Securities Fraud: MBIA Gambled... and You Lost

New York, NYThe trouble with tottering giants is that they can take down a lot of smaller people with them if they fall. That's the trouble with the tottering bond insurer MBIA as it struggles to stay afloat after a plethora of risky investments have undermined its stability. Those investments, and MBIA's less than forthright communications about them, are also fueling a growing number of class action suits charging securities and stock fraud.

MBIA once called itself the Municipal Bond Insurance Association, and that was what they did. The company held a rare Triple-A rating from Standard & Poor's, right up there with the US Treasury. Their business consisted of insuring municipal bonds against default, essentially bringing their clients under a Triple-A umbrella that guaranteed their purchasers would not be left high and dry if the bond issuers defaulted.

This was a fairly low-risk business, since municipal bonds rarely went into default, and it meant that MBIA could insure a huge amount of investments—upwards of a trillion dollars (!) at its peak. This was all based on the inherently low risk of municipal bonds, of course; MBIA never had a trillion dollars in the bank to cover all its exposure. They sold stock in the company to investors, who were glad to have it; they also granted their employees company stock through a 401 (k) plan.

They also changed their name to just plain MBIA and started playing around in other areas besides the safe but unexciting municipals. And one of those playgrounds was the exotic—and risky—world of collateralized debt obligations (CDOs).

CDOs are rather complex, but basically the assets and the borrowers underpinning the bonds that are based on them can be fishy. Many, many CDO bonds were based on big bundles of subprime mortgages. Subprime mortgages were the basis of the big housing bubble of the past decade, and as we've seen, in the past that bubble has burst.

With the inevitable bursting of the housing bubble, a lot of MBIA's so-called CDO "assets" began to go into default. MBIA's stock plunged. And when the stock plunged, it took down MBIA's shareholders and employees with it.

MBIA apparently never got around to telling its shareholders just how heavily it had insured high-risk CDO-based bonds. Recently filed class-action suits charge that MBIA engaged in securities fraud by issuing false and misleading press releases, financial statements, SEC filings, and statements made during investor conference calls. MBIA employees have filed separate suits under ERISA charging that MBIA failed to exercise its fiduciary duty to protect their retirement investments.

If this sounds vaguely familiar, think Enron on steroids. MBIA gambled with the well-being and security of its shareholders and employees, and when MBIA lost, they lost the most.