A group of mostly small investors is challenging the US$4.5bn settlement that JP Morgan agreed more than a year ago over RMBS bonds that soured when the housing market collapsed.

A group of mostly small investors is challenging the US$4.5bn settlement that JP Morgan agreed more than a year ago over RMBS bonds that soured when the housing market collapsed.

The bank agreed to that payoff in negotiations with large institutional investors over poorly underwritten mortgages that served as collateral for the bonds.

But other parties who together own around two-thirds of the bonds in question - yet were not included in the talks, due to lack of influence or size of holdings - want investigations into how the settlement figure was reached before any monies can be doled out.

And as the US courts have yet to approve the agreement, the latest legal challenge is expected to delay the process even further.

The holdout group, which ranges from the Federal Home Loan Bank of Boston to the Construction Laborers Pension Trust for Southern California, believes US$4.5bn is too low - but says there is not enough transparency to be sure.

"The institutional investors negotiated a settlement that compromises not only their claims, but the claims of thousands of certificate holders, including respondents," lawyers for the objectors said in a court filing last week.

"Because the negotiations purportedly were for benefit of all certificate holders, including respondents, the information (about them) should not be withheld."

The institutional investors on the agreement represent just over 32% of the securities in question.

JP Morgan's agreement covered 330 residential mortgage-backed securities (RMBS) trusts issued both by itself and Bear Stearns, which it took over during the financial crisis.

BEEN HERE BEFORE

Similar issues are also holding up the US$8.5bn Countrywide settlement, which involved many of the same institutional investors. Gibbs & Bruns is representing the institutional investors in both the Countrywide and JP Morgan cases.

Under present New York state law, only the trustees - and not the bondholders themselves - can undertake action on behalf of the trust. The so-called no-action clauses features in governing documents of most RMBS to prevent minority holders from pursuing "frivolous and uneconomical claims".

The trustees in the JP Morgan case reached the agreement with bold-face names in the financial sector such as BlackRock, Goldman Sachs, MetLife, Pimco and TIAA-CREF.

The group of objecting bondholders - including hedge fund Brevan Howard, QVT Financial, financial guarantor Ambac and three Triaxx CDOs - want to know how the settlement figure was reached.

They have filed suit demanding access to all the emails and other correspondence between the trustees, investors and JP Morgan that could shed light on the valuations made.

Lawyers for FHLB Boston, for example, believe that losses on the bonds topped US$60bn - or more than 13 times the amount agreed in the settlement. They say the US$4.5bn equals less than 8% of the losses absorbed by bondholders.

In a similar case in 2012, involving 103 RMBS bonds, when JP Morgan reached a settlement with the Federal Housing Finance Agency, investigators found defects in between 79% and a 98% of the loans underpinning them.

Fifty-seven of those bonds are among the 330 in the current case.

As lawyers for FHLB Boston said in an October filing: "The potential recoveries in a number of the repurchase actions that the trustees could bring could be massive."

TIME DRAGS ON

There were few signs of progress at the most recent hearing on Tuesday in US District Court, as lawyers for the plaintiffs try to convince the judge to order the release of the emails.

The next step will be a conference call between all the parties on January 14 to fix the timeline for a possible information discovery process.

One lawyer told IFR that trying to figure out a date of eventual settlement in the case would be "rank speculation". A money manager estimated it could be up to two years.

In other such cases, undisclosed amounts have been paid to objecting bondholders to get them to relinquish suits and bring matters to a close - particularly when the alternative is months or even years of battles in the courts.

A JP Morgan spokesman declined to comment on that possibility.

One of the attorneys for the objectors said: "This is not going to be a rocket docket - to the dismay of the settlement proponents."