Opportunities

Finding a Niche in the Mortgage Mess

Posted on Wednesday, November 17, 2010


In the spring of 2007, as the financial markets roared, David J. Grais, a journeyman New York trial lawyer, was searching for new cases to bring.
“I wanted to find something very complex that could face big losses,” said Mr. Grais, who had just left a large corporate law firm to hang out his own shingle.
He sought advice from an old friend, James Grant, editor of Grant’s Interest Rate Observer and a well-known market bear. Over lunch at the Core Club, a private salon on East 55th Street, Mr. Grant suggested that he explore collateralized debt obligations.
More than three years and billions of dollars in investor losses later, Mr. Grais is among a handful of lawyers at the center of the latest chapter of the mortgage mess. Mr. Grais was back at the Core Club last month, this time behind a lectern, trying to persuade about 100 investors in depressed mortgage-backed securities to fight the banks that issued them.
His pitch to these potential clients, a group that included large hedge funds like Paulson & Company and Och-Ziff Capital Management: because the banks misrepresented the characteristics of the mortgages, they could force the banks to repurchase those securities at 100 cents on the dollar.
Estimates of the banks’ potential exposure to such “put-back” requests vary widely, but it could total $43 billion to $90 billion.
The likelihood of success in these cases is far from certain. A number of procedural hurdles make it difficult to bring actions against the banks. For example, investors must accumulate 25 percent or more of the voting rights of any one pool of mortgages to bring a case. Investors also have only six years from when the mortgage securities were issued to make such claims. Because many of these mortgage pools were packaged and sold beginning in 2005, time is running out.
In addition, “many investors also have a morbid fear of being adverse to the banks,” Mr. Grais said.
Regardless of the outcome of these put-back claims, Mr. Grais has become a bête noire of the banks. His firm, Grais & Ellsworth, is part of a small group of litigation boutiques that are free of conflicts and can sue the large financial institutions.
Kathy D. Patrick, a Houston trial lawyer with Gibbs & Bruns, is representing investors including the money manager Pimco in pressing Bank of America to buy back part of $47 billion worth of mortgages because of misrepresentations. Bank of America has called the claims “utterly baseless.”
Executives at JPMorgan Chase and Bank of America, two of the banks with potentially the largest exposures, have also said that they have adequate reserves to protect against losses.
Mr. Grais has already filed three separate lawsuits against securities dealers including Bank of America and Deutsche Bank on behalf of the Federal Home Loan Bank of Seattle, the Federal Home Loan Bank of San Francisco and Charles Schwab. In aggregate, these investors are seeking to rescind their purchases of $24 billion of residential mortgage-backed securities because of improper disclosures.
Representatives for the banks, which are contesting the lawsuits, declined to comment.
Mr. Grais’s clients have bought data on 750,000 loans from CoreLogic, an analytics company, which shows that the disclosures were inaccurate in almost half the loans, he says. For instance, banks may have represented that a large number of mortgages were for primary residences when they were actually for second homes or investment properties. In other cases, banks did not disclose that certain homes had second mortgages.
His venture into mortgage-securities litigation began in 2007. He and a partner had just left Dewey Ballantine, a large New York firm with hundreds of lawyers, to start Grais & Ellsworth, now a 17-person shop. His previous specialty, reinsurance litigation, had slowed as environmental and asbestos claims had waned, and he set about looking for new business, leading to his lunch with Mr. Grant.
Mr. Grais then embarked on a yearlong crash course in mortgage-backed securities, perusing books on structured finance by Frank J. Fabozzi, a leading scholar in the field, and receiving lengthy tutorials from Mark Adelson, now the chief credit officer at Standard & Poor’s.
“Learning securitization is like learning the workings of a Swiss watch,” Mr. Grais, a graduate of Yale Law School, said. “It takes a long time to understand how all those gears fit together, but once you understand it it’s a fascinating mechanism.”
Mr. Grais, 58, who grew up in Los Gatos, Calif., has always been bookish. At Princeton University, he starred on the debate team with Samuel A. Alito Jr., now a Supreme Court justice. They were roommates for two years and remain good friends.
“He was always a cerebral guy and very independent-minded,” Justice Alito said in an interview by phone. “Neither he nor I was the stereotypical 1960s college student.”
Justice Alito recalled that at one point, Mr. Grais became fixated on “Leviathan” by Thomas Hobbes, and developed an elaborate note-card system that cross-referenced various passages from the book.
While his college roommate has perhaps reached loftier legal heights, Mr. Grais says he realizes that after three decades as a litigator, bouncing from firm to firm and subject area to subject area, he is having a moment.
“On the train a couple of weeks ago I ran into a neighbor who represents Deutsche Bank and he said, ‘You realize that with these mortgage cases you’re going after the entire Western world?’?” Mr. Grais said. “I told him, that’s the plan.”

By PETER LATTMAN
Chester Higgins Jr./The New York Times


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