Wells Fargo to Settle $62.5M Lawsuit - Analyst Blog

Wells Fargo & Company WFC is set to end a class action lawsuit filed in 2010 by paying $62.5 million, according to a Reuters report. It was alleged that the company misguided investors by promoting a risky securities lending program as secure.

The class action lawsuit, headed by the City of Farmington Hills Employees Retirement System, on behalf of around 100 institutional investors asked the U.S. District Judge Donovan Frank in St. Paul, Minnesota to give preliminary approval to the deal in order to settle the case. Notably, Wells Fargo has not accepted the allegations.

The Background

Generally, under the securities lending program, investors lend their stock or other investments to banks or brokerage firms in exchange of collateral in the form of the cash, government securities or letter of credit. These financial institutions invest such securities in short-term investments on behalf of the investors. Traditionally, the securities lending program has been observed as a low risk investment and hence many institutional investors including pension funds, public funds and entities and insurance companies have involved in the program.  
 
The class action lawsuit alleges that Wells Fargo not only marketed risky securities lending scheme as secure but violated fiduciary duty and was engaged in fraudulent activities in connection to its securities lending program.

As part of the agreement under the securities lending program, Wells Fargo loaned investors' securities to third party borrowers in exchange of cash collateral, which the company further invested at its own discretion. Precisely, in exchange for fee, the company should have protected clients' securities. The company assured investors that it will put cash collateral in safe and liquid investments, which they referred as ‘short-term money market instruments'.

However, the plaintiffs claimed that the company invested a significant part of the collateral in illiquid or highly risky securities including structured investment vehicles, asset backed securities and mortgage backed securities. Gradually, the value of such securities plummeted and investors consequently incurred losses.

Bottom Line

Wells Fargo's several other lawsuits relating to the securities lending program are yet to be resolved. However, we remain optimistic about the company's efforts to address such legacy issues. Recently, it came into light that the company will end a legal battle it has been engaged in since 2011 for a settlement of around a minimum of $67 million in connection with the ‘robo-signing' fiasco.

Banking giants like Wells Fargo, JPMorgan Chase & Co. JPM, Citigroup Inc. C and Bank of America Corporation BAC have been burdened with numerous litigations since the financial crisis. However, we believe the gradual revival of the economy and stricter regulations will reduce the litigation overhang and bring stability in the financial service industry. This will, in turn, protect investors' interest.

Wells Fargo currently carries a Zacks Rank #3 (Hold).
 

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