Tuesday, August 7, 2012

J P Morgan-Make Whole Payment-Redemption of Its 2035 Trust Preferred/Those Who Wish To Defend Wells Fargo In Connection with GJN Need to Specifically Address the Facts

This is my second post for the day. 

I will publish comments to my posts that are respectful and germane. I have to approve a comment before it is published simply to avoid spam.

I have published two comments from individuals who wish to blame the GJN owners for what transpired, and who may or may not be affiliated with Wells Fargo or own WFC stock (Comment section: GJN-Wells Fargo-New York Times)

Those individuals would certainly give WFC a pass, claiming that the prospectus was clear and obvious on the risks, which I find to be preposterous and disproven by clear and convincing evidence of actual trading activity. Everyone is entitled to their own opinion. I would appreciate anyone wishing to leave a comment, however, to state whether there is any affiliation with WFC, including stock ownership.

While it is easy to have 20/20 hindsight on the GJN situation in light of what has happened, it was apparent from GJN's trading action after JPM announced the TP redemption on 6/11/12 that the purchasers of this security did not have a clue about what Wells Fargo was about to do to them.

That trading activity includes the following items:

A.  The GJN price spiked 13% in price on June 12, 2012, the day after JPM's announcement on heavy volume for this security to close at $24.4. I noted that action at the end of my June 13th post but did not have an explanation for it.  (if anyone could present me with data on trades between 6/11/12-7/12/12, I would appreciate it. That information is no longer available at YF. Norris had access to it and anyone with a Bloomberg terminal can probably retrieve it)

B. Thereafter, it is my understanding that the security traded near its $25 par value until it was delisted on July 13, 2012, indicating that purchasers believed that the owners of GJN would soon receive the $25 par value.

C. As noted by Floyd Norris, there was a decrease in short selling for this security, indicating that short sellers were unaware of an opportunity. It also proves that the sellers between 6/11 and 7/12 were not selling due to an appreciation of the risk. A Wells Fargo Security Goes Wrong for Investors - NYTimes.com I am the one who contacted Norris. 

Anyone who wants to defend Wells Fargo needs to specifically address the following point:

1. Does the trading action in GJN from the time of J P Morgan's redemption notice on June 11, 2012 until July 12, 2012, when the trading was suspended, prove by the preponderance of the evidence that any warning contained in the prospectus was materially deficient in conveying the risks to investors? 

Why was the warning so deficient?

Other factual issues include the following: (1) Did WFC know of the specific risk that ultimately caused the damage to the GJN owners, particularly in the context of its hedges (2) if so,  why did WFC fail to provide specific examples of the risk in the context of those hedges; (3) was WFC trying to earn a risk free return with its hedges on the $27.7 million in  JPM Trust Preferred securities that it had sold to the trust, while placing the entire risk of loss on the moms and pops in the event something went awry in pursuit of its anticipate risk free profit?; (4) was any payment for a hedge resolution paid to a related entity (unlikely, but a real stink bomb if they did); (5) did WFC attempt to secure quotes for the value of its swap agreement (if so, who provided them, GJN Prospectus at page S-24), and (6) did WFC compute its own "damages" after failing to achieve the required number of dealer quotes.  WFC is not saying specifically how it generated that $12+ million number. These kind of questions are really answerable only after discovery.

(see also introduction section in subsequent post from 8/8/12: Closed End Portfolio as of 8/7/12/Romney's Tax Plan/ARCC/Bought 50 YMLP at $19.05-Regular IRA)

It is also important to keep in mind who created the trust that owned the JPM TP's; who sold those TPs to the Trust; who sold the TCs to the moms and pops at $25 per certificate in order to fund that purchase by the Trust; who took almost $11 per certificate of the proceeds paid by JPM into the Trust; and who set up the circumstances that allegedly caused it to lose money on the hedges. For all of the above, the name is WFC/Wachovia.  

Was WFC after a risk free return of around .7% on $27.7 million, intending from the start to stick it to  the Moms and Pops if WFC's hedges went awry? (see snapshot of OG's email making an analytical guess on what WFC may have been trying to do: Stocks, Bonds & Politics)

Another issue in need of research is whether WFC, as the trust creator, owed any fiduciary duties to the beneficiaries of the trust under all of the circumstances? If so, would that duty create an even higher disclosure obligation than that required by the 1933 Securities Act. Think about it for awhile. What would be the disclosure requirements for a fiduciary before it could take the beneficiaries money?

I have no financial interest whatsoever in this matter, directly or indirectly. I did not own GJN at the time of its redemption, having sold a small 150 share position back in April 2012 as noted in this blog.  I am not going to represent anyone in potential lawsuits. I have no short positions in any security. I am just calling the balls and strikes on this one.

However, while I have no financial interest in this matter, I am certainly not going to be an apologist for the Masters of Disaster who have caused enormous damage to investors.  Needless to say, as a daily consumer of financial news for decades, I have seen enough crap from Wall Street types that I am not going to cut them any slack.

I have mentioned a potential claim against JPM for failing to include a make whole payment in the redemption proceeds. 

JPM had nothing to do with the GJN trust or what WFC did to the GJN owners. 

The issue for JPM is almost entirely a legal issue that can probably be decided by a court as a matter of law based on briefs by both sides.

Legal Question: Did JPM have to wait for a proposed rulemaking by the Federal Reserve before making a reasonable determination that it would no longer be allowed to include its trust preferred securities as TIER 1 equity capital. Or, as a matter of law, could that be reasonably determined within the meaning of the prospectus on the date Dodd-Frank become law, with any implementation by the Fed being merely perfunctory on this specific issue?  If the answer to last question is yes, then the ninety day window for redeeming the 2035 TP without a make whole payment started on July 21, 2010. GJN-JPM-Make Whole Payment Who knows for sure what a court will decide once the issue is briefed. This kind of issue appears to be a low cost/high potential reward claim. It will require someone to do a lot of research. I am not a cracking a book on it and I am not making any prediction on the outcome. I just see a vulnerability in need of further legal analysis.  

It is my understanding that the banks are claiming a proposed rule by the Federal Reserve, issued in mid-June, is the trigger event. Item # 1 When Does a Capital Treatment Event Occur?

Insert Added 8/9  From Pending Post for 8/10: 

Notwithstanding what apologists say about JPM's obligation to make a make whole payment, the trigger for the Capital Treatment exception is whether JPM can make a reasonable determination based on any law, regulation, etc. Some will never accept that point. And, it is important to remember the general rules of contract construction about construing ambiguities against the drafter which was JPM. Lastly, a court may also consider that the interpretation placed by JPM and its supporters would cause damage to the bond owners. Therefore, it would be strictly construed as an exception for that reason and also because a liberal interpretation would cause unnecessary disruption in market pricing over an extended period, as JPM says that this proposed regulation or that proposed regulation starts the 90 days running again, when everything that needed to be known to make that reasonable determination of a Capital Treatment Event was known in July 2010. That 90 day period has run its course.

Nothing has changed since July 2010. It was known then, as now, that JPM would have to phase out the use of trust preferred securities as TIER 1 equity capital.

Bond pricing can key off the "make whole" provision, provided the issuer does not create continuous ambiguity about its applicability. Certainty about the applicability of the make whole provision is crucial to the proper functioning of the market.

JPM's argument is obvious on this issue. Their argument would key of any regulation, law, etc, that discusses this topic, over and over again, even though the reasonable determination is the same as it was  back in July 2010.

The legal issue is not whether someone who had no clue about the meaning of a "make whole" provision twenty four hours ago agrees with the foregoing. It is not even relevant that no one can predict the outcome of a legal contest on such an argument with any certainty, one way or the other. Trial lawyers know about uncertainty. Both sides have arguments. Instead, the issue is whether the plaitiffs' argument has sufficient merit that it would be worthwhile to make JPM justify its actions in a court of law. Let the court decide rather than JPM making a unilateral self-interested decision invoking limited and time sensitive exception to the general rule requiring make whole payments for optional redemptions when that amount exceeds the principal amount of the bond.

If the owners of the $500M in the 2035 JPM TPs win this issue, most likely decided in a summary judgment, the reward for the costs would be gigantic, and the GJN owners could also be made whole. Basic risk/reward analysis, a common tool used by trial attorneys and investors, tells me that this one is a go, and it needs to start now.

I do not have the software necessary to calculate the make whole payment on $500 million of a 5.85% bond maturing on 8/1/2035. This is a standard calculation and would represent the principal amount and all interest payments from July 2012 to August 2035 discounted to present value using the applicable Treasury Rate, which would be abnormally low now. I would make a wild guess that the sum may be $75 to $100 million on top of what JPM paid in July 2012.

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