Documents from the Financial Crisis Inquiry Commission (FCIC) shed new light into the hedge fund Magnetar and its role in helping Wall Street create at least $40 billion worth of collateralized debt obligations and then betting against many of those same CDOs to fail.
Magnetar worked with most of Wall Street’s top banks in its deals – deals that ultimately produced millions of dollars worth of extremely toxic, high-risk investments. Among the banks that helped sell those toxic assets to investors: Merrill Lynch, Lehman Brothers, Citigroup, UBS and JPMorgan Chase.
A Jan. 27 story by ProPublica provides in-depth details on the latest findings from the FCIC’s investigation into Magnetar, which has consistently denied any involvement in selecting assets for the CDOs that it invested in and then often bet against.
The most recent report from the FCIC paints a different picture of truth, however. In its final report released on Jan. 27, the FCIC says Magnetar used a CDO called “Norma” to create a $600 million bet against mortgage-related securities. The CDO itself took the other side of the bet. As a result, investors in Norma ultimately lost hundreds of millions of dollars. And the investment bank that underwrote and marketed Norma to investors? Merrill Lynch.
In the FCIC report, Magnetar apparently made the selections without the knowledge of the CDO’s manager, NIR Capital Management. NIR was paid to manage the deal and was supposed to be independent of the investment bank and act in the interests of the CDO as a whole, according to ProPublica.
“When one Merrill employee learned that Magnetar had executed approximately $600 million in trades for Norma without NIR’s apparent involvement or knowledge, she e-mailed colleagues, ‘Dumb question. Is Magnetar allowed to trade for NIR?’”
The Merrill employee was one of the risk managers in charge of policing the firm’s CDO business.
“NIR abdicated its asset selection duties to Magnetar with Merrill’s knowledge,” the FCIC report states.
The e-mails regarding Magnetar’s asset selections for Norma came to light in a lawsuit between Netherlands-based Rabobank and Merrill Lynch. Once the e-mails and other documents were brought forth during discovery, Merrill Lynch settled the lawsuit for an undisclosed amount.
In the FCIC report, it was revealed that Magnetar received $4.5 million as part of the CDO’s “expenses.” Merrill Lynch, however, failed to disclose that fact to other investors, according to the FCIC. Magnetar’s own legal team explained the $4.5 million as “a rebate” on purchases made by the hedge fund.