One of the juiciest subprime mortgage-backed cases out there is the bond insurer Ambac’s suit against Bear Stearns; Bear’s mortgage unit, EMC; and Bear’s 2008 acquirer, JPMorgan Chase. Ambac’s lawyers, the monoline mavens at Patterson Belknap Webb & Tyler, have raised all sorts of damning claims against the defendants, who supposedly described some of the mortgages underlying securities Bear peddled as “a sack of shit,” and, even worse, allegedly pocketed money from the originators of early-defaulting underlying mortgages, rather than turning the money over to bondholders. 

JPMorgan, you won’t be surprised to hear, disputes Ambac’s allegations. But exactly where the battle will be fought is a notable kerfuffle in its own right, featuring accusations of forum-shopping and system-gaming and the gaping unanswered question of whether insurers can pursue both fraud and contract claims in these subprime cases. 

New York state supreme court judge Charles Ramos ruled from the bench Wednesday that Ambac’s case can go forward in state court. Ramos rejected arguments by defense lawyers at Sullivan & Cromwell and Greenberg Traurig that Ambac had engaged in a complex set of jurisdictional chess moves to get the case to state court, even though a federal court case that exactly parallels the state suit is pending before the U.S. Court of Appeals for the Second Circuit. 

Here’s how JPMorgan described the situation in its motion to stay: “In this state action, Ambac…seeks this court’s adjudication of the same claims against the same defendants to redress the same alleged injuries that it has brought in previously filed federal litigation that is still ongoing.” 

As the defense brief goes on to explain, Ambac originally filed its suit against EMC in Manhattan federal court under diversity jurisdiction, because EMC is a Texas-based business. That suit initially raised only breach of contract claims against EMC. But in 2010, after Ambac’s lawyers dug into discovery, Patterson Belknap asked the court for permission to amend its complaint. Ambac wanted to add federal securities law claims and state-law fraudulent inducement allegations. It also wanted to add Bear Stearns as a defendant. 

In a ruling in February, the judge overseeing the federal suit, Richard Berman of U.S. district court, said Ambac couldn’t bring the securities law claims. But he said Ambac could add the state law fraud claims to its complaint. He also agreed that Ambac could add Bear Stearns—a New York business--as a defendant. 

With no federal law causes of action in the suit, and with the addition of the New York-based Bear Stearns as a defendant, Judge Berman ruled that he didn’t have jurisdiction over Ambac’s allegations. In that same February ruling, he dismissed the suit and closed the federal case. JPMorgan subsequently appealed Judge Berman’s ruling on the fraud claim and on adding Bear as a defendant to the Second Circuit. 

Within days of Judge Berman’s dismissal order, Ambac refiled its suit in New York state supreme court, naming EMC and JPMorgan as defendants. The 165-page state-court complaint raised the same tantalizing allegations of fraud and breach of contract that Ambac asserted in the dismissed federal suit. 

JPMorgan cried foul. In their March 14 stay motion, the bank’s lawyers accused Ambac of adding Bear to the federal suit as part of a “strategy employed by Ambac to destroy complete diversity after two years of time-consuming and costly litigation in the federal forum.” S&C and Greenberg Traurig said Ambac’s Patterson Belknap lawyers had admitted in federal court that jurisdiction had been “top of mind” when they asked to amend the federal court complaint; the only reason Ambac added Bear, JPMorgan claimed, was to move the case to state court. 

Ambac, in response, said the banks argument didn’t make sense, considering that Patterson Belknap tried to add federal securities claims to the federal suit, which would have kept the case before Judge Berman. It was JPMorgan that was playing games, the insurer said, trying to delay an airing of Ambac’s fraud claims. Even in “the extremely unlikely event” that JPMorgan prevailed in its appeal, Ambac argued, Ambac would still bring fraud claims in state court. 

Judge Ramos didn’t issue a written ruling on the stay but merely ruled from the bench that Ambac can push onward with its state court case. Both Patterson Belknap and Sullivan & Cromwell referred requests for comment to their clients, but OTC didn’t hear from Ambac or JPMorgan. 

In the meantime, the question of whether monoline insurers can bring both contract and fraud claims against mortgage-backed securities sponsors and underwriters looms over this case, as well as at least a half-dozen other suits asserting billions of dollars of claims. JPMorgan will argue at the Second Circuit that Ambac can’t add fraud claims in addition to the contract claims it initially pled against EMC because the fraud claims duplicate the contract claims. But before the Second Circuit rules, New York’s first department appellate court is expected to have issued a decision in a different Ambac case that tees up the same question. 

Stay tuned. These monoline cases are really the vanguard of mortgage-backed securities litigation. 

(Reporting by Alison Frankel)