Bond insurer sues credit rating agencies

The city of Los Angeles sued more than 30 municipal bond insurers and Wall Street investment banks, accusing them of fraud and antitrust that it said cost taxpayers millions of dollars.

The city, which like other cities, U.S. states and agencies issues municipal bonds to fund various public projects, filed suit against the insurers and the investment banks in two separate complaints in Los Angeles Superior Court related to the city's purchase of bond insurance and the investment of the city's bond proceeds.

The city attorney's office detailed the complaints in a statement released on Wednesday.

In the complaint against bond insurers, including Ambac Financial, MBIA Inc.'s MBIA Insurance Corp. and Financial Guaranty Investment Co. the city claims it was forced to purchase insurance from a triple-A-rated guarantor in order to benefit from that top rating.

Los Angeles has an "Aa2" general obligation rating with Moody's Investors Service and "AA" rating with Fitch Ratings. Typically, top-rated bond insurance will result in lower borrowing costs.

But most bond insurers lost their "AAA" ratings as a result of exposure to risky subprime mortgage-related securities, leaving Los Angeles and other cities facing higher insurance premiums, interest rates and refinancing costs, the city said.

City attorney Rocky Delgadillo blamed the situation on a "dual credit rating scheme" maintained by bond insurers to take advantage of taxpayers by compelling cities to purchase unnecessary bond insurance.

"Bond insurers' cynical use of this discriminatory credit rating system and inexcusable failure to disclose their high-risk investments in the subprime market also violates California's antitrust laws and common laws," Mr. Delgadillo said in a statement.

As bond insurer ratings were downgraded, causing havoc particularly in the auction-rate securities market earlier this year, some government officials, including California Treasurer Bill Lockyer, called on rating agencies to start rating municipal debt with the same scale used for corporate bonds. Such a move would likely result in mass upgrades for municipal debt because of their small default risk.

A spokesman for MBIA was not immediately available to comment. An Ambac spokeswoman said the company does not comment on pending litigation, and a FGIC spokesman declined to comment.

In the lawsuit filed against Wall Street banks and others involved in investment of the city's bond proceeds, the city accused the firms of colluding to rig the bidding process that was supposed to result in the most competitive rates for the investments, which included guaranteed investment contracts and swaps.

Mr. Delgadillo said that as a result, Los Angeles did not obtain competitive rates, losing tens of millions of dollars it should have earned.

A group of states, cities and other municipal issuers had sued a slew of investment banks in March, alleging a conspiracy of price-fixing and bid-rigging. Oakland, Calif. filed its own lawsuit in April. The action followed a probe by the U.S. Justice Department's Antitrust Division, the Internal Revenue Service and the Securities and Exchange Commission that initially focused on GICs for municipal bonds.

Some financial institutions named in the complaints are listed below:

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