Citigroup Global Markets Inc. has agreed to be censured and to pay a fine of $3.5 million for posting inaccurate data on residential mortgage-backed securities on a website it maintains pursuant to federal regulations.
Despite possessing information that the data posted on its website was inaccurate, Citigroup Global did not correct the data it was presenting to investors. This was at least partially a result of the firm’s failure to supervise, according to documents from the Financial Industry Regulatory Authority (FINRA).
Citigroup Global Markets Submits AWC
The firm submitted a Letter of Acceptance Waiver and Consent (AWC) to FINRA to settle the matter. Without admitting or denying anything, Citigroup Global consented to an entry of findings by FINRA, which accepted the AWC on May 22.
Based in New York, Citigroup Global is a member of FINRA and a wholly-owned subsidiary of Citigroup Financial Products Inc. and Citigroup Inc. The firm provides investment banking services and acts as a full-service broker-dealer. Citigroup Global trades in securities for individual and institutional customers as well as for proprietary accounts, the AWC said.
The Innacurate Data
The inaccurate data on residential mortgage-backed securities (RMBS) was posted from January 2006 through October 2007, and the firm failed to correct the data until May 2012.
Citigroup Global was obligated to post the data pursuant to Regulation AB, adopted by the Securities and Exchange Commission in January 2006. Reg AB sets forth disclosure and other requirements regarding publicly registered asset-backed securities, including RMBS.
About Residential Mortgage-Backed Securities
RMBS are securitized pools of mortgage loans. Investors receive payments from the principal and interest that borrowers pay on the underlying loans and the investments are split into classes referred to as tranches, the AWC explained. The tranches differ as to the seniority of payment rights as well as levels of risk.
Reg AB requires the disclosure of RMBS performance data and static pool information. Performance data must be disclosed at the time of the offering and periodically thereafter. It includes information on the rate of delinquency, the total amount of delinquent assets as a percentage of the aggregate mortgage pool, and present and cumulative loss information, the AWC said. This data is considered material under Reg AB because it can affect an investor’s evaluation of the fair market value and yield as well as the length of time a security should be held. Investors are likely to consider this information to determine potential profitability and future returns.
According To The AWC
Static pool information is basically the same data for previous, similar securitizations, the AWC said. Reg AB requires that information on delinquencies and cumulative losses for previous pools of the same type of asset be disclosed in the prospectus supplement for any asset-backed security. Under Reg AB, this information is considered material.
Firms offering asset-backed securities are permitted by Reg AB to provide static pool information through a website maintained for the purpose. The information must be posted unrestricted and free of charge for at least five years.
From 2003 through 2007, Citigroup Global underwrote and publicly sold RMBS, including many backed by subprime loans. The firm was the underwriter of RMBS sold through Citigroup Mortgage Loan Trust Inc., the AWC said.
As underwriter, Citigroup Global prepared the offering documents. In the course of this activity, the firm provided investors with inaccurate information and failed to supervise the information disseminated on a number of subprime RMBS offerings, the AWC said.
Citigroup Global had no reasonable basis to believe the information it posted on Citigroup’s Reg AB website was accurate, the AWC said. The firm’s mistake was to use data published in monthly remittance reports, data that did not reach down to the loan level. Citigroup Global either received or had access to better performance data, but it never used it to calculate or confirm the accuracy of the data it was posting.
Moreover, monthly reports from the risk manager, to which Citigroup Global had access, identified discrepancies between the loan-level data and the data in the monthly remittance reports. These discrepancies were a strong indication that the remittance report data that was posted on the website was inaccurate, the AWC said.
From January 2006 through December 2008, the monthly risk manager reports for 22 different RMBS reported discrepancies between the loan-level data and the data in the monthly remittance reports. They included repeated understatements and occasional overstatements of delinquencies, bankruptcies and foreclosures, including as many as 88 foreclosures that did not appear in the remittance reports, the AWC said.
Despite the fact that for two years, Citigroup Global was either repeatedly sent this information or had access to it, the firm failed to check whether the data it posted on the website was accurate, the AWC said. It continued to rely on the remittance reports.
Citigroup Global Violated FINRA Rules
Because Citigroup Global had no reasonable basis to believe that the data it posted on website was accurate, it violated FINRA Rule 2010 and Rule 2110 of the National Association of Securities Dealers (NASD), a FINRA predecessor, the AWC said. Both these rules require a firm to observe high standards of commercial honor and just and equitable principles of trade in the conduct of its business.
The firm also failed to adequately supervise the posting of information on RMBS in violation of NASD Rule 3010, which requires that firms establish and maintain a supervisory system — including written supervisory procedures — that is reasonably designed to achieve compliance with the applicable securities laws, regulations and rules.
Between April 2006 and June 2008, officers of Citigroup Global filed many disclosure forms with the SEC correcting inaccuracies in previously filed performance data, the AWC said. The new filings revealed that the number of delinquent loans and the age of the delinquencies associated with about 16 RMBS were significantly underreported, as were the numbers of bankruptcies and foreclosures. As noted, Citigroup Global did not correct any of the data it posted on the website May 2012.
The firm also violated the rules when it gave investors inaccurate static pool information, and failed to supervise that information, the AWC said. Because the performance data posted for the initial RMBS offerings was always invalid, when the same data was presented as static pool information for subsequent similar offerings, it was also invalid, the AWC explained.
The offering materials for three subprime RMBS, with combined values of nearly $1 billion, referred investors to the Reg AB website that provided inaccurate data, the AWC said.
Because of these snowballing errors, potential investors may have improperly evaluated the fair market value of the securities, the yields on the certificates, anticipated holding periods and potential performance, the AWC said.
Citigroup Global also ran afoul of Sec. 17(a)(3) of the Securities Act, SEC Rules 17a-3(a)(8) and 17a-4 , FINRA Rule 4220 and NASD Rule 3110 by failing to keep proper records relating to margin debits and credits on customer accounts, the AWC said.
By failing to keep proper records, Citigroup Global could not show that it had not used stale information to set prices as it sold its securities, the AWC said.
Moreover, when a number of customers questioned the accuracy of margin calls based on the firm’s pricing of a mortgage-backed security, the firm simply re-priced the security to reduce or eliminate the margin call, and then failed to keep a record of the original margin call, the AWC said.
In addition, Citigroup Global failed to keep documentation that showed supervisors had approved the re-pricing of the mortgage-backed security, and was unable to show that the revised prices had been uniformly applied or fell within the firm’s standard guidance for re-pricing, the AWC said.
Past Disciplinary Actions Against Citigroup Global
In July 2009, Citigroup Global consented to a fine of $600,000 for failing to reasonably supervise its New York Equity Desk concerning swaps. FINRA found that the firm failed to establish procedures to detect and prevent improper trades, to properly monitor trading activities and to ensure compliance with reporting requirements, the AWC said.
In March 2009, the firm consented to a $2 million fine. FINRA found that the firm’s inadequate supervision over seven years led to violations of rules pertaining to reporting and orders. In addition, a system failure caused the firm to improperly publish non-bona fide quotations and transactions on a trading day.
For a complete history of disciplinary actions against Citigroup Global, as well as customer disputes, see FINRA public disclosure records.
Guiliano Law Group
If you have been the victim of securities fraud you should consult with an attorney. The practice of Nicholas J. Guiliano, Esq., and The Guiliano Law Group, P.C., is limited to the representation of investors in claims for fraud in connection with the sale of securities, the sale or recommendation of excessively risky or unsuitable securities, breach of fiduciary duty, and the failure to supervise. We accept representation on a contingent fee basis, meaning there is no cost unless we make a recovery for you, and there is never any charge for a consultation or an evaluation of your claim. For more information contact us at (877) SEC-ATTY.