Two of the biggest problems for mortgage-backed securities investors in securities class actions have been standing and time limitations. Federal judges across the country have curtailed MBS class actions by limiting claims to offerings in which name plaintiffs invested. (One judge, Mariana Pfaelzer in Los Angeles, has gone even farther, ruling that plaintiffs in a class action against Countrywide can proceed with claims based only on the specific tranches they bought into.) MBS defendants, meanwhile, have used the Securities Act of 1933's relatively narrow window for claims to knock cases out. (See, for example, Judge Pfaelzer's ruling in yet another Countrywide case.) Under the federal statute, plaintiffs must file suit within one year of learning of a defendant's alleged misrepresentations and within three years of the security's offering date.

In a 40-page Sept. 15 ruling, Manhattan federal judge Laura Swain scrutinized the claims of investors in seven Morgan Stanley MBS trusts on both standing and time limit grounds -- and concluded that the case, which already has a tortured procedural history, needs yet another round of pleadings.

Here's the complicated but relevant backstory. The Public Employees' Retirement System of Mississippi, represented by Bernstein Litowitz Berger & Grossmann and Robbins Geller Rudman & Dowd, first filed suit in California state court in December 2008, claiming Morgan Stanley misrepresented the quality of the mortgage loans underlying several 2006 MBS offerings. The bank removed the state case to federal court, and it was eventually transferred to Judge Swain, who was overseeing a different Morgan Stanley MBS suit. The MBS investors filed a consolidated complaint, which Judge Swain dismissed because the lead plaintiffs -- a different pension fund than MissPERS -- hadn't filed the suit in time. But she allowed MissPERS and Bernstein Litowitz and Robbins Geller to file an amended complaint, asserting a subset of the claims the fund first alleged in the 2008 California suit. (See what I mean by complicated?)

The plaintiffs firms added some additional pension funds to the second amended complaint to expand the number of offerings at issue. Morgan Stanley, represented by Davis Polk & Wardwell, challenged the standing of those additional plaintiffs -- and, moreover, said all of the plaintiffs had waited too long to file their claims. The bank argued that the funds were on notice by the middle of 2007 that the underlying mortgage loans in the Morgan Stanley offerings were troubled, so they failed to act within the one-year notice window. In addition, Davis Polk asserted that the 2008 California case didn't stop the clock from running on the three-year time limit from the offering date.

The judge rejected most of the defense arguments. She ruled that the additional plaintiffs can stay in the case, and, crucially, that Bernstein Litowitz and Robbins Geller offered sufficient allegations that Morgan Stanley misrepresented the underwriting standards and appraisals on the underlying mortgage loans. (She dismissed claims that the credit ratings on the securities were tainted by Morgan Stanley misrepresentations.)

Judge Swain also found that the California state filing stopped the clock on the three-year time limit to bring claims. Trial court judges have split on the question of whether class action filings toll what's called the statute of repose-a statutory time limit for claims. The U.S. Court of Appeals for the Second Circuit is right now considering appeals of MBS dismissals by two Manhattan federal judges who interpreted the U.S. Supreme Court's American Pipe ruling differently than Judge Swain.

But Morgan Stanley fared a bit better when the judge analyzed whether MissPERS and the other plaintiffs filed the California suit within a year of learning of the potentially deficient underlying loans. "Plaintiffs' allegations regarding discovery in 'late 2008' is vague, and also appears to be inconsistent with the earliest-possible-discovery time frames posited in the earlier pleadings," she wrote. "Plaintiffs have again failed to allege with the requisite specificity the time and circumstances of their discovery of the conduct that forms the basis of their claims."

The judge noted that at oral argument on the motion to dismiss, MissPERS's lawyers focused on the August 2008 credit rating downgrade of the Morgan Stanley mortgage-backed securities as the trigger for the fund's concern about its investment. She also agreed with the plaintiffs that early warnings, from as far back as mid-2007, from the credit rating agencies didn't constitute sufficient notice to bar the funds' claims, as a matter of law, under the statute of limitations. In light of the plaintiffs' arguments about the credit downgrade, Judge Swain said, she would give Bernstein Litowitz and Robbins Geller one more chance to "replead the time and circumstances of discovery of the alleged conduct in order to demonstrate compliance" with the one-year statute of limitations.

The judge did not indicate whether the funds can merely point, in the third amended complaint, to the 2008 credit rating downgrades as "the time and circumstance of discovery," or whether they must offer a more detailed, fund-by-fund account of what they knew and when they knew it. We'll have to wait for her third motion to dismiss ruling to find out.

(Reporting by Alison Frankel)

Follow Alison on Twitter: @AlisonFrankel 

Follow us on Twitter: @ReutersLegal