital adequacy measures and triggers." See ^2(i).
4 See also In re Cnty. of Orange, No. CV96-0765GLT, 1997 U.S. Dist. LEXIS 22459, at *19
(C.D. Cal. June 2, 1997) (holding that "the professional opinion cases imply the general tenor of
opinions such as S&P's ratings is to support, not negate, the impression the rating is an assertion of
fact, or at least substantially based on facts assessed by S&P").
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 14 of 60
contradicts the statement."'" Kimmell v. Schaefer, 637N.Y.S.2d 147, 149 (1st Dep't 1996), aff'd, 89
N.Y.2d 257 (1996).5
The rating agencies concede that the "ratings are opinions developed out of an analysis of
facts'" ^1(a); see also ^1(b). And the ratings are statements regarding the known risk of an
investment based upon observed facts, the truth of which are known at the time they are made.6
According to the rating agencies, the risk to investors in AAA rated assets was extraordinarily low:
"A triple-A . . . should survive the equivalent of the US Great Depression, undoubtedly with
downgrades but with no loss to Aaa holders " ^1(c). Similarly, single-A rated assets had a 99.95%
likelihood of repayment. Id.
The evidence establishes that the ratings on the Rated Notes issued by the Cheyne SIV had
materially false components and that defendants had no reasonable basis to believe the assigned
ratings were justified. See Declaration of Sanjiv Das ("Das Decl."), ^6; ^1(d). As Moody's
conceded: "most of the time we rate MBS deals using arbitrary rule of thumb." ^1(e); see also
^1(d), ^1(g), 1(f). When S&P's former Global Practice Leader for CDOs, Richard Gugliada, was
asked, "[i]f you didn't have the data, and you're a data-based credit rating agency, why not walk
away" from rating the deals, he responded: "The revenue potential was too large" ^1(i)-(j). And
a senior MS executive celebrated a concession MS had exacted from the rating agencies on the
Cheyne SIV, writing: "Cheyne has the flexibility to do financing trades and other wacky things
5 Indeed, several courts have recently held the rating agencies liable for their ratings. See, e.g.,
Anschutz Corp. v. Merrill Lynch & Co., 785 F. Supp. 2d 799 (N.D. Cal. 2011); Genesee Cnty.
Emps.' Ret. Sys. v. Thornburg Mortg. Sec. Trust 2006-3, No. CIV 09-0300 JB/KBM, 2011 WL
5840482 (D.N.M. Nov. 12, 2011); Cal. Pub. Emps.' Ret. Sys. v. Moody's Corp., No. CGC-09-
490241, slip op. (Cal. Super. Ct., Cnty. of San Francisco June 1, 2010).
6 See Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. 111-203, H.R.
4173 §933(a); 15 U.S.C. §78o-7(m) (clarifying that statements made by rating agency "shall not be
deemed forward-looking statements").
- 4 -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 15 of 60
. . . " ^^1(k)-1(l). Thus, defendants are not "'shielded from liability by raising the word "opinion"
as a shibboleth.'" Abu Dhabi, 651 F. Supp. 2d at 176 n.126. This evidence also rebuts defendants'
incorrect assertion that "there is no evidence that the ratings on the Cheyne SIV were 'wrong' when
issued." See MSJ at 8.
The cases on which defendants rely are principally federal securities cases construing the
statutory framework of §11 of the Securities Act of 1933 ("1933 Act"), which limits liability to
statutorily-enumerated parties, and are therefore inapplicable. As the Court recently held in In re
Optimal U.S. Litig, No. 10 Civ. 4095(SAS), 2011 WL 6424988, at *11 (S.D.N.Y. Dec. 21, 2011),
principles flowing from the statutory language of the federal securities laws should not be grafted
onto common law fraud. For example, in In re Lehman Bros. Mortg.-BackedSec. Litig., 650 F.3d
167, 184 (2d Cir. 2011), the court refused to impose §11 liability on the rating agencies because
"expanding §11 to cover the conduct of the Rating Agencies [as underwriters] would contradict that
section's specific enumeration of liable parties." Id. The Lehman court determined that the rating
agencies should be "evaluated under the 'expert' provision of § 11," comparing them to
"'accountant[s], engineer[s], or appraiser[s],'" and decided that their lack of "consent" failed to give
rise to liability under 15 U.S.C. §77k(a)(4). Id. at 183-84; cf. In re Refco Inc. Sec. Litig., No. 07
MDL 1092 (JJR), 2011 U.S. Dist. LEXIS 33554, at *30 (S.D.N.Y. Mar. 28, 2011). Likewise, in Fait
v. Regions Fin. Corp., 655 F.3d 105 (2d Cir. 2011), the court never even mentioned, much less
analyzed, credit ratings, but determined that plaintiffs allegations regarding goodwill were
inadequate to give rise to liability under §§11 and 12. Id. at 111-12.
7 Defendants' remaining cases - many from other circuits - are similarly inapplicable to the
common law fraud alleged in this action. See, e.g., Ohio Police & Fire Pension Fund, No. 2:09-cv-
1054, 2011 WL 4448847, at *5-*8, *13 (S.D. Ohio Sept. 26, 2011) (analyzing ratings under the
Ohio Securities Act and expressly distinguishing the complaint in that case from the complaint in
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 16 of 60
B. Morgan Stanley Made an Actionable Misstatement
MS's assertion that it made no actionable misstatement misses the mark. In CPC Int 'l Inc. v.
McKesson Corp., 70 N.Y.2d 268, 285-86 (1987), the New York Court of Appeals reinstated
common law fraud claims against MS and certain individual defendants because all defendants were
involved in a "scheme . . . devised and executed for the specific purpose of defrauding the
prospective purchaser by selling it the Mueller stock for more than it was worth." In New York,
therefore, "[l]iability for fraud may be premised on knowing participation in a scheme to defraud,
even if that participation does not by itself suffice to constitute the fraud." Danna v. Malco Realty,
Inc., 857 N.Y.S.2d 688, 689 (2d Dep't 2008); see also Chubb & Son, Inc. v. Kelleher, No.
92CV4484(TLM), 2010 U.S. Dist. LEXIS 141842, at *24-*25 (S.D.N.Y. Oct. 22, 2010).
The evidence in this case establishes that MS devised and executed the fraudulent scheme:
MS designed, structured, maintained, marketed and sold the Cheyne SIV. See ^2(a). MS also
created and disseminated the false ratings through the Information Memorandum and other key deal
documents. Id., ^2(e), ̂ 2(b). MS actually authored Moody's ratings report. ^2(c). MS also revised
S&P's Pre-Sale Report before it was issued on May 17, 2005. See ^2(d). Because MS was
responsible for the SIV from cradle to grave, MS is liable for the fraudulent ratings and for its
omission of material facts from the Cheyne SIV documents it created and distributed. See id., ^2(f),
Abu Dhabi because it contained only "bare allegation[s]" of falsity, without "further factual
enhancements"); Plumbers' Union Local No. 12 Pension Fund v. Nomura Asset Acceptance Corp.,
632 F.3d 762 (1st Cir. 2011) (First Circuit case analyzing §§11 and 12 claims); Compuware Corp. v.
Moody's Investors Servs., 499 F.3d 520 (6th Cir. 2007) (Sixth Circuit case analyzing defamation
claim); ESBE Holdings, Inc. v. Vanquish Acquisition Partners, LLC, 858 N.Y.S.2d 94, 95 (1st Dep't
2008) (finding remark that "Southeast Cruise was a great project" to be a "'nonactionable
expression of opinion, mere puffing'"); Mandarin Trading Ltd. v. Wildenstein, 16 N.Y.3d 173,
177, 179 (2011) (refusing to hold an author of a letter liable where the letter containing a "belief as
to a painting's value was addressed to a non-party and neither indicated "the purpose of the letter nor
who requested the valuation of the painting").
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Faced with this clear and convincing evidence, MS relies on cases where the plaintiffs could
not show that the expressions of opinion lacked a reasonable basis or identify facts that undermined
the defendants' stated belief. In Eurycleia Partners, for instance, the court made the unremarkable
observation that lawyers who had rendered legal advice to a fund on its formation and tax law were
not liable to plaintiffs who "d[id] not challenge either the propriety of the fund's formation or the tax
8 advice." Eurycleia Partners, LP v. Seward & Kissel, LLP, 849 N.Y.S.2d 510, 511 (1st Dep't 2007).
Janus Capital Grp., Inc. v. First Derivative Traders, , 131 S. Ct. 2296 (2011) is also U.S.
inapplicable. The critical distinction between analyzing common law fraud claims in this case and
federal securities law claims is that federal securities law claims are tethered to the limited statutory
language that creates them. As this Court has recognized, "[limitations imposed on a cause of
action because it is an implied right of action under a federal statute should not be used to limit the
common law." See In re Optimal, 2011 WL 6424988, at *11. Applying that sound reasoning, this
9 Court expressly held that Janus does not "limit New York common law fraud claims." Id.
C. The Evidence of Falsity and Scienter Present Disputed Issues of Fact
A plaintiff may satisfy the scienter element by establishing either (1) "motive and
opportunity to commit fraud" or (2) "'strong circumstantial evidence of conscious misbehavior or
recklessness.'" Abu Dhabi, 651 F. Supp. 2d at 171; see Kalnit v. Eichler, 264 F.3d 131, 138 (2d Cir.
8 See also Mateo v. Senterfitt, 918 N.Y.S.2d 438, 440 (1st Dep't 2011) (defendant played no
role in drafting a fraudulent operating agreement supplied to it by a third party and did not know that
the operating agreement was fraudulent); Glatzer v. Scappatura, 470 N.Y.S.2d 675, 676 (2d Dep't
1984) (dismissing allegations with leave to replead because allegations were too "conclusory" to
state a cause of action).
9 The fact that courts employ a similar analysis when evaluating common law fraud and §10(b)
claims does not change the result. As this Court observed in In re Optimal, "[a]lthough the analysis
for common law fraud claims mostly mirrors the analysis for federal securities law claims, several
aspects of Janus indicate that it applies uniquely to federal securities laws claims." Id.
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 18 of 60
2001). Scienter can be shown by evidence of "'guilty knowledge or willful ignorance.'" See
Century Pac., Inc. v. Hilton Hotels Corp., 528 F. Supp. 2d 206, 222 (S.D.N.Y. 2007), aff'd, 354 Fed.
App'x 496 (2d Cir. 2009); Shields v. CitytrustBancorp, 25 F.3d 1124, 1128 (2d Cir. 1994). Under
New York law, a "plaintiff need not show that defendant had a ' specific intent' to induce acts by the
plaintiff." Sheehy v. New CenturyMortg. Corp., 690 F. Supp. 2d 51, 68 n.14 (E.D.N.Y. 2010); see
Houbigant, Inc. v. Deloitte & Touche, LLP, 753 N.Y.S.2d 493, 499 (2003). "Issues of motive and
intent are usually inappropriate for disposition on summary judgment." Wechsler v. Steinberg, 733
F.2d 1054, 1058-59 (2d Cir. 1984).
As the Court previously held, knowledge of fraud can be established through evidence that
"Morgan Stanley [and the rating agencies] knew that the ratings process was flawed, knew that the
portfolio was not a safe, stable investment, and knew that the rating agencies could not issue an
objective rating because of the effect it would have on their compensation." Abu Dhabi, 651 F.
Supp. 2d at 179. All of the defendants knew that the data and assumptions used to rate the Cheyne
SIV notes were unreliable and insufficient to support the ratings. ^1(e)-(f), ̂ 1(j)-(k), ̂ 3(a)-(ppp).
Furthermore, all defendants knew that the assets held by the Cheyne SIV were not accurately rated
and that the ratings were not commensurate with the risk. Id. The defendants ignored these facts
and issued top ratings without a basis in fact for doing so. Id.
Critical data that defendants used to develop the Cheyne SIV rating models was either non-
existent or unreliable, and defendants knew it. Before the SIV was launched, S&P's lead analyst
conceded internally: "I had difficulties explaining 'HOW' we got to those numbers since there is no
science behind it" ^3(a). S&P also admitted internally that at the time it rated Cheyne there was a
"paucity of historical data, especially for single ABS sectors" - the precise sectors held by the
Cheyne SIV. P(b). Prior to the SIV's launch, MS proposed that Moody's use the same spread
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volatility assumptions for HELs (securitizations backed by risky U.S. subprime home loans) as it had
used for prime home loans (a safer and less volatile asset class). Moody's lead analyst on the deal
observed that there was "no actual data backing the current model assumptions," but nonetheless
"accept[ed] the proposal." ^3(c). The defendants were unperturbed by the lack of data supporting
the critical assumptions in the Cheyne SIV model. As MS's lead structurer Gregg Drennan
acknowledged, the solution was simple: "Moody's willfix the inputs to get the outputs they want!"
P(d). According to a Moody's senior executive, Henry Tabe, the managing director responsible for
the Cheyne SIV rating process, "disregarded the [SIV model] output and made up haircuts that
were palatable to SIV issuers" ^3(ggg).
MS manipulated the Cheyne SIV modeling process to create the ratings it desired. In 2004,
Drennan wrote that MS had "shaped rating agency technology"' for the SIV, "develop[ed] a new
model for the [Cheyne SIV] transaction" and "adapt[ed] and creat[ed] a new form of SIV
methodology that was presented to the rating agencies and the client for their approval." P(e); see
^3(f). Drennan boasted about MS's "ability to push the envelope" on SIVs, including the Cheyne
SIV. ^p(g)-(h). As MS senior executive Dorothee Fuhrmann put it: "[W]e in fact buil[t]
EVERYTHING." ^3(i). The "novel structural features" that MS pressured the rating agencies to
include "result[ed] in a very profitable transaction for Morgan Stanley," but ultimately contributed to
the SIV's collapse. See ^3(j); Das Decl., ^ 6 , 10, 11.
One of the structural modifications was to include HELs - a subprime structured product that
no other SIVs had been permitted to hold. ^3(ppp). As one senior MS executive noted, the Cheyne
SIV was not economically viable without HELs: "If we can't get the hel product in my concern is
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the deal does not work." P(k); see ^3(l).10 In the same e-mail, this MS executive expressed grave
misgivings about the Cheyne SIV: "The more I think about this trade the worse Ifeel about the
risk/reward that it has." ^3(k). For the rating agencies, colluding with MS was a slippery slope -
once they approved HELs, MS strong-armed them into classifying HELs as "liquid" in performing
critical liquidity tests. P(m). Moody's later admitted that this "was a mistake." ^3(n).
MS also coerced the rating agencies to issue "A" ratings on Cheyne's MCNs, an
unprecedented public rating that no other SIV had obtained. ^3(o). After first insisting that a 1%
capital buffer to protect the MCNs from losses was a "pillar of [its] analysis," S&P ultimately
acquiesced to pressure from MS and allowed Cheyne to reduce the buffer by 25%. P(p). S&P's
Lapo Guadagnuolo informed MS that the targeted "A" rating on the Cheyne MCNs was not possible
and that S&P was willing to assign only a "BBB" to the Cheyne MCNs. ^3(q). The next day,
Drennan wrote a threatening e-mail to Mr. Guadagnuolo's boss, Perry Inglis, "mak[ing] it clear that
[MS] believe[s] the position committee is taking is very inappropriate." Id. Again, S&P acquiesced
to pressure from MS and agreed to assign an "A" rating to the Cheyne MCNs (despite the lower
capital buffer). ^3(r).11 After the SIV was launched, Drennan boasted that MS's efforts "did get us
the rating we wanted in the end." ^3(t).
MS and the rating agencies were also well aware, but failed to disclose, that the structured
finance assets held by Cheyne had inflated ratings and were riskier than represented. Because the
Cheyne SIV's rating was heavily dependent on the ratings of the underlying collateral, the increased
risk and false ratings on that collateral translated into false ratings on the SIV notes themselves. See
10 Plaintiffs' expert, Dr. Sanjiv Das, analyzed this issue and also came to the conclusion that the
SIV would not have been viable without HELs. Das Decl., ^ 6 , 10-11.
11 See also ^3(s) ("[T]he step we needed to undertake in order to rate the capital notes was to
assume a probability of enforcement of less than 100%. This 'relaxation' of our methodology
would apply ONLY for capital notes seeking a rating up to 'A.'").
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P(u); see also ^3(v). Kai Gilkes, S&P's most senior quantitative analyst in Europe when the
Cheyne SIV was launched, testified that SIVs containing subprime RMBS - such as the Cheyne SIV
should never have been rated at all:
So it is a factual statement that the ratings of those [structured investment] vehicles
were inappropriate because the ratings of the underlying assets were not appropriate.
So it leads to the conclusion that they should not have been rated, but that is not
necessarily my - is not necessarily my belief. It is just a factual statement. P(w).
In November 2004, Stephen McCabe, Gilkes' subordinate and the lead quantitative analyst
on the Cheyne SIV deal, wrote an e-mail to Gilkes remarking that S&P's default rates on ABS
transactions were purely guesswork: "[F]rom looking at the numbers it is obvious that we have just
stuck our preverbal[sic] finger in the air!" ^3(x). Gilkes, who supervised McCabe's work on the
Cheyne SIV, testified that he understood that the Cheyne SIV contained ABS assets. ^3(y)-(z). In
June 2005, just two months before the Cheyne SIV was launched, Gilkes was concerned about
S&P's CDO methodology, writing: "arbitrary tweaks to the assumptions may be dangerous in the
long run" because they "might lead to inaccurate ratings." ^3(aa)-(bb); see alsoP(cc). The criteria
Moody's used to rate the assets in the Cheyne SIV were similarly inadequate and Moody's knew it.
"There are no company-wide guidelines or standards for methodologies," and "[t]here wasn't
enough historical data on new variants of adjustable rate loans to allow for reasonable predictions of
performance." ^3(dd). Moreover, the "[l]ayering [of] risks" embodied in Moody's models gave
"rise to 'perfect storm' situations." Id.
Defendants' deliberate use of inadequate data and assumptions resulted in dramatically
inflated ratings. Plaintiffs' quantitative modeling expert, Dr. Sanjiv Das, analyzed whether the
ratings of the Rated Notes issued by the Cheyne SIV were justified and appropriate and concluded
that they were not. Das Decl., ^5-6 . Specifically, Dr. Das concluded that if the Cheyne SIV had
used proper data and statistical methodologies known and available at the time, its ratings would
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have been far lower and the SIV would not have been economically viable. Das Decl., ^6; see Das
Decl., ^19 ("This makes the Aaa rating of the Senior Notes unsupportable.").
The inflated ratings arose out of the rating agencies' unquenchable thirst for market share and
MS's desire to feed its lucrative mortgage securitization machine. S&P knew that "there ha[d] been
rampant appraisal and underwriting fraud in the industry for quite some time as pressure . . .
mounted to feed the origination machine." ^3(jj). Market pressure caused S&P to ratchet down its
criteria for rating subprime RMBS and CDOs. For example, an S&P analyst explained in March
2005 that S&P's new, more accurate RMBS rating model "could've been released months ago . . . if
we didn't have to massage the sub-prime and Alt-A numbers to preserve market share." ^3(ee);
see p(ddd). Similarly, in August 2004, S&P held a meeting with senior directors to devise a plan to
"adjust criteria for rating CDOs of real estate assets... because of the ongoing threat of losing
deals" ^3(ff). Frank Raiter, S&P's Director of RMBS, testified that S&P's models were the
"linchpin of the ratings process" and that had the accurate model been implemented, there would
have been "an early warning about the performance of many of the new products that subsequently
led to such substantial losses." ^3(nnn); see also ^3(zz), ^3(mmm), P(cc). Raiter testified that on
several occasions before April 2005, he pleaded with senior executives at S&P (e.g., Global Head of
RMBS Pat Jordan and Chief Quality Officer for structured finance ratings Tom Gillis) to implement
the new, more accurate model, which did a "better job of assigning ratings." ^3(ooo). S&P's
management responded: "[L]ook, we have 94 percent market share, like why do we need a better
model"; "if we're not going to gain more revenue why should we spend money to do that?" Id.
In relation to CDO criteria changes, Perry Inglis, the head of the S&P group that rated the
Cheyne SIV notes, wrote: "[I]t would be good to get an idea of how far these would have to change
for us to be 'competitive' on these types of deals. I'm a bit unclear if it is a big change or a 'wee itty
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bitty no-one's going to notice' change!" ^3(gg); see ^3h. On the same topic, Gilkes wrote to Inglis:
"As usual, things reach crisis level due to competitive pressures, rather than being properly thought-
out and debated over time." ^3(hh). Two months before the Cheyne SIV launched, Gilkes
lamented, "[r]emember the dream of being able to defend the model with sound empirical research?
The sort of activity a true quant CoE should be doing perhaps? If we are just going to make it up in
order to rate deals, then quants are of precious little value." P(ii). Frank Parisi, S&P's Chief Credit
Officer for structured finance, testified that the RMBS model in effect in 2005 and 2006 was only
marginally more accurate than "if you just simply flipped a coin" ^3(fff).
Key members of S&P's Cheyne SIV rating committee, including Perry Inglis (the
Chairperson of the Cheyne rating committee) and Nikhil Khakee, testified that they did not comply
with S&P's policy prohibiting them from engaging in rating committee decisions at the same time
that they pursued new business. ^3(hhh). While acknowledging that it was "important" to separate
analytical functions from commercial activity, Inglis testified that he engaged in both functions
simultaneously because the policy somehow did not apply to him (even though he is expressly
identified in an attachment to the policy). Id. Khakee testified that he, too, engaged in prohibited
analytical activity because an S&P senior executive had told him that he was exempt from the policy
(although he had no documentation of that exemption). Id. Violations of company policy give rise
to a finding of scienter. Kalnit, 264 F.3d at 142-43.
Due to market pressures, the rating agencies engaged in an improper practice known as
"grandfathering," which uses old, outdated models to rate new deals. In late 2005, Elwyn Wong, an
S&P executive, responded to pressure from MS to grandfather existing deals by writing: "Lord help
our fucking scam . . . this has to be the stupidest place I have worked at." ^3(kk); see also ^1(d),
^1(j). An S&P structured finance employee conceded: "[I]t could be structured by cows and we
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would rate it." ^3(ll). Another S&P structured finance employee remarked: "Let's hope we are all
wealthy and retired by the time this house of card[s] falters." ^3(mm).
Moody's also subjugated its rating criteria to market share. William Harrington, a former
Moody's senior analyst, attended a training session concerning SIV methodology in 2005 and
determined "nothing about SIVs added up." ^3(ggg). Results "that were palatable to SIV issuers"
were substituted for analytical results. Id. Brian Clarkson, Moody's President, acknowledged that
market pressure influenced Moody's ratings: "Competitive issues (ex. Rating inflation, successful
rating shopping, notching below investment grade for mono-line insured deals, etc.)." ^3(nn). In a
2006 report to top Moody's executives (including President Brian Clarkson), Moody's structured
finance employees described the pervasive manipulation of ratings criteria to appease issuers:
"Competition between rating agencies seems to impact the integrity of senior management"; "There
were instances where I felt that we compromise[d] our rating due to pressure from senior
management that wanted to please big clients"; and "Manager focuses on making bankers happy
instead of focusing on the issues involved with respect to the transactions." ^3(oo); see P(pp). One
former Moody's executive explained: "[T]he rating agencies faced the age old and pedestrian
conflict between long term product quality and short term profits. They chose the latter." ^3(qq).
Another former Moody's executive agreed: "Unfortunately, the maj or rating firms willingly traded
their reputations for short-term profits. They allowed themselves to be played off of one another in
an effort to maintain (or perhaps increase) market share." ^3(rr); see also ^3(ss).
MS was also aware of the poor quality of the subprime loans held by Cheyne. In 2005, MS
began observing through due diligence that an increasing number of the loans reviewed by MS for
purchase "do not make sense" and that "[o]verall . . . the loans were riskier than [those] seen in the
past." ^3(tt). Although MS observed an "unusually high amount of layered risk" and "very
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flagranf appraisal inflation, it sought to "clear as many borderline loans" into its securitizations "as
possible." See ^3(uu); see ^4(d)-(e). MS waived bad loans into its securitizations on an astonishing
scale. A study done by MS's due-diligence provider, Clayton, found that 64% of the exceptions
identified as "material" were overturned by MS, meaning that MS securitized those loans despite
their questionable quality. P(vv). In structuring the specific RMBS ultimately held by Cheyne, MS
included non-compliant loans at an even higher rate of 71%. ^3(ww). These loans had insufficient
borrower employment verification, insufficient borrower credit quality, incomplete appraisals and
excessive loan-to-value ratios. Id. MS also waived in loans to bankrupt borrowers, and seriously
delinquent and foreclosed loans. ^3(xx). Thus, the same MS traders responsible for selling the
subprime loan pools to the Cheyne SIV knew that these subprime assets were filled with toxic loans.
See ̂ 4(d) (MS traders Frank Telesca and Steven Shapiro "were the folks responsible for making the
decisions about [the] purchase and exit of subprime mortgage loans.").
Defendants' misconduct must be put in context with the enormous fees and increased market
share generated by the Cheyne SIV. While motive is not necessary to establish scienter, "Morgan
Stanley and the Rating Agencies had the motive and opportunity to communicate these allegedly
false and misleading ratings to potential investors in the Cheyne SIV." Abu Dhabi, 651 F. Supp. 2d
at 179.13 First, MS's fees on the Cheyne SIV deal were huge - between $25 and $30 million
which MS's Drennan described as "ms's bigfatupfront fees." ^7(a)-(b). "Morgan Stanley's fees
[were] dependent on [the] successful launch of [the Cheyne SIV] and placement of capital notes."
f7(c); see ^7(d). MS's senior executive on the Cheyne deal, Robert Rooney, wrote: "I am very
12 MS argues that six MS-sponsored assets in the Cheyne SIV "continue paying interest to this
day." MSJ at 12. The argument is deceptive. The six MS-sponsored assets are at or near default
and have lost a substantial amount of their principal value. See ^5(f).
13 Defendants do not dispute that they had the opportunity to commit fraud. Nor can they. See
Abu Dhabi, 651 F. Supp. 2d at 180; ^3(yy).
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focused on . . . [g]etting this [Cheyne] deal done to get NY to stop freaking out" and "[t]o make our
money." ^7(e); see also f7(o) ("Having the [Cheyne] deal not happening . . . [is] bad for us [MS]
and our franchise."). Rooney concluded, "our motive is a Fee." f7(r).14 Further, MS was "taking
[a] big warehouse risk," which meant that MS would be left holding the bag with billions of dollars
in risky assets if the Cheyne SIV did not close. f7(g); see ^f7(h)-(i).15 And MS understood that the
SIV would not launch without the ratings it sought on the Rated Notes. ^7(f), ^3(iii).
Second, MS used the Cheyne SIV as a receptacle in which to dump more than $700 million
of its riskiest ABS assets when the SIV launched. ^7(k) (MS sold the SIV "a very healthy 68%" of
Cheyne's lowest-rated assets and $190 million of U.S. subprime mortgage-backed assets). Over the
course of the deal, MS unloaded more than $1.6 billion of its deals on the SIV. P(q), ^3(kkk). MS
also pressured Cheyne to purchase assets for the SIV that were riskier than Cheyne felt appropriate.
PGjj), ^4(a). In addition, MS approved every asset that went into the Cheyne SIV. ^4(b).16 Third,
MS "exploit[ed]" the Cheyne SIV as a launching pad to "win new SIV" business and obtain "a key
head start above our competitors." ^7(m). A senior executive at MS recognized that "[t]he Cheyne
14 Notwithstanding defendants' assertion to the contrary, this Court and numerous other courts
in this District have found the desire to earn lucrative fees sufficient to establish scienter for
purposes of a fraud violation. See, e.g., Abu Dhabi, 651 F. Supp. 2d at 179-80; Vandenberg v. Adler,
No. 98 CIV. 3544 WHP, 2000 WL 342718, at *9 (S.D.N.Y. Mar. 31, 2000) (desire to secure
underwriter fees found sufficient); Gabriel Capital, L.P. v. NatWestFin., Inc., 122 F. Supp. 2d 407,
423-24 (S.D.N.Y. 2000) (rejecting defendants' argument that the desire to earn fees from an offering
is insufficient to demonstrate motive).
15 Defendants contend that plaintiffs' motive allegations are "not plausible" because MS had an
interest in the ongoing success of the SIV. But "[t]he incentives for the 'fee based' structuring
investment bank were clear: get the deal closed, and if there's a problem later on, it was just another
case of 'IBGYBG' - 'I'll be gone, you'll be gone.'" ^7(j).
16 This evidence rebuts MS's contention that it had no role in selling assets to the Cheyne SIV.
In fact, in 2006, MS's subprime assets represented the largest share of the riskiest and lowest rated
assets held in the Cheyne SIV portfolio. "The maximum exposure to the lowest rated obligor
currently is 38bps, the obligor being Morgan Stanley." ^7(l).
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SIV will also be very profitable for Morgan Stanley" because it "will allow Morgan Stanley to do
more transactions with more clients." ^7(n). Finally, MS's fee was tied to Cheyne's excess spread.
f7(d) (MS "will receive a 25% share in the excess spread of the vehicle (worth over $20m in our
base case)"). "Morgan Stanley therefore had a motive to maintain the appearance that the SIV assets
were safe and highly rated." Abu Dhabi, 651 F. Supp. 2d at 180. Likewise, the requirement that MS
sell $387 million in MCNs in order to earn its "full structuring fee" also incentivized MS to
"maintain the appearance that the SIV assets were safe and highly rated" - at least until it dumped its
MCNs on investors. Id.; ^7(o)-(p).
The rating agencies, too, had a compelling motive to commit fraud. First, the rating agencies
understood that if they refused to assign the top ratings sought by MS, MS would simply take its
business elsewhere. ^9(a). In a 2004 internal e-mail, Moody's President Brian Clarkson candidly
summed it up: "Therefore, and to put it bluntly, in the ABS market: the issuer could take its business
elsewhere unless the rating agency provides a higher rating." ^9(b) (emphasis in original). Second,
the rating agencies provided the top ratings on the Cheyne SIV because they received three times
their normal corporate rating fees for rating the SIV. See ^8(a), ^9(c)-9(d); see also ^8(b).
Moody's and S&P both acknowledged that the ratings on structured products like CDOs and SIVs
were "cash cow[s]" ^9(e)-(f). And the rating agencies' fees would have been sharply diminished
if the SIV did not close. ^8(f), ^9(h). Finally, as described above, there is ample evidence that
credit quality took a back seat to market share, and the poor performance of Cheyne's ratings is
primarily a result of senior management's directive to maintain or increase market share. See also
^8(c). Raiter testified that "there was a big breakdown between the people that were trying to
maximize profits and the people that were trying to maximize the credit ratings methodology and
activities. And that the people with the profit motive won." ^8(e). Specifically, it was "Joanne
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Rose, Vickie Tillman, Terry McGraw," senior managers and S&P's CEO, "that were in charge [and]
just wanted to get as much of the [revenue] as they saw." Id.; see ^8(d), ^9(g).
Despite the overwhelming evidence of their scienter, defendants argue that they evade
liability unless "the actual speaker made the alleged misstatement with the requisite state of mind."
MSJ at 10. Plaintiffs have demonstrated that members of the Cheyne rating committees knew the
ratings were false when they were assigned. Defendants also misstate the law. "In fact, courts in
this District have recently emphasized that there is no requirement 'that the same individual who
made the alleged misstatement on behalf of a corporation personally possessed the required
scienter.'" In re Marsh & McLennan Cos. Sec. Litig., 501 F. Supp. 2d 452, 481 (S.D.N.Y. 2006).18
As Judge Kaplan explained, this makes sense:
There are good reasons for imputing the collective knowledge of employees or
agents to their corporate principal. Doing so creates incentives for the entity to
create and maintain effective internal communications and, more importantly, serves
to protect third parties with which it does business.
Defer LP v. Raymond James Fin., Inc., 654 F. Supp. 2d 204, 218-19 (S.D.N.Y. 2009).19
17 The rating agencies say that the Court should ignore evidence that they were motivated to
issue fraudulent rulings on the Rated Notes because "the market had long been aware of the rating
agencies' 'issuer pays' model." MSJ at 15. This Court already rejected defendants' argument in
King County: "Plaintiffs assert that Fitch, along with the other defendants, defrauded them by
issuing credit ratings they knew were false and misleading
independence or intentionally concealed its conflicts of interest. Plaintiffs point to Fitch's conflict of
interest as one factor among numerous others in which it can be inferred that Fitch acted with
scienter when it issued the ratings." King County Hrg. Tr. dated May 18, 2010, at 10.
not that Fitch misstated its
18 See In re WorldCom, Inc. Sec. Litig., 352 F. Supp. 2d 472, 497 (S.D.N.Y. 2005); United
States v. Bank of New England, N.A., 821 F.2d 844 (1st Cir. 1987); Valentini v. Citigroup, Inc., No.
11 Civ. 1355(LBS), 2011 WL 6780915 (S.D.N.Y. Dec. 27, 2011); City of Monroe Emps.'Ret. Sys.
v. Hartford Fin. Servs. Grp., Inc., No. 10 Civ. 2835(NRB), 2011 WL 4357368, at *13 (S.D.N.Y.
Sept. 19, 2011); In re JPMorgan Chase Sec. Litig., 363 F. Supp. 2d 595, 627 (S.D.N.Y. 2005); In re
Citigroup Inc. Sec. Litig., 753 F. Supp. 2d 206, 236-37 (S.D.N.Y. 2010); In re MBIA, Inc. Sec. Litig.,
700 F. Supp. 2d 566, 590-91 (S.D.N.Y. 2010).
19 New York courts are in accord: "While it is true that none of the appellants individually
committed all of the acts constituting the fraud, this is not, as appellants contend, an exculpating
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Defendants' reliance on Teamsters Local 445 Freight Div. Pension Fund v. Dynex Capital,
Inc., 531 F.3d 190, 195 (2d Cir. 2008) is misplaced. Dynex stands merely for the legal principle that,
"[w]hen the defendant is a company, scienter refers to the state of mind of one or more of the
company's agents." In re Metlife Demutualization Litig., 262 F.R.D. 217, 234 (E.D.N.Y. 2009).
Nor does In re Vivendi Universal, S.A. Sec. Litig., 765 F. Supp. 2d 512 (S.D.N.Y. 2011) help
defendants. In that case, the court concluded that the "significant evidence" of scienter admitted
against Vivendi, but not the individual defendants, could have led the jury to conclude that there was
sufficient evidence of scienter as to Vivendi even if the jury was unable to conclude that the
plaintiffs met their burden of proof as to the individual defendants. Id. at 549-53.
MS's contention that it had a financial stake in the Cheyne SIV's underlying assets is
meritless. There is no evidence that MS had any economic interest in the Cheyne SIV's underlying
assets. In fact, the purported residual interest that MS identified - Series R Notes - was described by
MS as worthless. See ^5(d). Tellingly, MS fails to mention the hundreds of millions of dollars that
MS made from structuring and selling these deals. P(lll), ^5(e). Likewise, MS's assertion that it
was caught flat-footed by the collapse of the subprime crisis is simply untrue. To the contrary, MS's
$9 billion loss resulted from a botched strategy to short the subprime market by buying credit default
swaps on pools of subprime mortgages. See ^6(a) ("By the end of 2004, [Howie Hubler] was
skeptical of the subprime mortgage business, and craved new ways to bet against it."); ^6(b). At the
same time that Hubler was betting against subprime assets, he and others were stuffing subprime
assets into the Cheyne SIV. ^6(c); see also ^6(d) (Hubler "is keen" to obtain "very significantly"
circumstance. It is well established that liability for fraud may be premised on knowing participation
in a scheme to defraud, even if that participation does not by itself suffice to constitute the fraud."
Kuo Feng Corp. v. Ma, 699 N.Y.S.2d 575, 576 (1st Dep't 1998); see Center v. Hampton Affiliates,
Inc., 66 N.Y.2d 782, 784 (1985).
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lower haircuts on single-A HELs in the Cheyne SIV so HELs can "be the major part of the single-A
D. Plaintiffs Justifiably Relied on Defendants' False Statements
Under New York law, reliance is "ordinarily a jury question." See Refco, 2011 U.S. Dist.
LEXIS 33554, at *55. Moreover, "[t]he proper test of reliance in a fraud case is not 'reasonable'
reliance, it is 'justifiable' reliance, a clearly less burdensome test." Gordon & Co. v. Ross, 84 F.3d
542, 546 (2d Cir. 1996). Here, plaintiffs need demonstrate only that the ratings were a "'"substantial
factor"'" in their decision to purchase the Rated Notes. Abu Dhabi Commercial Bank v. Morgan
Stanley & Co., 269 F.R.D. 252, 261 (S.D.N.Y. 2010); accordSheehy, 690 F. Supp. at 67-68. The
record evidence in this case easily meets this standard. As the Court recently explained, "I have to
draw every inference in favor of the non-moving party if it swears under oath to reliance at least in
part. . . . They say they relied, so they relied. So reliance isn't going to be easy for the defendant."
2/8/2012 Hrg. Tr. at 15:11-16; see Gabriel Capital, L.P. v. NatWestFin., Inc., 177 F. Supp. 2d 169,
174 (S.D.N.Y. 2001) (Scheindlin, J.).
The ratings assigned to the Rated Notes purchased by the plaintiffs and assigned to the
Cheyne SIV's underlying assets were a substantial factor in each plaintiff s decision to purchase the
Rated Notes. ^28(a). Without the ratings, which remained unchanged on each day during the
relevant period until they were downgraded, none of the plaintiffs would have purchased the Rated
Notes or maintained their investments in the Rated Notes after their purchase. Id. At no time were
any of the plaintiffs or their sub-advisors permitted to purchase knowingly securities whose ratings
20 These arguments are also completely improper and should be precluded because MS
persistently refused to provide discovery on these topics. See Plaintiffs' Fed. R. Civ. P. 56(c)(2)
Obj ection to Certain Evidence Offered by Defendants ("Obj ection to Evidence"). In the alternative,
plaintiffs should be permitted to explore these subjects in discovery. See Fed. R. Civ. P. 56(d)(2).
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were false and had any of the plaintiffs known that the ratings assigned to the Rated Notes and the
SIV's underlying assets were false, none of the plaintiffs would have purchased or permitted their
sub-advisors to purchase the Rated Notes. Id. Reliance on ratings was particularly critical and
necessary due to the SIV's complexity and the limited information available to plaintiffs. Id. An
independent evaluation could not have revealed that the ratings were false. Id.
ADCB relied in substantial part on the A/A3 ratings assigned to the MCNs it purchased and
on statements regarding the purported quality of the Cheyne SIV and its underlying assets. ^24(a).
MS urged ADCB to purchase MCNs, explaining that "Morgan Stanley have [sic] a big commitment
to this deal," that "[t]he deal has a very reputed manager (Cheyne)," and that "[t]he underlying
portfolio is a high quality one." ^24(b); see also ^24(c). The A/A3 ratings assigned to the MCNs
were a substantial factor and a "major aspect" in ADCB's investment decision. ^24(d)-(e).
ADCB's investment memorandum explicitly relied on the A/A3 credit ratings on the MCNs and the
high ratings on the Cheyne SIV's underlying assets. ^24(f). ADCB's investment guidelines
required that ADCB rely on the assigned ratings. ^24(g).
Butterfield's investment guidelines required Butterfield to rely on the A-1+/P-1 and
AAA/Aaa ratings assigned to the CP and MTNs it purchased because they "ha[d] to be A1 or A1
plus [under Butterfield's investment guidelines]. So yes, [Butterfield] considered the rating. I can
guarantee you that" ^16(a); see also ^16(b). Put simply, the ratings were a "major factor" in
Butterfield's investment decision. ^16(c). Butterfield's investment guidelines required Butterfield
to rely on the ratings assigned to the CP and MTNs. ^16(d). Butterfield had to rely on the ratings
assigned to the CP and MTNs, in part, because Butterfield itself was rated AAA by S&P and could
only purchase top-rated securities in order to maintain that rating. ^16(e).
Commerzbank acquired Gryphon notes from Dresdner Bank ("Dresdner") when it merged
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with Dresdner in May 2009 (Dresdner had exchanged its CP and MTNs for Gryphon notes prior to
the merger). ^19(a). The Dresdner employees responsible for purchasing the CP and MTNs
indicated that they relied in substantial part on the A-1+/P-1 and AAA/Aaa ratings assigned to the
CP and MTNs, respectively. ^ 19(b). At the time of its investment in the CP and MTNs, Dresdner's
money market fund (the Allianz Dresdner Daily Asset Fund) was governed by SEC Rule 2a-7 - a
rule that required the fund to rely on the "highest short term ratings." ^19(c)-(d). Commerzbank
also relied in substantial part on the A/A3 ratings assigned to the MCNs and the Cheyne SIV's
underlying assets. ^19(e); see also ^19(e) (Commerzbank "definitely [relied on] the rating," which
"played an important role for [Commerzbank's] decision."), ^19(f) (the ratings were a "key item//"
relied upon by Commerzbank). MS urged Commerzbank to purchase MCNs and highlighted that
they were "dual rated by BOTH Moody's and S&P > 'A3/A'" and that the Cheyne's "assets will
largely be AAA and AA ABS" ^19(g). Commerzbank's credit applications for the MCNs
explicitly relied on the A/A3 ratings. ^19(h).
SFTCIF relied in substantial part on the AAA/Aaa ratings assigned to the MTNs it
purchased and on the ratings assigned to the Cheyne SIV's underlying assets. ^21(a). SFTCIF
testified that "in order to even look at it, it had to be AAA rated," that SFTCIF "look[ed] at the
rating agencies for their AAA rating at first and then look[ed] at the underlying assets that would fall
into that category." ^21(b). Put simply, "the AAA rating was . . . the gateway or the threshold to
meet before you could actually look at the underlying [assets]." ^21(c). SFTCIF's Chief Investment
21 Defendants argue that Commerzbank could not have relied because of a representation letter.
MSJ at 22 n.17. But that letter explicitly directs Commerzbank to rely on the Offering
Memorandum, which includes the false ratings. This argument was recently advanced by MS in a
separate fraud action, China Dev. Indus. Bank v. Morgan Stanley & Co., Inc., 927 N.Y.S.2d 52, 53
(1st Dep't 2011), and was explicitly rejected. See also Tahini Invs., Ltd. v. Bobrowsky, 470
N.Y.S.2d 431, 433 (2d Dep't 1984).
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Officer mandated that SFTCIF could only purchase AAA-rated securities. ^21(d).
23 FSBA relied, through its investment sub-advisor, Victory Capital Management ("Victory"),
in substantial part on the AAA/Aaa ratings assigned to the MTNs it purchased and on the ratings
assigned to the Cheyne SIV's underlying assets. ^22(a). FSBA purchased "only top tier commercial
paper with the highest short-term credit ratings available" from S&P and Moody's. \22(b). FSBA's
investment advisor testified that the assigned ratings were a "significant factor" and, indeed, the
"initial door-opener" before Victory could even consider the MTNs for inclusion in FSBA's
portfolio. ^22(c). The investment guidelines governing Victory's purchase of the MTNs on
FSBA's behalf provided that "'asset-backed securities . . . must have a rating of AAA " ^22(d).
GIB relied in substantial part on the A/A3 ratings assigned to the MCNs it purchased, as well
as statements regarding the purported quality of the Cheyne SIV and its underlying assets. ^13(a).
GIB testified that "we relied on the pitch book. We relied on the investor summary. We relied on
the communication we had with Morgan Stanley. We relied on the rating of [the MCNs]." ^13(b);
see also ^13(c) ("we had a [A/A3] ratingfrom both S&P and Moody's that we relied upon . . . in
our proposal"). MS urged GIB to purchase MCNs, explaining that they were "[r]ated by BOTH
Moody's (A3) and S&P (A)." ^13(d). The credit approval application prepared before GIB's
investment explicitly relied on the A/A3 credit ratings on the MCNs and the high ratings on the
22 Defendants cite to two isolated e-mails concerning CDOs and CLOs unrelated to the Cheyne
SIV to argue that an SFTCIF employee believed the rating agencies to be "stupid" and "dumb."
MSJ at 23. These two, irrelevant e-mails do nothing to rebut the fact that the ratings were the
"gateway or the threshold' required to even consider the MTNs, especially where SFTCIF testified
that "that is the opinion of [a portfolio manager], not of the firm or . . . the CIO." ^21(c), ^21(e).
23 See Jay Dees Inc. v. Defense Tech. Sys., Inc., No. 05 Civ. 6954(SAS), 2008 WL 4501652, at
*5 (S.D.N.Y. Sept. 30, 2008) (Scheindlin, J.) ("Reliance need not result from direct communication
from defendant to plaintiff. There is no reason why a misrepresentation to the plaintiff s agent does
24 For this reason, Victory's internal rating score is irrelevant.
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Cheyne SIV's underlying assets. ^13(e). GIB's investment guidelines required that GIB rely on the
assigned ratings. ^13(f).
GIS purchased Combination Capital Notes ("CCNs") that were comprised primarily of
MCNs rated A/A3 along with a small portion of unrated Junior Capital Notes ("JCNs"). MS and the
rating agencies communicated the ratings on the CCNs to GIS. ^25(a). The A/A3 ratings and the
high ratings on the Cheyne SIV's underlying assets were a substantial factor in GIS's decision to
purchase the CCNs. ^25(b) ("we wanted to buy some higher rated instruments to offset the risk that
was in the junior capital notes"). GIS testified that "/t/he role of the credit ratings was very
important." ^25(c); see also ^25(d) (GIS purchased the CCNs "because the collateral was
supposedly highly rated"). Although GIS was permitted to purchase unrated securities, its
investment guidelines required that GIS rely on the ratings assigned to securities it purchased.
Hapoalim relied in substantial part on the A/A3 ratings assigned to the MCNs it purchased as
well as statements regarding the purported quality of the Cheyne SIV and its underlying assets.
1117(a)-(b). MS urged Hapoalim to purchase MCNs, highlighting the purported "advantages" the
Cheyne SIV had over bank-sponsored SIVs, "Morgan Stanley's commitment to the vehicle," and
MS's "ongoing structuring support to the vehicle." 117(c). The investment application prepared
before Hapoalim's investment explicitly relied on the A/A3 credit ratings on the MCNs and the high
ratings on the Cheyne SIV's underlying assets. 117(d). Hapoalim's investment guidelines relied on
credit ratings, providing that additional due diligence on complex and opaque structured finance
instruments has "no significant added value over the rating agency's analysis." 117(e).
King County relied in substantial part on the A-1+/P-1 ratings assigned to the CP it
purchased. 127(a). King County testified that "the communication we relied on was the credit
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rating" and "the most critical item we look at is the ratings by, in this case Moody's and Standard
& Poor's, was the most important thing that we relied on in placing the trade" ^27(b); see also
^27(c) (King County "believed that [the rating agencies] had done sufficient analysis to justify the
ratings"). King County's investment policies and Washington state law governing King County's
investments required King County to rely on the ratings assigned to the CP. ^27(d).
NACF relied in substantial part on the A/A3 ratings assigned to the MCNs it purchased as
well as statements regarding the purported quality of the Cheyne SIV and its underlying assets.
^14(a). "The rating was the prime factor" and the "most important information" ^14(b); see also
^14(c) ("As far as [the] Cheyne SIV investment is concerned, we looked at the explanations given by
Morgan Stanley and especially pa[id] attention to investment ratings."); ^14(d). NACF's investment
regulations required it to rely on the ratings assigned to the MCNs. ^14(e).
Postbank relied in substantial part on the A/A3 ratings assigned to the MCNs it purchased as
well as statements regarding the purported quality of the Cheyne SIV and its underlying assets.
^18(a). As Postbank explained, "we were particularly interested in the ratings by S&P and Moody"
and "[i]n evaluating the risk, we relied on the A3 [rating of Moody's] and A rating of S&P"
^18(b). The investment approval memorandum prepared in connection with Postbank's purchase
explicitly relied on and highlighted the A/A3 ratings and the high ratings on the underlying assets
and characterized those ratings as "pros" in support of the purchase. ^18(c). Regulations governing
Postbank's investment required Postbank to rely on the ratings assigned to the MCNs. ^18(d).
PSERS relied, through its outside investment advisor, Credit Suisse Asset Management
("CSAM"), in substantial part on the AAA/Aaa ratings assigned to the MTNs it purchased and on
the ratings assigned to the Cheyne SIV's underlying assets. ^20(a). As CSAM explained, ratings
are an "indicator of credit worthiness of a particular security" and "an important item to understand
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. . . [the ratings are] very relevant to the investments for a variety of reasons, including sometimes
guidelines, limit, a particular type of . . . rating." 120(b); see also 120(c). Under PSERS's
investment guidelines, CSAM was required to rely on the assigned ratings when making investments
on PSERS's behalf. 1120(d)-(g).
SEI relied in substantial part on the AAA/Aaa ratings assigned to the MTNs it purchased and
on the ratings assigned to the Cheyne SIV's underlying assets. 1123(a)-(b). As SEI explained,
"[w]e need to rely on the ratings . . . since we don't have [access] to the underlying [assets]. SEI
had no investments under AAA in its money market funds." 123(c). SEI's investment sub-advisor,
CMA, explained: If a security did not have top ratings from Moody's and S&P, "then it wouldn't be
looked at. As a preliminary screen. [The ratings were] a substantial factor" in the investment
decision. 123(d). At the time of its investment in MTNs, SEI was governed by SEC Rule 2a-7 - a
rule that required SEI to rely on the ratings assigned to the MTNs.26 The investment guidelines
governing its purchase of the MTNs on SEI's behalf required CMA to rely on the ratings. 123(g).
SEI Strategies relied in substantial part on the ratings, testifying that "[t]he rating reports
from the credit rating agencies [were] always at the forefront" of SEI Strategies' investment decision
and "the ratings opened the door for [SEI Strategies] to ... even be able to consider this SIV for
investment. /SEI Strategies/ would not have looked at it had it not carried those ratings because it
wouldn't have been in compliance with the guidelines that I need to follow." 126(a). Put simply,
25 SEI's MTNs were purchased on its behalf by Columbia Asset Management, LLC ("CMA")
in its capacity as sub-advisor to money market funds for which SEI's wholly-owned subsidiary, SEI
Investments Management Corporation, served as advisor. SEI Strategies is the general partner of
SEI Liquidity LP, which purchased MTNs directly.
26 See 123(e) (Rule "2a-7 requires that investors use identified rating agencies to invest in
structured credit . . . in the 2a-7 fund so they have to use the rating agency"; in light of Rule 2a-7,
SEI "wouldn't have been able to buy Cheyne without the rating attached to it"); 123(f) ("So from a
2a-7 perspective . . . [ratings] are a big factor.").
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the ratings assigned to the MTNs were a "substantial factor" and "the most important factor" in
SEI's purchase decision. ^26(b); see also ^28(c).
SinoPac purchased Combination Capital Notes ("CCNs") that were comprised primarily of
MCNs rated A/A3 along with a small portion of unrated JCNs. The A/A3 ratings and the high
ratings on the Cheyne SIV's underlying assets were a substantial factor in SinoPac's decision to
purchase the CCNs. ^15(a). The investment approval memorandum and analysis report prepared
before SinoPac's investment explicitly relied on the A/A3 credit ratings on the MCNs and the high
ratings on the Cheyne SIV's underlying assets. ^15(b).
The foregoing conclusively establishes that each plaintiff substantially relied on the ratings.
In addition, because the ratings were directly tied to the yield, and because - as defendants concede
all investors rely on yield when purchasing bonds (^28(b)), it is axiomatic that the plaintiffs relied on
the ratings assigned to the Rated Notes. ^28(c)-(e); see also ^28(f). Significantly, the ratings on the
Rated Notes were required in order for the Cheyne SIV to exist in the first instance. The A/A3
ratings on the MCNs were a "condition precedent" to marketing the Rated Notes. ^28(g)-(i),
^28(zz). Similarly, "AAA/Aaa [ratings] by S&P and Moody's . . . [were] needed on the Senior
Notes programmes." ^28(j); see ^28(k)-(l). As Mr. Tabe explained, "the Aaa ratings assigned to
SIVs [enabled] them to sell their securities to the market." ^28(l); see ^28(m).
Defendants further admit that plaintiffs had to rely on the ratings assigned to the Rated Notes
because of the opaque nature of complex structured finance instruments like the Cheyne SIV and the
limited information available to investors. ^28(n); see also ^28(o)-(q). MS conceded that
"disclosure [for SIVs] is significantly less than a typical CDO as many of the specific details are
contained in the operating manual," which was not publicly available. ^28(aaa); see also ^28(r)-
(u). Put simply: "Investors rely on credit ratings, among other tools, to make investment
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decisions." 128(x). As Moody's CEO Raymond McDaniel explained, "in the structured finance
market, there is insufficient public information" so "investors are unable to conduct their own
analysis and develop their own independent views about potential or existing investments." 128(y);
see also 1128(z)-(cc). Likewise, S&P has admitted that structured finance investors "rel[y] on S&P
for review of the transaction, and for S&P to identify the credit risk (ratings) associated with the
tranches they intend to purchase." 128(dd); see also 128(d), 128(ee). As S&P recognized, "S&P's
business model involves assigning ratings to deals so issuers are able to attract investors." 128(ff);
see also 128(gg).
In response, defendants advance several factually incorrect and irrelevant arguments. First,
defendants posit that because some plaintiffs "might" have been able to purchase other securities
with lower ratings and higher yields, they did not rely on the ratings. But the fact that some
plaintiffs might have been able to purchase riskier products in return for a higher yield does not
undermine their reliance here. For example, when asked whether it would have purchased lower-
rated Cheyne SIV notes, Butterfield responded: "I don't know. . . they weren't ratedAA, they were
rated AAA, so it's impossible to answer that question." 128(hh); see also 1128(ii)-(jj).
Similarly, the level of due diligence individual plaintiffs performed is irrelevant here, where
the facts necessary to uncover defendants' fraud were "peculiarly within the knowledge of the
defendants," and where due diligence would not have revealed that the ratings were false. See
128(a), 1128(kk)-(pp); 128(tt); Todd v. Pearl Woods, Inc., 248 N.Y.S.2d 975, 977 (2d Dep't 1964),
aff'd, 15 N.Y.2d 817 (1965); see also JP Morgan Chase Bank v. Winnick, 350 F. Supp. 2d 393, 410
(S.D.N.Y. 2004); Alexander v. Evans, No. 88 Civ. 5309 (MJL), 1993 WL 427409, at *17 (S.D.N.Y.
Oct. 15, 1993) ("the reliance requirement was not designed to shield perpetrators of fraud by forcing
investors to conduct exhaustive research every time they invest money, lest the seller be
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manipulative or deceptive"). Plaintiffs testified that they relied on the ratings assigned to the Rated
Notes in part because of their inability to replicate defendants' complex, proprietary analyses. See,
^g^ ^2 8 (qq ) . Moreover, given the yield and tenor of the Rated Notes, it was not
economically feasible to perform extensive independent due diligence on the complex SIV and its
hundreds of underlying assets. ^28(a), ^28(ss).
Defendants also assert that CMA and Hapoalim "disagreed" with the ratings. MSJ at 17.
Not so. CMA testified: "[B]ased on the [CMA] credit report, there was a conclusion by CMA" that
the notes it purchased for SEI "were Tier 1 ratings. There's also an indication that Moody's and
S&P . . . had rated Cheyne Tier 1." ^23(h). Furthermore, CMA testified that: (i) CMA was
obligated to rely on the AAA/Aaa ratings, (ii) CMA would not have even looked at the Cheyne SIV
without the AAA/Aaa ratings, and (iii) that the AAA/Aaa ratings were a "substantial factor" and a
"big factor" in CMA's purchase. ^23(j). That Hapoalim assigned an internal numerical score of "5-
5" is similarly irrelevant because, as Hapoalim explained, that score is a "very common rating" and
"doesn't correlate with any agency ratings " ^17(f). Indeed, a "5-5" score was assigned by
Hapoalim to investments with ratings ranging from B/B3 all the way up to AAA/Aaa. ^17(g).
Defendants' argument that ADCB, GIB, GIS, and NACF purchased MCNs "before the
27 The cases defendants cite to suggest that plaintiffs' reliance was not justifiable stand for the
unremarkable and inapposite proposition that "[a] heightened degree of diligence is required where
the victim of fraud had hints of its falsity" or where plaintiff had access to information sufficient to
verify defendants' false statements. See Banque Franco-Hellenique de Commerce Int 'lMaritime,
S.A. v. Christophides, 106 F.3d 22, 27 (2d Cir. 1997) (plaintiff "had heard about the" misconduct
"two months before" the transaction at issue); USTPrivate Equity Investors Fund, Inc. v. Salomon
Smith Barney, 733 N.Y.S.2d 385, 386 (1st Dep't 2001) (same); In re Eugenia VI Venture Holdings,
Ltd., 649 F. Supp. 2d 105, 118 (S.D.N.Y. 2008) (finding that plaintiff failed to prove justifiable
reliance where the plaintiff had "unfettered access" to information, knew it was investing in a
company that "was, and had long been, treading choppy financial waters," and "made its investment,
at least in part, with the express purpose of helping AMC get back on its feet"). The plaintiffs in this
case did not know about defendants' fraud before they purchased or have equal access to
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ratings were ever issued" is a red herring. MSJ at 17. These plaintiffs' trades were not actually
consummated until August 3, 2005 - the date that the A/A3 ratings assigned to the MCNs became
final. As in virtually every investment in which provisional ratings are assigned, plaintiffs
understood that the final ratings would match the provisional ratings and would not have completed
their purchase had the final ratings differed. 128(a); see also 113(g). With respect to the Cheyne
SIV, "the difference between a provisional rating and a definitive rating is only the signing of
documents." 1128(uu)-(ww). Defendants admit that "the assignment of a provisional rating is very
much a final rating" 128(xx). Prior to the SIV's launch, MS informed plaintiffs that the MCNs
"are now dual rated by BOTH Moody's and S&P > 'A3/A.'" 128(yy).28
Further, Butterfield, Commerzbank, Hapoalim, and SEI have standing. "New York law does
not require specific boilerplate language to accomplish the transfer of causes of action sounding in
tort. Rather, 'any act or words are sufficient which "show an intention of transferring the chose in
action to the assignee.'"" Banque Arabe etInternationale D 'Investissement v. Maryland Nat 'lBank,
57 F.3d 146, 151-52 (2d Cir. 1995); see also Stichting Ter Behartiging Van de Belangen Van
Oudaandeelhouders in Het Kapitaal Van Saybolt Int 'lB. V. v. Schreiber, 407 F.3d 34, 52 (2d Cir.
2005) (noting New York's "liberal approach to claim assignability"); Brandoff v. Empire Blue Cross
& Blue Shield, 707 N.Y.S.2d 291, 293 (N.Y. Civ. Ct. 1999).29
28 Accordingly, defendants' reliance on Pension Comm. of the Univ. of Montreal Pension Plan
v. Banc of Am. Sec., LLC, 592 F. Supp. 2d 608, 629 (S.D.N.Y. 2009), misses the mark. There, the
plaintiff did not receive the statements upon which he purportedly relied until after purchasing the
bonds at issue. Id. Here, plaintiffs relied upon provisional ratings that they understood would match
the final ratings, would not have purchased the MCNs had the final ratings not matched the
provisional ratings, and, in any event, plaintiffs' purchases were not consummated until the ratings
were finalized. 128(a).
29 Moreover, defendants have failed to establish that the law they cite to attack the validity of
plaintiffs' assignment applies, and thus have not met their prima facie burden on this issue. See Am.
Optical Co. v. Curtiss, 56 F.R.D. 26, 29 (S.D.N.Y. 1971); Mogul v. Jenkins Bros., 120 N.Y.S.2d 585
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Here, Hapoalim purchased MCNs pursuant to a Note Purchase Agreement ("NPA") and a
Loan Asset Purchase Agreement ("LAPA") on behalf of a fully-sponsored commercial paper
conduit, Venus Funding Corporation ("Venus"). Hapoalim, and not Venus, selected, analyzed and
purchased the MCNs on Venus's behalf, relying on the A/A3 ratings. See ^28(a). In September
2007, Hapoalim acquired "through an assignment" and pursuant to the LAPA and NPA the whole of
Venus's MCNs at par (^17(h)), which included "all rights" and "all present and future claims,
demands, causes and choses in action in respect o f the MCNs. ^17(i); see ^28(a). Similarly, SEI
was forced to purchase MTNs from its money market funds at par to prevent the funds from
"breaking the buck." ^17(k). SEI was assigned "all of the [money market funds'] rights to and
under all claims with respect to the Cheyne Notes, including, without limitation, any and all claims,
suits, and/or causes of action arising under or relating to the Cheyne notes." ^23(i); see ^28(a).
Butterfield and Commerzbank also purchased all of the Rated Notes held by their money market
funds and acquired entities, respectively. ^16(f), ^19(j); see ^28(a). Furthermore, Butterfield and
Commerzbank acquired all rights and claims relating to the Rated Notes. See ^28(a).
Butterfield, Commerzbank, Hapoalim, and SEI, moreover, have standing because they
acquired the Rated Notes and were thus record owners of the notes before bringing suit. See Pension
Comm. of Univ. of Montreal Pension Plan v. Banc of Am. Sec., LLC, No. 05 Civ. 9016(SAS), 2006
WL 708470, at *4 (S.D.N.Y. Mar. 20, 2006) (Scheindlin, J.); Lemanik, S.A. v. McKinley Allsopp,
Inc., 125 F.R.D. 602, 607 (S.D.N.Y. 1989). And, for the avoidance of doubt, each plaintiff has
ratified that (1) it is authorized to pursue recovery related to the Rated Notes and (2) agrees to be
(1st Dep't 1953).
30 In addition, Commerzbank purchased MCNs on its own behalf. Defendants do not challenge
Commerzbank's standing to pursue claims relating to those notes. ^19(k).
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bound by any decisions or judgments. See 128(a).
Further, a transfer of "all assets" to Butterfield, Commerzbank, Hapoalim and SEI is "broad
enough to encompass all causes of action owned by" the transferor. Int 'l Design Concepts, LLC v.
Saks, Inc., 486 F. Supp. 2d 229, 237 (S.D.N.Y. 2007); see also Pro Bono Invs., Inc. v. Gerry, No. 03
Civ. 4347(JGK), 2008 WL 4755760 (S.D.N.Y. Oct. 29, 2008); Brandoff, 707 N.Y.S. 2d at 293.
Finally, Commerzbank and Hapoalim have standing for the additional reason that the funds and
entities from which they acquired the Rated Notes are no longer in existence. 117(j), 119(l), 128(a);
see Banque Arabe, 57 F.3d at 153; Int'l Design, 486 F. Supp. 2d at 237; Pro Bono Invs., 2008 WL
4755760, at *18.
E. The Evidence of Loss Causation Presents Disputed Issues of Fact
For loss causation, the Second Circuit requires "that the loss be foreseeable, and that the loss
be caused by the materialization of the concealed risk."32 Lentell v. Merrill Lynch & Co., 396 F.3d
161, 173 (2d Cir. 2005) (emphasis in original). "Plaintiffs need not demonstrate that defendants'
misstatements or omissions caused all of plaintiffs' losses." King County v. IKB Deutsche
Industriebank AG, 708 F. Supp. 2d 334, 339 (S.D.N.Y. 2010) (emphasis in original). Rather,
31 See also Pension Comm., 2006 WL 708470, at *4 (plaintiffs have standing where "plaintiffs
also submitted sworn affidavits from representatives for the [plaintiffs], supporting the claim that
each one of them has authority to bring this action"); Pemex-Refinacion v. Tbilisi Shipping Co. Ltd.,
No. 04 Civ. 02705(HB), 2004 WL 1944450, at *4 (S.D.N.Y. Aug. 31, 2004); Advanced Magnetics v.
BayfrontPartners, 106 F.3d 11, 18-21 (2d Cir. 1997); In re Vivendi Univ., S.A. Sec. Litig., 605 F.
Supp. 2d 570, 584-85 (S.D.N.Y. 2009); B.R.I. Coverage Corp. v. Air Canada, 725 F. Supp. 133
32 Under New York law, loss causation is shown where it is "foreseeable that [the plaintiff]
would suffer losses as a result of relying on [defendants'] alleged misrepresentations about the
mortgage loans." MBIA Ins. Corp. v. Countrywide Home Loans, Inc., 928 N.Y.S.2d 229, 235 (1st
Dep't 2011) (citing Silver Oak CapitalL.L.C. v. UBS AG, 920 N.Y.S.2d 325, 326 (1st Dep't 2011);
Teamsters Local 445 Freight Div. Pension Fund v. Bombardier Inc., No. 05 Civ. 1898(SAS), 2005
WL 2148919, at *12 (S.D.N.Y. Sept. 6, 2005); Hotaling v. A.B. Leach & Co., 247 N.Y. 84, 93
(1928) ("The loss sustained is directly traceable to the original misrepresentation of the character of
the investment the plaintiff was induced to make.")).
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plaintiffs need only come forth with evidence "that would allow a factfinder to ascribe some rough
proportion of the whole loss to [the defendant's alleged] misstatements." Id. (emphasis in original).
Here, the evidence establishes a triable issue of fact as to the element of loss causation.
Defendants' false statements and omissions led plaintiffs to believe that Cheyne was an
exceptionally strong obligor supported by a healthy portfolio of high-quality assets and highly robust
structural protections. Supra, §§II.A.-B., D. The false ratings signified a safe, secure and reliable
investment with an extremely low probability of transitioning to "junk" status, and a high likelihood
of full recovery even in the extraordinary event of a default. Supra, §II.A. Concealed from plaintiffs
was the poor quality of the Cheyne SIV's toxic assets, the risks posed by the Cheyne SIV's woefully
insufficient structural protections, and a deeply flawed ratings process. Supra, §II.A.-C.; see also
P(eee). Plaintiffs' substantial losses were directly caused by the false ratings when the concealed
risks were realized because the value of Cheyne's toxic subprime assets declined, taking the SIV
down with them. ^29(a).
That the SIV would collapse was utterly foreseeable.
[T]he risk that caused plaintiffs' losses - that [Cheyne] consisted of toxic assets that
would become worthless - was precisely within the zone of risk concealed by the
Top Ratings. That plaintiffs would suffer losses when these toxic assets collapsed
and [Cheyne] entered receivership was reasonably foreseeable. Therefore, . . . the
materialization of the risk concealed by the Top Ratings caused plaintiffs' losses.
King County, 708 F. Supp. 2d at 340; see also Louros v. Kreicas, 367 F. Supp. 2d 572, 579
(S.D.N.Y. 2005) (loss foreseeable and summary judgment denied where broker represented that
investments were "'conservative,'" and "'safe'" when, in fact, the investments were highly risky
securities). A depreciation in the value of the underlying assets causing the SIV to fail was precisely
within the "zone of risk" that is "determined by the purposes of the securities laws, i.e., 'to make
sure that buyers in securities get what they think they are getting.'" In re Omnicom Grp., Inc. Sec.
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Litig., 597 F.3d 501, 513 (2d Cir. 2010) (quoting Chem. Bank v. Arthur Andersen & Co., 726 F.2d
930, 943 (2d Cir. 1984)). "Stated differently, the concealed negative information . . . cause[d] the
[plaintiffs'] loss because 'the concealed information eventually cause[d] the transaction to fail.'"
Internet Law Library, Inc. v. Southridge CapitalMgmt., LLC, No. 01 Civ. 6600(RLC), 2007 WL
1222583, at *3 (S.D.N.Y. Apr. 25, 2007).
Plaintiffs' Losses Were Caused by the Materialization of the
Risks Concealed by Defendants' Fraud
The Cheyne SIV was driven into receivership when investors began to realize that the ratings
on the subprime assets held by Cheyne did not represent the actual risk inherent in those securities.
129(a). Prices dropped as investor concern about poor credit quality in subprime securitizations
increased, and the SIV was forced into enforcement, receivership and ultimately liquidation. Id. As
a result, Senior Note plaintiffs incurred substantial losses, and the MCN plaintiffs lost their entire
By early 2007, the defendants recognized that the risk concealed by their false ratings was
threatening to emerge. S&P experienced "serious pressure to respond to the burgeoning poor
performance of sub-prime deals" and recognized internally that subprime RMBS ratings were "not
going to hold through 2007." 1129(c)-(h). On March 16, 2007, Moody's began to monitor Cheyne
and three other SIVs "closely," "given their exposures to US subprime." 129(o), 129(pp), 129(i),
1129(k)-(l). By late March 2007, MS knew that the "liquidity" of the Rated Notes had "diminished"
and responded by seeking to "[i]nstill confidence" to prevent "a flood of selling." 1129(m)-(r). In
April, Cheyne and other "vehicles with large US RMBS exposure" suffered "large [negative]
movement(s) in NAV" (Net Asset Value) when "compare[d] to the sector average." 129(s). The
spreads on Cheyne's debt began to widen as investors grew concerned about the SIV's exposure to
subprime. 129(t). On July 5, 2007, Cheyne warned Morgan Stanley that "alarm[ing]" spread
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widening on Cheyne's MCNs threatened the economics of the SIV. ^29(u).
On July 10, 2007, Moody's downgraded 399 RMBS assets, and put an additional 32 on
watch for a possible downgrade. ^29(v). S&P also placed 612 RMBS assets on Creditwatch with
negative implications and downgraded 498 of those securities two days later. ^29(a). The
downgrades adversely impacted Cheyne. See Declaration of Bjorn I. Steinholt in Support of
Plaintiffs' Opposition to Defendants' Motion for Summary Judgment ("Steinholt Decl"), ^9. In
internal documents, MS analysts concluded on July 10 that the Cheyne deal was "worse than I
thought it was," that the price of MCNs should be discounted by 10%-15%, and that "the deal could
unravel." ^29(x). By July 20, MS had reached the conclusion that if proper market prices were
used the "HEQs" - home equity securities - would "trigger outright" the Major Capital Loss Test,
sending Cheyne into enforcement. ^29(y); see also ^2(f). Yet, MS kept "try[ing] to push SIVs
through the franchise," seeking to maximize profits even though its "senior MDs [were] saying SIVs
are going to blow up." ^29(z). Moody's, too, sought to prop up the Cheyne SIV by releasing a
report titled: "SIVs: An Oasis of Calm in the Sub-prime Maelstrom," assuring investors that SIVs
had various protections in place that would "obviate the need to liquidate large buckets of assets at
potentially the worst period in the life of the vehicle." ^29(aa)-(bb). Internally, however, Moody's
knew Cheyne was in trouble precisely because of its exposure to subprime. ^29(bb)-(cc).
By the end of July, Cheyne was "selling [its] highest quality assets" causing it to "really
stand out as high-proportion subprime." ^^29(dd)-(ff). As a result, after August 2, 2007, investors
stopped buying Senior Notes (^29(hh)), and at least one MCN investor exited the security - still
rated A at a 30% loss. ^29(ii). By August 9, 2007, Cheyne was in trouble because senior note
investors were "very nervous about certain asset sectors - particularly subprime and Structured
Finance CDOs" ^29(hh); see also ^29(jj). Still, on August 14, 2007, S&P published an article,
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"SIV Ratings Are Weathering Current Market Disruptions," and affirmed ratings on 30 SIVs
including Cheyne. 129(kk). MS "[could] not believe these morons would reaffirm in this market
with mtm triggers threatening to wipe out the bonds." 129(ll). Less than a week later, Cheyne
breached its Minor Capital Loss Test. 129(mm). The "[m]arket ha[d] singled out Cheyne as [the]
most likely SIV to come down given its portfolio [of] HELs and CDOs." 129(mm), 129(bb).
On August 28, 2007, Cheyne went into enforcement. S&P downgraded the MTNs six
notches to A-, the CP two notches to A-2 and the MCNs ten notches to B- (below investment grade).
On S eptemb er 5, Moody' s downgraded Cheyne' s MCNs 11 levels to C aa2 and put the S eni or Notes
on review for possible downgrade. The ratings actions were an acknowledgment that the credit risk
of Cheyne's subprime assets did not match their ratings. 129(a), 129(nn). The downgrades
continued on September 7, 2007 (S&P) and October 4, 2007 (Moody's). On October 17, 2007,
pursuant to a court order, Cheyne's receivers (Deloitte & Touche) notified the Trustee of an
"insolvency event," meaning that the SIV was unable to pay its debts to senior creditors and all
assets were to be sold. 129(qq). On October 19, 2007, S&P downgraded Cheyne's CP and MTN to
D (Default). 129(a). Again, the rating agencies attributed their continued downgrades to the
subprime assets held by Cheyne. Id. Ultimately, the Cheyne SIV portfolio was auctioned off for
43.9 cents on the dollar. 129(oo), 139(a). MCN investors were wiped out completely, and Senior
Note purchasers lost more than 30% of their investment. 139(a). Plaintiffs' losses were a direct and
foreseeable result of defendants' gross understatement of the Rated Notes' risk. Steinholt Decl.,
Defendants contend that plaintiffs' losses were caused by a decline in market prices that was
completely unrelated to credit performance. MSJ at 27-30. To prevail, defendants must "prove that
plaintiffs' losses were, in fact, caused entirely by an intervening event." King County, 708 F. Supp.
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2d at 346. However, as Moody's put it, defendants cannot "escape from the fact that the undoing of
SIVs . . . is primarily explained by the overly aggressive ratings of underlying assets, from the
market's perspective." ^30(b); see Steinholt Decl., ̂ 27-28, 30-31. According to Moody's, "the fact
that the portfolio assets [were] still highly rated" when Cheyne failed simply "highlight[ed] the dis-
connect between our ratings and what the market [was] telling us about the quality of the assets."
W e ) .
The market's actions were entirely rational and directly connected to severe credit problems
in Cheyne's constituent portfolio. Steinholt Decl. The mark-to-market declines that drove Cheyne
into enforcement on August 28, 2007, occurred on subprime securities. ^30(f). By that time, 101 of
the SIV's constituent assets had been marked down by more than 10%. ^30(g). Their market prices
dropped for a reason - 99 of the 101 were subprime HEL securitizations. ^30(h). The securities
contained high percentages of troubled loans, and based on this information the market correctly
anticipated substantial future losses, driving prices down. ^30(i). Defendants rely heavily on the
contention that none of these securities had been downgraded by August 28, 2007. MSJ at 20. As
plaintiffs' loss causation expert Steinholt explains, however, this argument incorrectly confines the
question of credit quality to the ratings, which is inappropriate given the overwhelming empirical
evidence and defendants' own admissions establishing that by August 28, 2007, the market had a
diverging view. Steinholt Decl., ^30-31. In fact, 37 of Cheyne's assets had experienced
downgrades in their lower tranches (or had been put on watch for downgrades), portending future
losses for the tranches Cheyne held. ^30(j). These assets continued to suffer increasing credit
problems driving the SIV into insolvency and liquidation. ^30(k). Today, 98 of the 101 highly
impaired assets have themselves been downgraded and 96 trade below 90% of face value. ^30(g). If
the assets had been impaired by liquidity, but not credit issues, they would not have been
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downgraded and they would trade at or above par today, more than three years after defendants'
supposed liquidity crisis. 129(a), 130(l).33
In this context, observations by a few of the plaintiffs' employees that Cheyne's enforcement
was triggered by failure of the Major Capital Loss Test based on market prices, and
contemporaneous attempts to value Cheyne or its constituent assets based on partial information are
irrelevant. The evidence shows that prices were driven down because of credit issues. Furthermore,
those "observations" simply parrot the information made available by the defendants and Cheyne, all
of whom had an interest in promoting that theory. See, e.g., 1131 (a)-(d). Defendants' selective and
misleading quotations of certain of the plaintiffs' employees regarding credit "fundamentals" is
equally unavailing. These statements were plucked from documents and testimony describing the
effects that the undeniable credit problems existing in subprime securities had on securities that were
completely unrelated to subprime. 1131(e)-(f). The same documents and testimony make it clear
that in late September/early October, before Cheyne was declared insolvent, "fundamentals] came
back into play." 1131(e)-(h).34
Plaintiffs' lay opinions at best give rise to a triable issue of fact, for at the time, all of the
defendants differentiated Cheyne from the vast majority of SIVs, attributing Cheyne's failure
squarely to its subprime exposure. Moodys: "This is the first 'traditional' SIV (i.e. a SIV which is
33 Dr. Sanjiv Das analyzed the SIV and concluded that without its high concentration of
HELs,"the SIV would not have failed in second-half of 2007." Das Decl., 16.
Likewise, defendants' reference to losses some of the plaintiffs suffered through other toxic
structured finance investments like those held by Cheyne establishes nothing.
35 See ^IG Global Sec. Lending Corp. v. Banc of Am. Sec. LLC, 646 F. Supp. 2d 385, 400
(S.D.N.Y. 2009) (denying motion for new trial where certain plaintiffs testified that a third party had
caused plaintiffs' loss from a structured security because "the lay opinion of various witnesses that
First Union's servicing failure caused the plaintiffs' losses are not very probative"), aff'd, 386 Fed.
App'x 5 (2d Cir. 2010).
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not a SIV lite) that we place on review. However, unlike most - but not all [of] - the other
traditional SIVs, Cheyne has a large exposure to US RMBS (63%)" ^31(i)-(j). S&P: Senior
employees emphasized that "non-prime RMBS exposures" explained Cheyne's collapse. ^31(l)-
(m). MS: A research analyst, Sarah Barton (who was not involved in the fraud) attempted to publish
a research report correctly attributing Cheyne's collapse to "[a]sset quality" problems. ^31(n).
Ultimately, Ms. Barton was forced by senior executives (who participated in the fraud) to delete all
references to Cheyne's "asset quality" problems from the published report. ^31(n).
Defendants' statistics concerning outstanding commercial paper are equally unavailing. MSJ
at 29. More than a month after Cheyne's short term funding dried up, MS "reiterate[d]" to the
market "that the majority of SIVs (at least those with the majority of the market's assets) are still
financing themselves," and "there is liquidity to be had in the US and Europe " ^31(n), ^33(a).
SIVs with less subprime exposure than Cheyne were issuing short-term paper into 2008. ^33(a)-
(c). MS itself "cut off all SIVs from trading" because of "the wind down of the Cheyne SIV."
Defendants' contention that the Cheyne SIV had enough value in August to pay the Senior
Notes is legally irrelevant and factually incorrect. The Rated Notes did not trade in an efficient
market like shares of stock in a traditional federal securities fraud claim. "[P]roving loss causation
36 See In re Ambac Fin. Grp., Inc., 693 F. Supp. 2d 241 (S.D.N.Y. 2010) (rejecting argument
that defendants were victims of a "global economic collapse" because such were "premised on a
convenient confusion of cause and effect" where the defendants were "active participants] in the
collapse of their own business, and of the financial markets in general, rather than merely . . . passive
victim[s]"); In re Tycom Ltd. Sec. Litig, No. 03-CV-1352-PB, 2005 WL 2127674, at *12 n.15
(D.N.H. Sept. 2, 2005) (same); In re Countrywide Fin. Corp. Sec. Litig., 588 F. Supp. 2d 1132,
1173-74 (C.D. Cal. 2008); In re Charles Schwab Corp. Sec. Litig., 257 F.R.D. at 534, 547-48 (N.D.
Cal. 2009) (describing "a 'run on the fund' scenario: as losses mounted, more and more investors
sought to withdraw their investments, forcing the fund to liquidate assets at low prices, which in turn
contributed to the share-price decline"); In re Mut. FundsInv. Litig., 590 F. Supp. 2d 741, 748 (D.
Md. 2008) (recognizing loss causation regarding "'flight damages.'").
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in connection with the sale of privately-offered, asset-backed securities such as [the Rated Notes] is
a different undertaking from proving loss causation in a typical stock drop case." AIG, 646 F. Supp.
2d at 403 (affirmed by Second Circuit); see also Charles Schwab, 257 F.R.D. at 547. In a case like
this one, an immediate price decline upon disclosure that the ratings were incorrect is not required.
Loss causation may be established by demonstrating a causal link between the fraud and the
"decrease in the amount of money returned to [plaintiffs] over the course of the securitization." AIG,
646 F. Supp. 2d at 403.
Defendants' argument also presupposes that the portfolio's marks were accurate, and that all
of the assets could have been liquidated without any liquidation discount. The evidence proves
otherwise. As MS knew, if the Cheyne SIV had correctly priced "the assets at the bid side" (i.e., the
price market participants were actually willing to pay), the SIV would have "fail[ed] the entire
portfolio trigger for both the Minor and Major Test[s]" on July 20, 2007, more than a month before
enforcement. 136(a); see 1136(b)-(d). By that point, MS's calculations showed that the Senior
Notes had suffered a loss (136(b)), and MS admitted that the Cheyne Senior Notes were "a CP roach
motel we check in but can't check out" 136(c). Additionally, unloading the SIV's assets on the
market in an unplanned, disorderly sale would have resulted in even more losses than plaintiffs
actually suffered. 135(e); Steinholt Decl., 1133-34. Thus, defendants' argument is divorced
completely from economic reality. Id.
Furthermore, defendants' use of the enforcement date to assess the portfolio's value is
arbitrary because the rating agencies continued to downgrade Cheyne after August 28, 2007 and into
2008, when the SIV portfolio was liquidated and plaintiffs' losses were crystallized. 129(a).
Finally, the entire receivership from enforcement through insolvency and liquidation was anticipated
and designed by the defendants who falsely designated the whole structure worthy of top ratings.
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Defendants' refusal to produce discovery on the topic bars them from advancing any
argument relying on the failure of other SIVs. See Objection to Evidence. In any event, defendants
cannot lump Cheyne in with other SIVs because, as discussed, the evidence establishes that Cheyne
failed because of its subprime holdings. As of May 2008, moreover, seven months after Cheyne
went into enforcement and two months before its liquidation, the vast maj ority of SIVs were still top
rated. On that date, S&P admitted:
Those SIVs with the highest concentration of U.S. RMBS . . . and CDOs of
ABS have generally experienced the most acute loss in market value of the securities
in their asset portfolios and, therefore, a resultant drop in capital note investor net
132. Defendants have not provided any evidence of the actual losses incurred by investors in other
SIVs, the cause of any such losses or when and why those SIVs failed. In sum, defendants have
failed to carry their burden. King County, 708 F. Supp. 2d at 346.
Plaintiffs' Losses Were Within the "Zone of Risk"
Under Lentell, plaintiffs need not prove that defendants knew the precise event that would
cause plaintiffs' losses, but only that the harm suffered by plaintiffs was in the "zone of risk
concealed by the misrepresentations and omissions." King County, 708 F. Supp. 2d at 338 & n.27
(quoting and following Lentell, 396 F.3d at 173). The Second Circuit holds that "[t]he zone of risk
is determined by the purposes of the securities laws, i.e., 'to make sure that buyers of securities get
what they think they are getting.'" Id.
Here, plaintiffs believed they were buying top-rated securities. Actually, they received
something much riskier. Defendants concede that they knew the SIV was susceptible to credit risk,
market risk and liquidity risk when it was launched. MSJ at 31-32. But, they falsely assured
plaintiffs that those risks had been properly accounted for in the rating, and, in combination with all
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other risks, had a minimal chance of materializing. ^37(a)-(c). Defendants cannot disprove
causation, under such circumstances, by pointing to a general downturn in the market. For the risk
of such downturns is the very reason that risk-averse investors are well-advised to seek highly-rated
investments with well-protected, conservative portfolios. See King County, 708 F. Supp. 2d at 343
& n.63; Owens v. Gaffken &Barriger Fund, LLC, No. 08 Civ. 8414(PKC), 2009 WL 3073338, at *8
(S.D.N.Y. Sept. 21, 2009).
As insiders, defendants did foresee the problems they claim could not be predicted. MS
knowingly waived doomed loans into securitizations that contaminated the market, and the rating
agencies knowingly inflated ratings on subprime securitizations to keep the machine rolling. See
§II.C., supra. As S&P admitted two weeks after Cheyne collapsed, the economic slowdown was
"[n]ot surprising" (^37(c)), given that there were several "[e]arly [w]arning [s]igns" in 2005 of a
"Housing Bubble Forming As a Result of Low Rates." ^37(d). See ̂ 37(e)-(h). In short, plaintiffs'
losses were a foreseeable result of defendants' fraud.
All of the Plaintiffs Were Damaged by Defendants' Fraud 3.
All of the plaintiffs suffered substantial and cognizable damages as a result of defendants'
fraud. The MCN Plaintiffs37 lost 100% of their principal investments, a fact that defendants do not
dispute. ^39(a), ^39(d), ^39(f). After the Cheyne SIV was declared insolvent, all of SIV's assets
were sold. Id. A vertical slice of the SIV's portfolio was sold through a competitive auction process
that involved 11 bidders. The winning bid came in at 43.9% of notional value. Id. The remaining
assets were then sold to Goldman Sachs International ("GSI") at the same price as in the auction. Id.
The assets purchased by GSI were then sold to a "newly formed" entity, Gryphon Funding Limited
37 ADCB, Hapoalim, SinoPac, Postbank, NACF, GIB and GIS. Commerzbank purchased both
Mezzanine Capital and Senior Notes.
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("Gryphon"). Id. The Senior Noteholders chose whether to receive cash (from the sale of a
vertical slice) or "re-invest" in "new notes" issued by Gryphon. See 1139(a)-(d).
Defendants contend that plaintiffs who chose Gryphon cannot prove damages because they
continue to hold Gryphon notes. But, the acquisition of Gryphon was a new investment decision
concerning a completely different note. "[T]he Gryphon Offers [were] not part of the Receivership
or the Receivership Process," and "none of SIV Portfolio plc (in receivership), Cheyne Finance LLC
or the Receivers" had "any role" or responsibility for their issuance. 139(f). The performance of
Gryphon, a new security with an indeterminate duration (potentially 30-100x longer than their
Cheyne investments) and no coupon, is irrelevant. 139(g). Whether that decision was a success or a
failure has no bearing on the losses those plaintiffs can recover, just as King County or PSERS's
investment of the proceeds from the cash-out would have no bearing on theirs. See In re Oxford
Health Plans, Inc. Sec. Litig, 244 F. Supp. 2d 247, 250 (S.D.N.Y. 2003). Regardless of what
happened after Cheyne's assets were sold, the plaintiffs' loss is measured by the "decrease in the
amount of money returned to them over the course of the securitization." ^IG, 646 F. Supp. 2d at
401-04. By that measure, all plaintiffs have suffered substantial losses. 139(h).
In addition, even if the value of Gryphon and payments received from that new investment
are used to measure loss, plaintiffs have still suffered damages. 139(a). Butterfield sold all and
SFTCIF sold a portion of their Gryphon Notes, and both incurred a loss. 139(i). Courts have
routinely rejected the argument defendants advance as "'too cramped a reading of damages.'" See
38 King County, PSERS, SEI, SEI Strategies, SFTCIF, FSBA and Butterfield.
39 Even if it were permissible to apply Gryphon proceeds as an offset, establishing that offset
would be defendants burden, which they have not even attempted to satisfy. Aristocrat Leisure Ltd.
v. Deutsche Bank Trust Co. Americas, 727 F. Supp. 2d 256, 289-90 (S.D.N.Y. 2010) ("New York
state courts . . . consistently require the party that would benefit from the offset . . . to prove its
entitlement to a reduction of damages.").
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Pub. Emps. Ret. Sys. of Miss. v. Merrill Lynch & Co., 277 F.R.D. 97, 107-08 (S.D.N.Y. 2011)
(collecting cases). The law is clear, and defendants cite no contrary authority, that plaintiffs are not
required to sell in order to sue.40 Further, Gryphon will never fully repay the Senior Noteholders. A
substantial number of Gryphon's assets have defaulted or stopped paying, which guarantees that the
Gryphon notes will incur a loss. ^39(a), ^39(j). Given the poor quality of the assets backing the
portfolio, substantial future defaults are nearly certain. The locked-in losses and the anticipated
future losses on principal are reflected in the bid prices for Gryphon notes, which currently stand at
28% of face value. ^39(a). Damages can be established based on these prices. Pub. Emps. Ret.
Sys., 277 F.R.D. at 107-08; see ^39(a). Finally, plaintiffs' expert described several methods for
valuing Gryphon. See Steinholt Decl., ^35-36. Nothing more is required. JSMS Rural LP v. GMG
Capital Partners III, LP, No. 04 Civ. 8591(SAS), 2006 WL 1867482, at *3 (S.D.N.Y. July 6, 2006)
Generic Disclosures Do Not Negate Loss Causation or Scienter F.
Risk disclosures have no bearing on the elements of loss causation and scienter. That an SIV
could potentially face market risk was not a secret. Here, however, "[t]he disclosures fail[ed] to
make clear the magnitude of the risk." N.J. Carpenters Health Fund v. DLJ Mortg. Capital, Inc.,
No. 08 Civ. 5653(PAC), 2010 WL 1473288, at *6 (S.D.N.Y. Mar. 29, 2010). What defendants
knew and plaintiffs did not was that: (i) the SIV's Top Ratings were false, (ii) the Rated Notes were
not safe, sound and stable, (iii) the SIV held assets that defendants knew were far riskier than
represented, and (iv) the SIV did not have adequate structural protections to prevent losses with
40 Pub. Emps. Ret. Sys., 277 F.R.D. at 107-08 (damages established where plaintiffs showed
"that the Certificates were no longer marketable at anywhere near the prices paid by Plaintiffs at the
time of the suit"); see also In re Merrill Lynch Auction Rate Sec. Litig., No. 09 MD 2030(LAP),
2011 WL 1330847, at *11 (S.D.N.Y. Mar. 30, 2011).
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Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 55 of 60
nearly the expectation signified by the Top Ratings. In short, "the general disclaimers contained in
the private placement memorandum" do not "avail [defendants] since they [are] not specifically
applicable to the alleged misrepresentation at issue." Silver Oak, 920 N.Y.S. 2d at 327. Instead,
they "are invalid" because notwithstanding any disclaimer, the true risk was concealed by the false
ratings, and "'"the information required to confirm or disprove the validity of the [ratings] was
peculiarly within [defendants'] knowledge."'" King County, Wash. v. IKBDeutscheIndustriebank
AG, No. 09 Civ. 8387(SAS), slip op. at 15 (S.D.N.Y. Oct. 29, 2010) (brackets in original); see also
Edison Fund v. Cogent Inv. Strategies Fund, Ltd., 551 F. Supp. 2d 210, 226 (S.D.N.Y. 2008) ("If a
party is aware of an actual danger or cause for concern, the party may not rely on a generic
disclaimer in order to avoid liability.").41
G. Aiding and Abetting Has Been Established
As detailed herein, there is ample evidence that defendants had actual knowledge of the
fraud. Since it cannot be disputed that MS and the rating agencies worked hand-in-hand to create
and disseminate the false ratings, substantial assistance is established. As with the primary fraud
claims, a triable issue of fact exists as to plaintiffs' aiding and abetting claims.
Defendants' motion for summary judgment should be denied in its entirety.
41 Defendants' contention also fails because cautionary words cannot negate any element,
where, as here, the misrepresentation is a present fact, and the cautionary words do not "directly
address the risk that plaintiffs claim was not disclosed." In re Flag Telecom Holdings, Ltd. Sec.
Litig., 618 F. Supp. 2d 311, 322 (S.D.N.Y. 2009).
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Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 56 of 60
Respectfully submitted. DATED: February 29, 2012
ROBB1NS GELLER RUDMAN
& DOWD LLP
PATRICK J. COUGHLIN
DANIEL S. DROSMAN
JESSICA T. SHINNEFIELD
DARRYL J. ALVARADO
DANIEL ft. DROSMAN
655 West Broadway, Suite 1900
San Diego, CA 92101-3301
ROBBINS GELLER RUDMAN
& DOWD LLP
SAMUEL H. RUDMAN
58 South Servicc Road, Suite. 200
Melville, NY 11747
ROBBINS GELLER RUDMAN
& DOWD LLP
LUKE O. BROOKS
JASON C. DAVIS
Post Montgomery Center
One Montgomery Street, Suite 1800
San Francisco, CA 94104
Attorneys for Plaintiffs
- 4 6 -
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 57 of 60
POMERANTZ HAUDEK GROSSMAN
& GROSS LLP
MARC I. GROSS
TAMAR A. WEINRIB
100 Park Avenue
New York, NY 10017-5516
Additional Attorneys for Plaintiff State Board of
Administration of Florida
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Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 58 of 60
DECLARATION OF SERVICE BY MAIL
I, the undersigned, declare;
That declarant is and was, at all times herein mentioned, a citizen of the United States
and a resident of the County of San Diego, over the age of 18 years, and not a party to or interested
party in the within action; that declarant's business address is 655 West Broadway, Suite 1900, San
Diego, California 92101.
That on February 29, 2012, declarant served PLAINTIFFS' MEMORANDUM OF 2.
LAW IN SUPPORT OF THEIR OPPOSITION TO DEFENDANTS' JOINT MOTION FOR
SUMMARY JUDGMENT PURSUANT TO FEDERAL RULE OF CIVIL PROCEDURE 56(c) by
depositing a true copy thereof in a United States mailbox at San Diego, California in a sealed
envelope with postage thereon fully prepaid and addressed to the parties listed on the attached
That there is a regular communication by mail between the place of mailing and the
places so addressed.
I declare under penalty of peijury that the foregoing is true and correct. Executed on
February 29, 2012, at San Diego, California,
^ -7 klz U/kk
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 59 of 60
MORGAN STANLEY S1V
Service List - 2/28/2012 (OB-oies)
Page 1 of 1
Counsel For Defendants)
Andrea R. Butler
Cahill Gordon & Reindel LLP
80 Pine Street
NewYork, NY 10005-1702
James P. Rouhandeh
William R. Miller, Jr.
Andrew D. Schlichter
Davis Polk & Wardwell LLP
450 Lexington Avenue
NewYork, NY 10017
Joshua M. Rubins
James J. Coster
Aaron M. Zeisler
Satterlee Stephens Burke & Burke LLP
230 Park Avenue, 11th Floor
NewYork, NY 10169
Counsel For Plaintiff(s)
Marc I. Gross
Tamar A. Weinrib
Pomerantz Haudek Grossman & Gross LLP
100 Park Avenue
NewYork, NY 10017-5516
Samuel H. Rudman
Robbins Geller Rudman & Dowd LLP
58 South Service Road, Suite 200
Melville, NY 11747
Jason C. Davis
Robbins Geller Rudman & Dowd LLP
Post Montgomery Center
One Montgomery Street, Suite 1800
San Francisco, CA 94104
Patrick J. Coughlin
Daniel S. Drosman
Robbins Geller Rudman & Dowd LLP
655 West Broadway, Suite 1900
San Diego, CA 92101
Case 1:08-cv-07508-SAS-DCF Document 430 Filed 07/02/12 Page 60 of 60