"Whenever you see 'consumer relief,' it is usually investor money," says Vincent Fiorillo, global sales manager at DoubleLine Capital LP in Los Angeles.
"Whenever you see 'consumer relief,' it is usually investor money," says Vincent Fiorillo, global sales manager at DoubleLine Capital LP in Los Angeles.

Citigroup and its shareholders may feel a multibillion-dollar government settlement has put the bank's bubble-era mortgage securities concerns behind it, but private investors' discontent with such deals is only growing.

These bondholders have been dissatisfied with most government settlements, ostensibly negotiated to resolve sellers' misrepresentations of loans in securities they bought, because the consumer relief portion may go against investors' interests — or at least may not help them directly. To boot, private investors are usually not consulted up front in negotiating the terms.

Consumer relief has mainly come in the form of loan modifications. These lower the borrower's monthly payment, to make the loans more affordable — and can reduce the cash flow coming to investors from their securities.

That by itself isn't necessarily a problem, private investors say. Mods often are preferable to a more costly foreclosure if the loans are distressed, and banks are supposed to be offering them anyway if that is the case. But it galls these bondholders that most of the consumer relief the banks are supposedly providing in the form of modifications may really come from investors.

"Whenever you see 'consumer relief,' it is usually investor money," says Vincent Fiorillo, global sales manager at DoubleLine Capital LP in Los Angeles. His firm is a member of the Association of Mortgage Investors, a group that represents institutional buyers and investment professionals with interests in mortgage securities. Fiorillo is the president of the association's board.

Private investors are ultimately consumers, Fiorillo says. Problematic mortgage-related securities ended up in many retail investment vehicles like 401Ks and mutual funds. But although investors and borrowers have common cause, in that both have been hurt by loans loosely underwritten during the housing boom, their interests have been divided in settlements.

"If Citibank wants to settle with the Justice Department and [Attorney General] Eric Holder, that's fine. Just please don't settle with investors' money. Because that's whose money it is," Fiorillo says. "It's not Citibank's money. I've said it 100 times and I will continue to say it. I am now leading a louder and louder chorus with people who have had enough of this."

In the deal announced Tuesday, Citi agreed to pay a total of $7 billion — including $2.5 billion in "consumer relief"— to settle Justice Department complaints that it had misrepresented the risk in mortgage-backed securities and collateralized debt obligations it sold to investors prior to 2009. As part of the settlement, Citigroup acknowledged it made serious misrepresentations to the public — including the investing public — about the mortgage loans it securitized.

About $500 million of the funds outside of the consumer relief portion of the settlement are allocated by government entities to public investors such as state pension funds, but not private ones. The consumer relief includes a minimum of $820 million in modifications and a $299 million in refinancing. It also includes smaller or unspecified amounts of low-to moderate-income lending, community reinvestment and stabilization aid and affordable rental housing. If Citi does not provide enough of these services to earn $2.5 billion by the end of 2018, it must pay liquidated damages in the amount of the shortfall to NeighborWorks America, an affordable housing nonprofit.

A Citi spokesman declined to comment beyond a public statement it released about the settlement's terms, but noted that that report did show that the consumer relief portion came in other forms besides modification.

Lenders have to get investors' permission to implement mods, according to an email from a Justice Department spokeswoman sent in response to questions from this publication. The Citi settlement gives the company the option of paying incentives to investors to get their blessing. Consumer relief extends not only potentially to 45 securitized deals at issue in the settlement but any loans owned or serviced by Citi. These loans are not necessarily distressed.

"To the extent that investors were concerned that modifications would harm them, this settlement — just as the [JPMorgan Chase] settlement — made clear that modifications and other actions required the consent of investors," according to the Justice Department email. In November, JPMorgan settled for $13 billion, $7 billion of which went to government entities — including allocations to public investors such as state pension funds, and $2.5 billion of which was consumer relief.

Bank of America is said to be negotiating a settlement of mortgage-related securities complaint in which the Justice Department has asked for as much as $17 billion.

While the mortgage-related securities market is now dominated by the government, former big private-label sellers like Citi and JPMorgan that have been involved in large settlements still play a significant role in the market as underwriters. JPMorgan was the largest bookrunner, or main underwriter, of mortgage-backed securities in the second quarter by proceeds, and Citi was the sixth largest, according to Thomson Reuters.

When asked if there is a reason investors can't be involved in settlement negotiations, the Justice Department spokeswoman said, "Investors have the private right of action and can use the court system to bring private suits to vindicate those interests. The settlement negotiations in this case involved government parties who had cases or investigations to settle."

Investors generally have been challenged in efforts to get much relief through the courts because juries can have difficulty understanding the complexities of securities cases, says Mark Adelson, a veteran bond market executive and researcher known for his early warnings about MBS and CDO risks before the downturn.

"I think it's difficult to win a jury trial when the facts that you have to deal with are very, very complicated," says Adelson, who is now chief strategy officer at BondFactor, a company created to help improve insurance claim payment certainty in the municipal market.

Both private and public securities cases often are settled out of court, and the private settlements tend to be much smaller.

Huge public settlements may help public and private investors alike in that they serve as a deterrent to future, similar securities abuses on the part of sellers. But they have done little to encourage the full return of investor confidence in the market for private-label mortgage-related securities, which tanked in 2008 and 2009. New issuance in this market remains historically meager and is backed only by high credit quality loans.

"The trust was lost back in '08-'09," says Anthony Sabino, an attorney and professor at St. John's University's Peter J. Tobin College of Business. "I don't think it has come back to any appreciable measure, and I think it's going to be a long time coming back because people were burned and not just singed."

Based on his experience with securities concerns in other parts of the market, Sabino says, it could be another five years before that confidence returns.

The public in general also remains somewhat dissatisfied with settlements, notes Sabino.

Consumer advocates would like to see more criminal prosecutions and actions that target high-level executives rather than companies, he says. The settlement does not absolve Citigroup or its employees from facing any possible criminal charges, but there is a perception it makes the bank less likely to be a target for such actions.

Any securities sellers or individuals facing unresolved allegations that they misrepresented the quality of mortgage-related bonds are under increased pressure to settle sooner rather than later because consumers and investors still want retribution, Sabino says.

"This is going to give them tremendous impetus to get this done because they don't want to be the last settled," he says. "If everybody else has settled, they're standing around and that just invokes the ire of the public."

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