First Circuit interprets broad specific litgation exclusion

UBS-PR was an underwriter for Puerto Rican municipal bonds.  Its related company, UBS-Trust, managed a type of stock fund called closed-end funds, or CEFs.  (Together, the two companies are called UBS.) 

In 2009 UBS-PR was the subject of an investigation by the SEC concerning violations of securities laws with respect to the CEFs.  The SEC ultimately concluded that UBS-PR misrepresented the risks associated with CEF shares and committed other malfeasance.  UBS-PR  settled with the SEC and agreed to pay over $26 million.

In 2010, CEF investors sued UBS, alleging, among other claims, mismanagement, fraud, and artificial inflation of prices of four CEFs. 

In 2011, UBS negotiated new primary and excess insurance coverage.  The policies, issued by XL, Hartford, and Axis, included  "specific litigation exclusions."  Those exclusions excluded "any Claim in connection with [the SEC investigation and the investor lawsuit], or in connection with any Claim based on, arising out of, directly or indirectly resulting from, in consequence of, or in any way involving any such proceeding or any fact, circumstance or situation underlying or alleged therein."

During negotiations of the primary policy UBS attempted to narrow the scope of the specific litigation exclusion.  In particular, UBS sought to replace "any fact, circumstance or situation underlying or alleged therein" with "the same Wrongful Acts alleged in any such proceeding" and to remove the phrase "in any way."  XL rejected the proposed changes. UBS proceeded to purchase the policies. 

After the policies went into effect, UBS sought coverage for numerous proceedings relating to its treatment of CEFs, including civil actions, regulatory investigations, and hundreds of Financial Industry Regulatory Authority (FINRA) arbitrations. 

The insurers denied coverage for the various claims, asserting that the claims were excluded because they were sufficiently related to the excluded litigation.  

In UBS Financial Services, Inc. of Puerto Ric v. XL Specialty, __ F.3d __, 2019 WL 2864751 (1st Cir.), the United States Court of Appeals for the First Circuit agreed with the insurers that there was no coverage for the claims. 

The court held that although the language of the specific litigation exclusion "is undoubtedly broad, it was the language UBS bargained for.  . . .  Aware of the breadth of the . . . exclusion, UBS nevertheless agreed to purchase the Policy as it read.  Therefore we see no reason to depart from the negotiated plain text of the provision." 

UBS argued that under prior case law the specific litigation exclusion applies only if there is a "substantial" overlap between the prior matter and the matter for which the insured seeks coverage.  The court distinguished the language in the UBS policy from that in the earlier caselaw, which did not include the clause "in any way involving."  The court held that that phrase "significantly broadens" the scope of the exclusion.  The phrase is a "'mop-up' clause intended to exclude anything not already excluded." 

In addition, unlike the UBS policy, the policy in the earlier case had the phrase "the same or substantially similar" before the term "fact, circumstance or situation." 

The court held that the exclusion in the USB policy did not render coverage illusory.  Although the exclusion excluded coverage for claims relating to CEFs, and CEFs were a substantial part of UBS's business, they were not its sole business.