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Morgan Stanley Pinnacle Notes Lawsuit to Move Forward

A federal judge has decided that Morgan Stanley must face the music and defend itself in a lawsuit brought by 18 Singapore investors over failed structured products. Among the allegations, investors accuse Morgan Stanley of committing fraud in 2006 and 2007 when it sold them nearly $155 million of Pinnacle Notes structured products. The notes, which were linked to synthetic collateralized debt obligations (CDOs), lost almost 100% of their value amid the financial crisis.

Morgan Stanley tried to get the lawsuit dismissed, but District Judge Leonard Sand rejected its request.

“Defendants point to generalized warnings cautioning investors not to rely solely on the offering materials,” Judge Sand stated in this ruling. “But even a sophisticated investor armed with a bevy of accountants, financial advisors and lawyers could not have known that Morgan Stanley would select inherently risky underlying assets and short them.”

As reported Nov. 4 by Reuters, the October 2010 lawsuit is seeking class-action status. It is one of several lawsuits accusing banks of misleading investors into buying supposedly safe securities backed by risky debt, even as other investors or the banks themselves were actually shorting them.

In the Morgan Stanley case – Dandong et al. vs. Pinnacle Performance Ltd et al., U.S. District Court, Southern District of New York, No. 10-08086 – plaintiffs allege that the bank represented the Pinnacle Notes as “conservative” and that they would keep their principal safe.

Instead, Morgan Stanley allegedly invested their money into synthetic CDOs that were tied to risky companies. In addition, investors say they were kept in the dark to the fact that Morgan Stanley acted as a counterparty in the CDO deal whereby it collected one dollar for every dollar investors lost.

“Morgan Stanley designed the synthetic CDOs to fail,” the complaint said. “It placed itself on the side guaranteed to win (the “short” side) and placed plaintiffs and the class on the side guaranteed to lose (the “long” side).”

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