WaMu Bankruptcy Judge Allows Equity Committee’s Action for Equitable Disallowance of Hedge Fund Noteholders’ Claims to Proceed on the Ground that Equity Committee Stated a “Colorable Claim” that those Noteholders Engaged in Insider Trading

In a shot across the bow of investors who trade in the debt of bankrupt companies, a U.S. bankruptcy court has held that the Equity Committee of Washington Mutual, Inc. (WaMu) has stated a “colorable claim” that four hedge funds that held WaMu debt and participated in bankruptcy settlement negotiations engaged in insider trading when they traded WaMu’s debt.  Hedge funds Appaloosa Management, L.P., Aurelius Capital Management LP, Centerbridge Partners, LP, and Owl Creek Asset Management, L.P. (together, Noteholders), acquired enough WaMu debt that they were in a position to block approval of portions of WaMu’s plan of reorganization.  As a result, they were allowed to participate in negotiations among the various stakeholders in the bankruptcy.  WaMu’s Equity Committee alleged that the Noteholders had engaged in insider trading using information they received during settlement negotiations and that, as a result, their claims should be equitably disallowed.  In a wide-ranging decision denying confirmation of WaMu’s sixth amended reorganization plan, the Court ruled that the Equity Committee had alleged a colorable claim of insider trading by the Noteholders that could support equitable disallowance of their claims.  This article provides a feature length synopsis of the facts that gave rise to the insider trading charges, and the Court’s reasoning.

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