What Wall Street Knew About the Auction Rate Failure

While many individual investors and their financial advisers are surprised by the collapse of the auction-rate securities market in February this year, Wall Street firms actually saw trouble ahead and began looking for ways to prevent auction failures for one type of securities several months before the market collapsed.

Late last year, UBS, Citigroup and Bank of America requested student-loan authorities to issue waivers that would make the auction-rate securities easier to sell. Meanwhile, these firms were struggling to keep the auctions from failing as the credit crunch scared off experienced investors such as corporate treasurers from buying at the auctions.

These behind-the-scene moves raise questions about whether Wall Street firms told their clients about risks emerging in the auction-rate securities market. Many individual investors who bought securities during that time had no idea there were problems in the auction-rate market and were still being told that they were safe cash alternatives. The firms’ failure to alert investors could mean the firms were afraid of a panic-driven domino effect that would cause the market to collapse faster.

UBS, Citigroup and Bank of America all declined to comment on how investment bankers advised student-loan issuers late last year and how they communicated with financial advisors and investors.