Bond Investors Don't Want to Pay for Banks' Wrongdoings

NEW YORK ( TheStreet) -- A group of mortgage bond investors are urging Attorney General Eric Holder to avoid entering into a potential agreement with JPMorgan Chase ( JPM) that could leave them bearing some of the legal costs.

According to a Wall Street Journal report, the Association of Mortgage Investors wrote a letter to the Attorney General expressing their concern over any legal settlements with a bank, but stopped short of specifically naming JPMorgan.

Press reports have suggested that the bank might enter into a $11 billion settlement with the Department of Justice, of which $4 billion would be in the form of consumer relief.

The consumer relief portion of these legal settlements is a sticking point for mortgage bond investors who believe banks unfairly get credit for writing down loans that they do not own but service on behalf of investors.

This was the case with the $25 billion mortgage settlement struck in 2012 between the five largest mortgage servicers, including JPMorgan, Bank of America ( BAC) and Wells Fargo ( WFC) and the 49 states. Under that agreement, banks were required to provide $20 billion in relief in the form of principal reductions, loan modifications and refinances. They were also given partial credit for writing down loans belonging to investors.

Federal regulators favor using settlements to force banks to provide relief to borrowers. However, bond investors have protested, arguing that banks are using other people's money to pay for their wrongdoing.

Regulators say banks should write down third-party loans only if doing so yields more proceeds than liquidation of the loan. However, investors argue that they don't get a say in what method of relief is used, with banks likely to resort to the method that gives them maximum credit under the settlements.

For JPMorgan, a broad settlement over mortgage-backed securities claims would help provide certainty to shareholders who have been alarmed by its mounting legal tab.

The bank reports earnings on Friday, but all eyes will be on news regarding the potential settlement.

For more on what to expect on bank earnings, read Big 4 Bank Earnings:The Gift of Low Expectations .

-- Written by Shanthi Bharatwaj New York.

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Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

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