FINRA-registered brokerage firm, Nomura Securities International, Inc., will pay over $25 million to settle the SEC’s allegations that its supervisory shortcomings permitted traders to defraud customers in transactions involving mortgage-backed securities. In two related enforcement actions, the SEC details how five former Nomura brokers allegedly made misrepresentations to customers while selling non-agency commercial real estate (CMBS) and residential mortgage-backed securities (RMBS) between 2010 and 2014. As part of the settlement, Nomura will pay $20.7 million to RMBS customers and $4.2 million to CMBS customers as reimbursement for profits obtained from the brokers’ misrepresentations along with a$1.5 million regulatory fine. Our investor fraud lawyers highlight this case as an example of the potential fraud that could occur in markets as opaque as that for mortgage-backed securities.
According to the SEC, Nomura traders allegedly mislead customers about the cost of the securities and the profit the firm would receive from transactions. Notably, the traders reportedly inflated the prices of securities by sometimes even doubling the actual cost. The SEC also alleges that the Nomura brokers would sometimes claim to still be in negotiations with a third party while already having the mortgage-backed securities in their possession. The traders were able to get away with their misrepresentations because the secondary trading market for mortgage-backed securities does not make trade prices public. Therefore, customers can only rely on the words of their financial professionals. The trust should have been safeguarded by proper oversight by the brokerage firm. However, Nomura’s alleged “weak” supervisory procedures enabled otherwise discernible and preventable fraud to go undetected.
Mortgage-backed securities are fixed-income investments collateralized by a pool of residential or commercial real estate loans. The creation process of these asset-backed securities entails banks selling mortgages to an entity that securitizes the pool for sale to investors. Entities that issue mortgage-backed securities could be a federal government agency, government-sponsored enterprise, or a securities firm. Investing in mortgage-backed securities entitles the investor to the interest payments and principal paid by the original burrower. Investors can expect a coupon rate, known as the yield, equivalent to the borrower’s payments to their mortgage. The amount of risk involved in mortgage-backed securities depends on the issuer. Mortgage-backed securities issued by the Government National Mortgage Association, a U.S government agency guarantee that investors receive timely payments. However, private institution-issued mortgage-backed securities do not have such protections.