New Form of Financing Makes Loan Sharking Seem Credible

I thought I’d seen it all. But, clearly that isn’t the case. Witness yesterday’s article in the New York Times.

Banks, hedge funds, private equity funds and all types of other institutional investors have found their newest market to make giant sized alpha returns in. Yes to date, they’ve invested upwards of $1 billion bankrolling law suits. That’s right. There’s no more money to be made in toxic mortgage backed securities. So, now some of the largest players on Wall Street are financing large divorce cases, class action and malpractice suits with the hope that there will be big pay-offs in the end.

Their argument for entering this bizarre financing world, is a classic one. By providing serious funding (the lawyers for one class action suit were given $30 million), these large financiers are actually helping the “little people” stand up to big, bad corporations (who took advantage of them) by leveling the playing field as trials are incredibly expensive. Without outside funding, these defendants (those would be the behemoth corporations who are accused of harming innocent victims) have a significant advantage through deep pockets. And, deep pockets provide unlimited funds to tie up courts and, if needed, keep spending on the litigation process for years, while the plaintiffs run out of money and hope.

I’m sure that argument has some validity to it. But, I can also guarantee that those who have jumped into this  financing market, didn’t do so out of the goodness in their heart. No, they smell blood (figuratively, of course). To me, this seems like just another form of predatory financing/lending and that won’t bode well in the end for the consumer (in this case that’s the plaintiff’s in these trials) who believe their “white knights” have arrived.

Much like every other artificial financial market that ballooned in size and then popped out of nowhere, there are always scores of consumers hurt in the end. We all know how that worked out over the last two years with individual investors and those who owned homes, but couldn’t afford to keep paying the oversized mortgage obligations. My bet is that once these sophisticated investors see that financing class action law suits is more akin to betting on the horses at Belmont, many won’t have the stomach to continue. The question isn’t when this will happen, but how.

I can envision any number of scenarios where “the rug is pulled right out from under” a class action plaintiff’s feet during the middle of a costly law suit against some giant corporation. Once said investor feels queasy that the case might not win (and after two or three subsequent losses), the plaintiff is left high and dry without any of the agreed to investment to continue much needed litigation efforts.

Loan sharks find gaps in society where weak individuals or businesses will pay almost any interest rate (the “Vig”) to get quick money. They exploit and take advantage of this acute pain point. Explain to me what the difference is between this and those who are now financing law suits…  

Comments

[Peter Engel]

Thanks for the alert, Ed. You just know this isn't going to turn out well.