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Plumbers' Union Local No. 12 Pension Fund v. Swiss Reinsurance Co.

October 4, 2010

PLUMBERS' UNION LOCAL NO. 12 PENSION FUND, INDIVIDUALLY AND ON BEHALF OF ALL OTHERS SIMILARLY SITUATED, PLAINTIFF,
v.
SWISS REINSURANCE COMPANY, ET AL., DEFENDANTS.



The opinion of the court was delivered by: John G. Koeltl, District Judge

OPINION AND ORDER

This is a securities action brought on behalf of a proposed class of investors in Swiss Reinsurance Company ("Swiss Re") pursuant to section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act"), 15 U.S.C. § 78j(b), and Securities and Exchange Commission ("SEC") Rule 10b-5, 17 C.F.R. § 240.10b-5, promulgated thereunder. The lead plaintiff, Plumbers Union Local No. 12 Pension Fund ("Plumbers"), sues on behalf of a putative class of purchasers of Swiss Re's common shares between March 1, 2007 and November 19, 2007 (the "plaintiffs"). The plaintiffs' second amended complaint alleges that the defendants, Swiss Re and two of its senior officers, Jacques Aigrain and Georges Quinn (the "individual defendants"), violated section 10(b) and Rule 10b-5 by making false or materially misleading disclosures about Swiss Re's risk management and exposure to mortgage-related securities. The plaintiffs also allege control-person liability against the individual defendants pursuant to section 20(a) of the Exchange Act, 15 U.S.C. § 78t(a).

The defendants initially moved to dismiss the second amended complaint pursuant to Rule 12(b)(6) of the Federal Rules of Civil Procedure, arguing that it failed to satisfy the pleading standards set out in Rule 9 of the Federal Rules of Civil Procedure and the Private Securities Litigation Reform Act of 1995, Pub. L. No. 104-67, 109 Stat. 737. After the close of briefing, the Supreme Court decided Morrison v. National Australia Bank, Ltd., 130 S.Ct. 2869 (2010). The defendants thereafter supplemented their motion to dismiss, arguing that section 10b and Rule 10b-5 did not apply to the securities issued by Swiss Re under the holding of Morrison. The plaintiffs contested the effect of Morrison and argued alternatively that they could maintain a claim for common law fraud if Morrison barred their Exchange Act--based claim.

I.

In deciding a motion to dismiss pursuant to Rule 12(b)(6), the allegations in the complaint are accepted as true, and all reasonable inferences must be drawn in the plaintiff's favor. McCarthy v. Dun & Bradstreet Corp., 482 F.3d 184, 191 (2d Cir. 2007); Arista Records LLC v. Lime Group LLC, 532 F. Supp. 2d 556, 566 (S.D.N.Y. 2007). The Court's function on a motion to dismiss is "not to weigh the evidence that might be presented at trial but merely to determine whether the complaint itself is legally sufficient." Goldman v. Belden, 754 F.2d 1059, 1067 (2d Cir. 1985). The Court should not dismiss the complaint if the plaintiff has stated "enough facts to state a claim to relief that is plausible on its face." Bell Atl. Corp. v. Twombly, 550 U.S. 544, 570 (2007). "A claim has facial plausibility when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Ashcroft v. Iqbal, 129 S.Ct. 1937, 1949 (2009). While the Court should construe the factual allegations in the light most favorable to the plaintiff, "the tenet that a court must accept as true all of the allegations contained in a complaint is inapplicable to legal conclusions." Id.; see also SEC v. Rorech, 673 F. Supp. 2d 217, 221 (S.D.N.Y. 2009).

A claim under Section 10(b) sounds in fraud and must meet the pleading requirements of Rule 9(b) of the Federal Rules of Civil Procedure and the Private Securities Litigation Reform Act of 1995 ("PSLRA"), 15 U.S.C. § 78u-4(b). Rule 9(b) requires that the complaint "(1) specify the statements that the plaintiff contends were fraudulent, (2) identify the speaker, (3) state where and when the statements were made, and (4) explain why the statements were fraudulent." ATSI Commc'ns, Inc. v. Shaar Fund, Ltd., 493 F.3d 87, 99 (2d Cir. 2007). The PSLRA similarly requires that the complaint "specify each statement alleged to have been misleading[ and] the reason or reasons why the statement is misleading," and it adds the requirement that "if an allegation regarding the statement or omission is made on information and belief, the complaint shall state with particularity all facts on which that belief is formed." 15 U.S.C. § 78u-4(b)(1); see also ATSI Commc'ns, 493 F.3d at 99.

When presented with a motion to dismiss pursuant to Rule 12(b)(6), the Court may consider documents that are referenced in the complaint, documents that the plaintiffs relied on in bringing suit and that are either in the plaintiffs' possession or that the plaintiff knew of when bringing suit, or matters of which judicial notice may be taken. See Chambers v. Time Warner, Inc., 282 F.3d 147, 153 (2d Cir. 2002); Rorech, 673 F. Supp. 2d at 221.

II.

The following facts are undisputed, unless otherwise indicated.

A.

Swiss Re, the world's largest reinsurer, is headquartered in Switzerland; its stock is traded on the Swiss stock exchange. (Second Am. Compl. ("complaint" or "SAC") ¶¶ 2, 18.) At all relevant times, defendant Jacques Aigrain was Swiss Re's chief executive officer ("CEO"). (Id. ¶ 19.) Defendant Georges Quinn was appointed chief financial officer ("CFO") of Swiss Re on March 1, 2007, the day the class period began; prior to that, he had served as CFO of Swiss Re's financial services business group and as regional CFO for Swiss Re Americas. (Id. ¶ 20.)

Plumbers purchased shares of Swiss Re's common stock on 16 separate days between September 7, 2007 and November 6, 2007. (Mario Alba Jr. Decl. Ex. C (Doc. No. 6).) Plumbers' portfolio managers decided to purchase its Swiss Re shares in Chicago, and its purchase orders were placed electronically by traders located in Chicago. (Atkinson Aff.) "Specifically, these purchase orders were electronically routed through electronic connections that [Plumbers' traders] maintai[n] with a number of brokers who are responsible for matching purchase orders for Swiss Re stock with shares of Swiss Re stock that are offered for sale." (Id.) The shares were ultimately purchased on a foreign exchange. (Hr'g Tr. 14, July 14, 2010; Pfanner Decl.) During the class period, the only stock exchange on which Swiss Re common stock was listed was the SWX Stock Exchange (which has since been renamed the SIX Swiss Exchange) and the only stock exchange on which Swiss Re common stock was traded was virt-x (later also known as SWX Europe). (Pfanner Decl.) Stock market transactions in Swiss Re common stock during the class period were executed, cleared, and settled on the virt-x trading platform, which was a subsidiary of SX Swiss Exchange based in London. (Id.)

B.

Swiss Re provides reinsurance, insurance, and financial services in three categories: Property & Casualty ("P&C"), Life & Health, and Financial Services. (SAC ¶ 29.) Its Financial Services division both provided risk and capital management services to Swiss Re customers and engaged in proprietary asset management. (Id. ¶ 30.) The Financial Services segment represented 5% of Swiss Re's revenues and 8% of its operating income in 2006. (Id. ¶ 31.)

At issue in this case is the Financial Services division's involvement with mortgage-related securities - in particular, sub-prime residential mortgage-backed securities ("RMBS") and collateralized debt obligations ("CDOs") - in its capacities as Swiss Re's proprietary asset manager and as a provider of risk management to Swiss Re customers.*fn1 As of mid-March 2007, Swiss Re had $7.87 billion in investments exposed to the U.S. mortgage sector, amounting to 8.4% of its relevant managed assets. (Id. ¶ 70.) As of August 2007, approximately CHF*fn2 500 million of these investments were exposed to the U.S. sub-prime market, increasing to CHF 2.9 billion in sub-prime assets by September. (Id. ¶ 79; Burns Decl. Sept. 4, 2009 Ex. D.)

A credit default swap ("CDS") is a contract under which a purchaser makes a series of payments to the CDS seller in exchange for credit protection in the event that a particular credit instrument covered by the CDS experiences a defined event (such as a default, bankruptcy, or credit rating downgrade). The occurrence of such an event triggers a payment by the CDS seller to the purchaser of the CDS. The CDS functions as a form of insurance because the buyer of the CDS makes periodic payments and in return receives a sum of money if one of the events specified in the contract occurs. (SAC ¶ 48.) See also Rorech, 673 F. Supp. 2d at 222.

Swiss Re used CDSs and other hedging instruments to balance the risk associated with its managed assets. (Burns Decl. Oct. 9, 2009 Ex. B at 20.) It also sold CDSs to financial institutions as part of the Financial Services division's risk management offerings, insuring those institutions against default on their own investments in mortgage-related securities in exchange for regular payment of premiums. (SAC ¶¶ 49, 52.) On November 19, 2007, Swiss Re announced a CHF 1.2 billion loss on two of the CDSs it had sold, which protected portfolios that consisted "largely of mortgage backed securities." (Id. ¶ 99.) Although the majority of the assets protected by these CDSs were prime and mid-prime securities, some of the assets were sub-prime securities or asset-backed securities ("ABSs") in the form of CDOs. (Id.) All told, the two CDSs insured CHF 5.3 billion of assets, including CHF 1.473 billion in sub-prime mortgage securities, CHF 368 million in non-prime, Alt-A/Alt-B mortgage securities, and CHF 953 million in asset-backed CDOs. (Id. ¶¶ 55-56.) Prior to October, "every element" of the CDOs had been rated AA or AAA; after they collapsed to D-level ratings, Swiss Re marked the value of the CDOs down to zero. (Id. ¶¶ 57, 99, 107.) It simultaneously wrote the value of the sub-prime securities down to 62% of their original value. (Id. ¶¶ 57, 99.)

These two CDSs were apparently the only CDS contracts involving structured finance assets such as RMBS or CDOs that Swiss Re sold. (Id. ¶ 109.) Swiss Re also had sold CDSs that were "diversified across a number of corporate credits" that exposed it to CHF 54 billion in credit risk. (Id. at ¶ 110.)

When Swiss Re disclosed the CDS losses on November 19, its stock dropped from CHF 97.55 to CHF 87.55, declining further to CHF 79.95 the following week. (Id. ¶ 8.) In this period, analysts expressed surprise about Swiss Re's involvement in the sub-prime and CDS business. (Id. ¶¶ 8, 106-08.)

C.

The second amended complaint describes a number of statements that the defendants made during the class period, some of which are alleged to be false or misleading and some of which are proffered as evidence of scienter. These statements relate to three topics: Swiss Re's involvement with mortgage-related securities and, in particular, with the sub-prime mortgage market; Swiss Re's risk management practices; and the value of Swiss Re's earnings and accounts.

1.

On May 8, 2007, Swiss Re issued its First Quarter 2007 Report and held a conference call for investors. (Id. ¶¶ 66, 68.) A slide accompanying the conference call stated that Swiss Re had "significantly reduced its subprime RMBS exposure," leaving the Financial Services group with "total exposure (at current USD market values) of USD [7.87 billion] to the US mortgage sector, or 8.4% of relevant assets under management." (Id. ¶ 70.) The slide also noted that Swiss Re saw the "continued repricing of subprime RMBS" as "an opportunity," and "had added some investments in the subprime RMBS sector" in the previous "few weeks." (Id.) On the conference call, Quinn stated that Swiss Re had "bought" "protection . . . for both equity and credit risk." (Id. ¶ 68.)

On August 7, 2007, Swiss Re issued its Second Quarter 2007 Report, again accompanied by a conference call and a slide presentation. (Id. ¶¶ 77-80.) Narrating the slide presentation, Quinn stated that Swiss Re's CHF 190 billion of invested assets was "exposed to sub-prime of less than CHF 500m." (Id. ¶ 79.) He then went on to say:

For the sake of completeness . . . there are sub-prime risks elsewhere in the balance sheet, and I'll try to summarize some of them for you. It will exist in the portfolio of CDS business and the Financial Guarantee Re, which both sit within our traditional credit business, also in swaps and also elsewhere in the P&C book. The credit characteristics of those risks are typically extremely high, double A minus or better, and the risk that these areas expose us to is significantly less than the risk that we're exposed to through the investment that we've made recently in sub-prime bonds.

(Id.) The accompanying slides stated that "[t]ypically high credit quality sub-prime risks (AA minus or better) exist in portfolio CDS, swaps and Financial Guarantee Re, but not in leveraged form; risk is lower than exposure to subprime in invested assets." (SAC ΒΆ 79.) In answer to an analyst's question about what Swiss Re had "invested in ABS, MBS, corporate bonds and COs, CDOs," Aigrain stated that "any of the sub-prime-related exposure, direct or indirect in their format, are not in CDO form. . . . [A]ny exposure, which is any way extraordinarily ...


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