Changing Winds: The First Department Jurisprudence On Securities Fraud

By the Honorable James Catterson and Brian J. Isaac, Esq.

When Eugene O'Neill wrote in A Moon For The Misbegotten that, "there is no present or future, only the past, happening over and over again, now," he surely never contemplated practicing law before New York's Appellate Divisions. The famous futurist, Alvin Toffler, also no New York lawyer, would have been stymied by the Appellate Divisions had he reviewed a series of recent First Department decisions involving fraud in residential mortgage-backed securities transactions. Toffler wrote in Future Shock:

Rational behavior ... depends upon a ceaseless flow of data from the environment. It depends upon the power of the individual to predict, with at least a fair success, the outcome of his own actions. To do this, he must be able to predict how the environment will respond to his acts. Sanity, itself, thus hinges on man's ability to predict his immediate, personal future on the basis of information fed him by the environment.

The following cases demonstrate that, in the absence of en banc review, predicting the "immediate, personal future," is a task not for the faint of heart when the stakes in the litigation are very high. It is not necessary to analyze the complex legal and factual scenarios that the cases present in order to take a few snapshots of the changing decisional landscape. Rather, the cautious appellate practitioner should find that a carefully constructed and easily understandable narrative may ultimately be the single most important factor in complex commercial cases dealing with securities.

All of the following cases involve litigation over fraud claims in the institutional sale of residential mortgage-backed securities (RMBS). All of the cases were commenced in the Commercial Division of New York County Supreme Court, after the financial crisis of 2007, where investors lost billions as the assets were rendered worthless. Since Wall Street is in New York County, which in turn is under the jurisdiction of the First Department, it is only to be expected that that appellate court would see a vast swath of securities cases.

In HSH Nordbank AG v. UBS AG, 95 A.D.3d 185 (1st Dept. 2012) (Friedman, J.),1 the First Department was confronted with fraud claims premised on the rating guides for the securities utilized by defendant UBS. Plaintiff claimed that the rating guides were not reliable, that UBS knew that the guides were not reliable, and that it engaged in "ratings arbitrage" to defraud plaintiff as to the value of the securities. The Court, in an opinion authored by Justice David Friedman, dismissed the claims on the ground that plaintiff, a sophisticated investor, having disclaimed reliance on any representations by defendant, was barred from making any claim for fraud.

Later, in ACA Fin. Guar. Corp. v. Goldman, Sachs & Co., 106...