The 6th U.S. Circuit Court of Appeals has found that the Ohio Public Employees Retirement System (OPERS) has alleged sufficient facts to support a plausible claim that the Federal Home Loan Mortgage Corporation’s (Freddie Mac’s) misleading subprime mortgage practices caused a substantial loss to the pension fund.
The appellate court reversed a district court’s ruling dismissing the suit because OPERS had not proven loss causation. “At the dismissal stage, it is sufficient that OPERS’s allegations be plausible—no final determination of amount of loss or its cause is required,” the appellate court wrote in its opinion.
In addition, the 6th Circuit said it has acknowledged in an unpublished decision that loss causation can be shown through a corrective disclosure. Under the corrective disclosure theory, a plaintiff alleges “cause-in-fact on the ground that the market reacted negatively to a corrective disclosure of fraud.” The appellate court noted that when considering Freddie Mac’s motion to dismiss, the district court rejected OPERS’s materialization of the risk argument, stating that it was a “theory not adopted by the Sixth Circuit or persuasive to the Court.”
However, the 6th Circuit said its prior decisions, both controlling and unpublished, recognize the viability of alternative theories of loss causation.
In its original lawsuit, OPERS claimed that Freddie Mac executives fraudulently denied having a significant amount of subprime-related holdings even though they actually had “substantial involvement in the subprime industry.” The suit alleged that $150 billion of Freddie Mac’s mortgage portfolio was riskier than investors were previously told. As a result, Freddie Mac incurred a record $2 billion loss, revelations of which caused a 29% drop in the organization’s stock price. The market capitalization loss to shareholders totaled $6.6 billion.
OPERS claimed a combination of permissive purchasing strategies, relaxation of underwriting standards and deficient evaluation and fraud detection software hastened the deterioration of its single-family portfolio.The 6th Circuit’s opinion in the case is here.