Class actions over bank deposit sweep programs dismissed

Two class actions against major brokerage firms over their bank deposit sweep programs have been quietly laid to rest, while plaintiffs in a third case are appealing a judge’s dismissal.

In two of the lawsuits — DeBlasio v. Merrill Lynch and a parallel case against TD Ameritrade Holding Corp. — ended this year when time ran out for plaintiffs to appeal a federal court’s decisions.

The cases are significant legal victories for the brokerage industry because bank sweep programs are important profit centers for firms. Instead of putting excess customer cash balances in money market funds, which normally have higher yields, the brokerage firms deposit the money in affiliated or third-party banks.

While the customer might earn less interest on his or her funds, the brokerage firm benefits directly or indirectly from sweeping that excess cash into banks.

Of course, the money market funds also suffer. Bank sweep accounts have taken “huge amounts” of market share from money funds, said Peter Crane, founder of Crane Data LLC, a money fund researcher.

The big broker-dealers were the first to funnel money market fund balances into deposit accounts.

The banks generally paid lower rates than money funds and then loaned the money out at higher rates or otherwise invested the money.

If it was an affiliated bank, the brokerage firms benefited directly; if it was a third-party bank, the brokerage firms collected fees for directing the deposits to the bank.

SLEW OF SUITS

All the major firms got sued in 2007 by investors who filed class actions, claiming they were misled by the terms of the sweep programs.

The programs have also been an issue with retail brokers, whose clients often hold large cash balances for living expenses. Clients and brokers want to see that cash earning a competitive rate.

Recent near-zero short-term interest rates have dissipated some of the controversy over the bank sweep programs.

“The bank sweeps are, for once, competitive with money market funds,” Mr. Crane said.

“Historically, they paid a little over one point below money market funds, and in that case, there may [have been] something to sue over,” he said.

SWEPT ASIDE

But the courts never agreed.

Judge Richard Sullivan of the U.S. District Court for the Southern District of New York threw out the DeBlasio suit last July, saying alleged misleading advertisements and statements by the firms were nothing more than typical marketing “puffery.”

The suits “failed to identify any materially misleading statements by defendants regarding the mechanics of the cash sweep programs,” the judge said in his order. In addition, the firms did not have to disclose how much money they were making from their bank sweep programs, he said.

The firms in the case, besides Merrill Lynch & Co. Inc., included Morgan Stanley, Citigroup Inc., The Charles Schwab Corp. and Wachovia Securities LLC.

Also last summer, Mr. Sullivan dismissed the claims in the TD Ameritrade case, basically using the same argument as in the DeBlasio decision.

Spokesmen for Merrill Lynch, Morgan Stanley and Citigroup said the firms are pleased to have the cases behind them.

The other firms involved in the cases did not respond to requests for comment.

Attorneys for the plaintiffs did not return calls.

The case under appeal is Straily v. UBS Financial Services Inc. In that suit, plaintiffs claimed that UBS breached its fiduciary duty to investors.

But Judge Robert Blackburn of the U.S. District Court for the District of Colorado ruled last year that in the absence of discretionary trading authority, “a broker does not owe a general fiduciary duty to his client.”

Kris Kagel, a representative of UBS, declined to comment.

E-mail Dan Jamieson at [email protected].