Wells Fargo’s RMBS Clean Up Call Holdbacks: Villainous or Valorous?

Plato’s Republic famously discusses the problem of agency – what happens to good government when virtuous aristocrats lose their virtue? Who guards the guardians? The question is posed to us again 2,500 years later by the aristocracy of trustees.

At least this is one potential question posed to investors in the latest action by Wells Fargo. Asset Backed Alert details how Wells is using entrusted investor money to defend itself from the very investors it should defend; it has held back $94 million, apparently for its own benefit, that would otherwise be available for distribution. Trustees have discretion to reserve trust funds for legal expenses. It’s just that nobody expected they would be using those reserves to defend themselves against the trust!

For many investors, this amounts to Wells saying: Ok fine – sue me, sue yourself. Were this maneuver to be successful, there would never be recourse against bad behavior by trustees. Even as a purported negotiating position, it adds tremendous pressure on investors to settle. But one wonders if trustees are undermining their entire business model.

On the other hand, there is another camp of investors who believe that the lawsuits themselves are frivolous, that the trustees did not engage in particularly bad behavior, and that their business model (specifically the low fees that investors insist upon) demands they be able to protect themselves from all lawsuits, foreign and domestic, so to speak.

Perhaps the broader lesson is that every actor ultimately guards in its own interest, and there are inherent limits to agency/principal relationships.

At DealVector we help investors (and all other market participants) help themselves. Locating and communicating with similarly situated co-travelers is a necessary first step to asserting any rights that exist on paper. But the existing system makes it difficult to exercise self-help, since the trustees themselves are in the middle of any communications among investors who might want to find each other to discuss suing the trustee, or reach voting thresholds. Good luck with that.

What the Wells action shows is that an open, decentralized network that cannot be bottle-necked by potentially conflicted gatekeepers is necessary from a public policy standpoint. Human nature dictates that market players will operate in their own best interests, and that different players’ interests will at times conflict. Common sense dictates that the markets will function best if all players are confident they have the ability to fight for their rights on a level playing field. Recent history has proven the value of online, all-to-all communication networks in achieving this. As PLS RMBS struggles to come back, issues like this make putting in place an effective communication network all the more relevant.

What are your thoughts? Here is a link to a list of the 20 trusts affected, plus the dialogue among members affected. (As always, your identity is protected on DealVector). Click to see the trusts and join the discussion.