September 27, 2011 – (Reuters) - Four hedge funds appealed on Tuesday a ruling in the Washington Mutual Inc <WAMUQ.PK> bankruptcy that found viable claims they had engaged in insider trading, an opinion one fund called a "gross injustice."
The hedge funds sought an expedited appeal of a ruling earlier this month by Delaware Bankruptcy Judge Mary Walrath, in which she rejected Washington Mutual's plan to distribute $7 billion to creditors for a second time.
"The opinion rewrote the rules for these cases retroactively -- invoking a series of new legal standards that would radically remake federal securities and bankruptcy law," said Aurelius Capital Management LP, one of the four hedge funds, in court papers.
In addition to rejecting the plan, Walrath also ruled that shareholders, who were expected to get nothing in the reorganization, presented a viable claim that the hedge funds engaged in insider trading.
Shareholders have accused the hedge funds of using information they gleaned from their role in helping draft Washington Mutual's reorganization plan to make big profits trading the company's securities.
Walrath granted shareholders standing to pursue claims against the hedge funds, with the goal of preventing them from collecting the roughly $2 billion they are owed by Washington Mutual.
The four hedge funds -- Owl Creek Asset Management LP, Appaloosa Management LP, Centerbridge Partners LP and Aurelius -- have denied the allegations.
The funds specialize in buying large blocks of securities issued by bankrupt companies for pennies on the dollar. The funds then hire top-notch lawyers to try to influence or even control the reorganization process in a bid to beef up their payout.
The funds often band together in ad hoc committees with large cumulative positions in a company's debt. Walrath found such committees have a fiduciary duty to other creditors, a finding legal experts said could make it harder for large bankrupt companies to reorganize.
In their papers, the funds also said the ruling could make bankruptcy courts a favored venue for bringing types of securities litigation that has been criticized as frivolous and which Congress has been trying to discourage.
Washington Mutual has lingered in bankruptcy since September 2008, when regulators seized its savings and loan operation in the biggest bank failure in U.S. history.
The banking business was immediately sold to JPMorgan Chase & Co <JPM.N> for $1.88 billion and the holding company filed for bankruptcy the next day.
The case is In re Washington Mutual, U.S. Bankruptcy Court, District of Delaware, No. 08-12229.
(Reporting by Tom Hals; Editing by Richard Chang)