In what comes as a relief to UBS (NYSE:UBS), the U.S. Appeals Court in Philadelphia dismissed a lawsuit filed against it by the Pension Trust Fund for Operating Engineers alleging that the largest Swiss bank mis-represented the quality of underlying mortgages in securities worth $2.5 billion.  The lawsuit concerned mortgage-backed securities sold by UBS to the pension fund in 2007, and was filed in February 2010. The appeals court quashed the lawsuit saying that the pension fund waited too long to sue the global financial giant.
While the dismissal is another step for UBS towards resolving legacy legal issues, it also marks an important event for global banking giants that face a series of mortgage-related lawsuits in the U.S. Over the 2010-2011 period. Institutional investors filed many similar lawsuits against banks in a bid to make good for losses they incurred from the mortgage-backed securities they bought in the run up to the economic downturn of 2008. The ruling in favor of UBS will help the banks seek the dismissal of all such lawsuits which were filed more as an afterthought for potential gains than as a legal recourse against wrongdoing. The banks most likely to benefit in this regard are Bank of America (NYSE:BAC) and JPMorgan (NYSE:JPM).
The Pension Trust Fund for Operating Engineers bought mortgage-backed securities worth $2.5 billion from UBS in 2007, at a time when demand for these securities was at its peak. The securities in question packaged mortgages which were originated by Countrywide and IndyMac (52% and 40% respectively) - both of whom were notorious for their huge sub-prime lending portfolio and consequently went belly up when the housing bubble burst.
The pension fund was among hundreds of sophisticated institutional investors who lost billions on their investments in similar securities. And over the years, this spurred a series of lawsuits against banks who securitized these mortgages without properly disclosing their quality to investors.
In this particular case, the appeals court found that the pension fund did not act for nearly two years after finding that a similar lawsuit had been filed against UBS in 2008, making it appear as though the decision to file the lawsuit was based more on the possibility of making some money in the wake of settlements by banks in similar lawsuits. The dismissal takes off the legal overhang stemming from the $2.5 billion in disputed mortgage-securities on UBS, which presented a downside to the bank’s value. The potential impact of a one-time settlement on UBS' share value can be understood by making changes to the chart below.
But the implications of the dismissal go beyond UBS to all other banks too, which saw similar lawsuits filed against them in the recent past, as they can expect quite a few of their pending lawsuits to be dismissed too.
Disclosure: No positions.