Complex financial mis-selling claim runs out of time

The English High Court has dismissed a mis-selling claim in one of the last surviving disputes arising out of the 2007 – 2008 financial crisis. In Loreley Finance v Credit Suisse [2023] EWHC 2759 (Comm), the dispute arose out of a residential mortgage backed synthetic CDO (collateralised debt obligation) – a transaction so complex that, according to the judge Cockerill J, “some of the banking witnesses in this case struggled to explain the concepts themselves” and the judgment itself extended to 176 pages.

The main claim alleged fraudulent representations concerning the assets supporting the notes issued to the claimant investor, a special purpose company established as part of an asset-backed commercial-paper conduit. The claimant purchased the notes for USD100 million from a Credit Suisse entity and these proceeds were used to purchase a credit derivative, a credit default swap, which was linked to a reference portfolio of mortgage-backed securities nominally valued at USD1 billion. The notes were rated AAA/Aaa and were designed so that principal was repaid in full unless losses in the reference portfolio reached 9%, ie, USD90 million of the USD1 billion. By 2009, the notes were worthless and they were eventually redeemed without payment. The claimant alleged that Credit Suisse had impliedly and fraudulently represented that it had acted honestly and properly in structuring and selling the CDO and in creating the underlying mortgages, whereas there had in fact been various types of misconduct, including failures of due diligence and compliance with underwriting and legal criteria for the underlying mortgages.

Limitation

Cockerill J found that the main claim was time-barred. The claimant had argued that the limitation period was postponed by s32 Limitation Act 1980, which provides that, where there is fraud, concealment or mistake, the limitation period does not start until the claimant had discovered it “or could with reasonable diligence have discovered it”. The parties agreed that this meant sufficient information to draft a statement of claim: “that the claimant is in a position (i.e. has sufficient actual or constructive knowledge) to plead a complete cause of action, which in fraud cases entails the critical allegations that a representation has been made, that it was false and that the representor knew it to be false” (para. 175). Cockerill J also held that where there are two distinct lies founding a claim, the claim will not be time-barred if only one of those lies is time-barred.

Applying this test, Cockerill J found that various reviews and investigations after the financial crisis into CDOs generally in the market, including CDOs created and sponsored by Credit Suisse, constituted the trigger that put the claimant on notice to investigate possible claims. Accordingly, the limitation period started on the occurrence of that trigger and had expired before the issuance of the claim.

Implied representation test

Cockerill J went on to consider the nature and scope of implied representations. She found that the test was very similar to that for an express representation, where the Court would determine what the reasonable person would have understood from the words used in context, in that the Court would determine what the reasonable person would have inferred was being implicitly represented by the words and conduct in their context. This context includes contracts and other documentation passing between the parties. In particular, it was not enough to apply the test set out by the Court of Appeal in Property Alliance Group v Royal Bank of Scotland [2018] 1 WLR 3529: “to consider whether a reasonable representee would naturally assume that the true state of facts did not exist and that, if it did, he would necessarily have been informed of it”. This helpful test was only a guide and did not undermine the need for clear words or conduct to create the implied representation.

Test for reliance

Cockerill J also considered the test for reliance. Even where the representation is implied, there is a requirement for some sort of ‘awareness’ or ‘active presence’ in the mind of the representee, before they can be said to rely on it. Although inducement to enter the contract might be assumed, this is only on the basis of some pre-existing awareness.

Findings of fact

Cockerill J found that, even if the limitation period had not expired, the alleged implied representations had not been made (with very limited exceptions for certain technical representations as to the underlying mortgage portfolio) and that, even if they had been made, they had not been relied upon.

Cockerill J also rejected an alternative claim based on unlawful means conspiracy, where the unlawful means was breach of Irish prospectus disclosure law. She held that breach of a foreign law might constitute unlawful means but that it could not give rise to a conspiracy claim if, as here, it was not actionable.

Implications and key takeaways

Overall, this compendious judgment is a resounding win for the bank. Although it was not strictly necessary to determine the case, Cockerill J’s discussion of implied representations will provide comfort for financial institutions facing similar claims, especially her decision reiterating two key principles: 

1. Tying the implied representations strictly to specific words and conduct of the defendant narrowed the scope for finding those representations had been made. 
2. Requiring a separate awareness by the claimant before any reliance could be found created an obstacle particularly for claims based on implied representations.

An essential difficulty with mis-selling claims based on implied representations is the tension between establishing a representation was made and establishing it was relied upon: detailed, specific representations tend to support reliance, whereas it is easier to prove that a very general, high-level representation – such as honesty – was implied. Here, this tension led to the claimant putting forward complex, multi-layered representations, described by the judge as “indigestible”, that ultimately did not succeed. 

Although there are unlikely to be many more disputes arising out of the 2007 – 2008 financial crisis, more recent market dislocations always create the possibility of new mis-selling claims, where this case provides important guidance.

Practical tip: keep an eye on industry investigations/regulator focus to check for new information that may reveal outward claims or trigger a limitation period leading to a bar on inward claims.