Nomura, RBS 'crap' emails come into play in $1 billion mortgage bond trial

NEW YORK (Reuters) - In 2007, a Royal Bank of Scotland Group Plc employee emailed his boss with his view of a sample of mortgages underlying a bond that the bank was underwriting: "This one is crap."

Asked about it this week in Manhattan federal court, Brian Farrell, the employee, said he did not recall the deal. But a U.S. regulator cited the email as evidence that Nomura Holdings Inc and RBS made false statements about mortgage securities they sold to Fannie Mae and Freddie Mac.

The email and others like it are part of a $1.1 billion lawsuit by the Federal Housing Finance Agency against Nomura and RBS that went to trial this month. The messages add to a litany of arguably embarrassing electronic musings by bank employees that have resurfaced in litigation over the 2008 financial crisis.

Private plaintiffs and U.S. regulators alike have seized upon internal emails from the likes of JPMorgan Chase & Co and Deutsche Bank AG calling the mortgage products they sold investors "lemons," "junk," and "pigs."

The FHFA's case is the first to reach trial out of 18 lawsuits the regulator filed in 2011 over some $200 billion in mortgage-backed securities that various banks sold Fannie Mae and Freddie Mac.

The FHFA, which became the conservator for Fannie and Freddie in 2008 amid the financial crisis, previously obtained nearly $17.9 billion in settlements with banks including Bank of America Corp, JPMorgan Chase and Deutsche Bank.

Those deals followed a series of adverse rulings by U.S. District Judge Denise Cote, who is overseeing the non-jury trial.

The FHFA says of the loans underlying the $2 billion in securities Fannie and Freddie bought from Nomura, 68.6 percent had underwriting defects. Nearly a third had false loan-to-value ratios, while 13.1 percent were underwater from the start, the FHFA says.

Nomura, the deals' sponsor, and RBS, which underwrote three of the seven, deny wrongdoing, and argue any losses were due to an unforeseeable decline in the housing market.

Data has been a prime focus of the trial, with expert witnesses making up a large number of the individuals testifying.

But the FHFA is also relying in part on the banks' employees' own words at the time as captured in emails. Many have been previewed during the FHFA's opening statements and outlined in court filings.

In one, an RBS trader in 2006 referred to originator Fremont Investment & Loan as "FraudMont." In another, a Nomura employee said lender People's Choice Home Loan Inc had "obviously an inherent flaw" in its loan origination process.

RBS' Farrell was not the only bank employee in the case to call mortgages in the securities "crap": The same term was used by a Nomura employee during a review of mortgages issued by subprime lender Ownit Mortgage Solutions Inc.

Donald Hawthorne, a lawyer at Axinn, Veltrop & Harkrider who has pursued similar cases against banks, said such emails can be "helpful for atmospherics" and could suggest a reckless disregard about the mortgages if coupled with evidence about how mortgages failed to comply with underwriting guidelines.

However, since the case is being tried before a judge rather than a jury, plays to emotion could be less significant, Hawthorne said.

The "crap" email by Farrell, a former vice president in RBS' credit risk department, was introduced Tuesday during questioning about a 2007 deal he worked on.

Richard Schirtzer, a lawyer for the FHFA, showed Farrell the email, in which he said he had reviewed a sample of 250 loans underlying the deal.

"Sir, 'crap' is never used in a positive sense, is it?" Schirtzer asked.

"Nothing comes to mind," Farrell responded.

The case is Federal Housing Finance Agency v Nomura Holding America Inc, U.S. District Court, Southern District of New York, No. 11-06201.

(Reporting by Nate Raymond in New York; Editing by Amy Stevens and Tom Brown)