Stuck auction-rate debt buyers grasp for answers

UBS, others failed to offer prospectuses or warn of brewing woes

For investors trapped in auction-rate securities, finding out what they actually own has been a vexing challenge.

Many thought they were putting their money into simple, money-market-like accounts and never asked for a prospectus, or legal explanation of the investment. And brokers didn't offer them; legally, they didn't have to. When some customers asked for the documents, they had difficulty obtaining them.

Firms such as UBS Financial Services Inc. in many cases failed to offer even the mildest warning to individual investors of the trouble lurking in the market in late 2007 and early 2008, according to numerous interviews with investors, including a current and former UBS broker. That's a breach of the industry's "best practices," adopted in 2007 by the Securities Industry and Financial Markets Association, which say a broker-dealer "should educate issuers and investors as to the material features of Auction Rate Securities," including how the market works and the firm's role in running the market.

Teresa Contardo, a Boston-area broker for more than 30 years who retired from UBS in 2001, is as surprising a victim of the $250 billion auction-rate security debacle as one can find. Even she believed her broker, who works in UBS's Peabody office, was selling her something just like a money market. She didn't receive a prospectus and never asked for one, she said, because, "This was never presented to me as anything other than a cash alternative."

Now, with $350,000 stuck in the securities since February, Contardo wishes she'd known much more about what she was buying. "If there was a prospectus, it would have set off alarms for me," she said.

UBS declined to comment on whether it adequately informed customers of the risks of auction-rate securities. A spokeswoman, Karina Byrne, said, "UBS is committed to addressing our clients' concerns about the market events that caused the breakdown of liquidity for auction-rate securities."

Most of what investors do know, they've had to find out for themselves.

Auction-rate securities are the long- term debt of nonprofit student lenders, municipalities, and closed-end mutual funds. They traded for years in private markets run by brokers, where interest rates reset weekly or monthly. But starting early this year, the sellers outnumbered the buyers, as Wall Street's credit crisis gripped virtually every debt market. The securities have been stalled ever since.

In some cases, UBS investment bankers were advising issuers of auction-rate debt - clients like student lenders - to employ special measures to keep the auctions from failing. At the same time, UBS brokers were allowed to sell the securities to individuals, and to corporate and municipal treasurers, without disclosing those mounting risks.

In a lawsuit filed in Superior Court in Anchorage in March, the Alaska Exchange Corp. alleged that it was never informed that $6 million it placed in auction-rate securities with UBS was at risk. The description of the market was in the prospectus, the complaint says, but Alaska Exchange "never received any such prospectus."

Indeed, customers like Contardo were not told that the securities they bought were at risk of failing, nor that they would pay a higher interest rate, at the urging of UBS, in the event the market failed.

Since the market's collapse, many investors who have researched their holdings have had to directly contact the bond issuers, such as student lenders. Few investors have been able to glean information from their brokers. But even some of the issuers have shut down all access to information. The Connecticut Student Loan Foundation, for example, yesterday refused to answer any questions about its finances, its debt, or its relationship with UBS.

Bartholomew P. Molloy, a Milford attorney who is advising several clients on how to deal with the auction-rate ordeal, said UBS should have disclosed the looming problems with the investments.

"This was sold as a cash alternative," he said. "If the nature of the investment changed, then the individuals should have been warned and notified of that change."

Beth Healy can be reached at bhealy@globe.com.