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Some investors may be left out of auction rate settlement

Aug.18, 2008 in Market Outlook

Auction-rate settlements leave investors hanging

By Sam Mamudi, MarketWatch

Last Update: 8/18/2008 10:20:00 AM

NEW YORK (MarketWatch) — Despite the recent rash of auction-rate securities
settlements between regulators and the Wall Street banks, investors shouldn’t
hold their breath waiting to be cashed out.

For all the excitement of the past week, the narrow terms of the agreements mean
that only investors who bought directly from the banks can be sure they will be
bought out. That leaves a whole class of retail investors in danger of being left
behind — those who bought auction-rate securities from what are known as
discount brokerage firms.

The settlements entered into by banks including Citigroup Inc (C), Wachovia Corp.
(WB) and UBS AG (UBS) ensure that the banks will buy back from their retail
brokerage customers and not necessarily anyone else.

The deals so far announced total about $56 billion of the auction-rate securities
market — but there are $210 billion of such securities unredeemed, according to
research firm Restricted Stock Partners.

This means that if an investor bought auction-rate securities underwritten by UBS
from a broker at Oppenheimer & Co., they may not get their money back.

Oppenheimer has stated this explicitly to its clients. In a note sent on Aug. 14,
it said, “In almost all of the [announced settlements], institutional investors
and retail clients with significant holdings may have to wait significantly
longer for such repurchases, if at all.”

The company made no commitment to buy back the shares itself, instead offering
its investors loans if they choose to cash out. Officials at Oppenheimer did not
return calls.

Fidelity did not immediately return calls seeing information on the matter.

On Friday evening, Thomson Reuters reported that New York Attorney General Andrew
Cuomo was probing Charles Schwab (SCHW) and Fidelity over auction rate
securities.

So what will happen?

“Nobody knows,” said Barry Silbert, CEO of Restricted Stock Partners, the
secondary market maker for auction-rate securities. “It’s too early to tell,”
said Silbert, who added the terms of the settlements still haven’t been
finalized.

One state government official involved in the cases against the banks said that
one lifeline for discount brokerage customers may be for their brokerages to
approach banks as institutional investors and have the banks buy back their
securities in one block.

While this may work, it is far from a sure thing - Citi, Morgan Stanley (MS) and
J.P. Morgan Chase & Co. (JPM) have only committed to “best efforts” in buying
back from their institutional clients. And only two of the banks involved in
settlements have even committed to a deadline for buying back from institutions,
June 30, 2010 in the case of UBS and June 10, 2009 by Wachovia.

“There is a different timeframe for institutional relief,” conceded the state
official.

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