When residents of Puerto Rico funneled their life savings into funds that were largely made up of the island's bonds, they were told their money would be safe.
They were told that they would receive interest payments that were higher than many comparable opportunities. They were told income would be tax exempt.
And when those investments began to evaporate four years ago, they were told not to sell, that the market would rebound, and they would recoup their losses — eventually.
This year, eventually became never after Puerto Rico triggered bankruptcy-like proceedings, and the island began restructuring its debt to seek protection from creditors — pushing the already depreciated bond prices within the funds lower. Then came Hurricane Maria, and those prices plummeted even further.
While the storm that decimated the island's infrastructure was unavoidable, the one that tore through the savings of its residents was entirely man-made.
"To have this type of carnage being born on this small of a population in this small of a geographic territory is something that we'll likely never see again," said attorney Jeffrey Erez, whose law firm Sonn and Erez has filed hundreds of securities cases on behalf of Puerto Rican investors. "You have the complete investing class on a very small island having lost 50 percent, 60 percent, 70 percent, 80 percent of their retirement savings within a few years."
A CNBC investigation found that UBS was not forthcoming about the extent of the risks of those bond funds from both its clients and brokers, even as the values of the funds plummeted. By the end of 2012, more than $10 billion in assets were invested in UBS' bond funds. That represented about 10 percent of the island's gross domestic product at the time. Today, those investments have been nearly wiped out.
About 2,000 pages of confidential documents obtained by CNBC reveal the inner workings and dialogue between executives at UBS Puerto Rico and those in Weehawken, New Jersey, leading up to and after the crash of the funds.
They show UBS executives sought to withhold stress-test results from their brokers and did not translate research reports and other fund documents to Spanish. They show that even though some of the most powerful brokers expressed multiple concerns about the bond funds early on, UBS management encouraged them to sell the funds anyway.
The documents also reveal that in 2012, more than a year before the eventual collapse of the funds, UBS executives in the Americas and Puerto Rico were not only aware of the funds' troubling features, they were having discussions about the devastating consequences if the firm didn't address these issues.
Gervasio Garcia Rodriguez, 76, saw losses first hand. Along with wife Maria, 73, her brother Miguel Castro Arroyo, 72, and two other relatives, they invested their life savings into funds created by UBS. Today, they say those investments have dropped about 80 percent in value, with the family collectively losing about $2 million.
"There is hope but not for us. There's no hope," said Garcia, a retired history professor who taught at the University of Puerto Rico. "In this situation, what are we going to do now? It's sad. Very sad."
The family used the dividends from the funds to pay for Maria's and Miguel's 97-year-old mother's health care and fund their own retirement.
Seeking to recoup some of their losses, the family filed an arbitration claim against UBS for — among other counts — breach of fiduciary duty, negligence and fraud.
UBS, in an answer to the complaint, called the family's allegations "meritless" and said that the funds declined in value due to "various market forces," which did not make them "unsuitable."
More than 2,000 similar arbitration cases have been filed against UBS and other broker-dealers, including Santander Securities, Popular Securities and Merrill Lynch. UBS had disproportionately more litigation because the firm had at one point about half of the island's market share.
According to data compiled by Securities Litigation & Consulting Group (SLCG), more than $329 million in settlements and awards have been paid to clients in the four years ended Oct. 10. More than 90 percent has come from UBS, due to its proprietary closed-end funds.
For the income from the funds to be tax-free, the funds were composed of at least 67 percent in Puerto Rico-related securities. Some were upward of 95 percent.
Due to a loophole in a 77-year-old piece of U.S. legislation, none of these funds was regulated by the Securities and Exchange Commission, which meant they were not bound to as strict a leverage standard or traded on a public exchange. The Investment Company Act of 1940 allowed funds offered outside the United States, in this case the U.S. territory of Puerto Rico, to avoid certain restrictions. (For more on this loophole.)
This legal loophole "allows for the funds to engage in some affiliated party transactions that would not be allowed here on the mainland. And it allows them to be more highly leveraged," said Craig McCann, SLCG's founder and principal.
The funds were lucrative for the firm, producing more than $150 million in revenue to UBS Puerto Rico, between early 2009 and mid-2013, according to a Financial Industry Regulatory Authority (FINRA) settlement.
"I've likened it, in my mind, to a drug dealer, supplying a drug to its client that they know is not good for them, but they keep doing it anyway to enrich themselves," said Erez, who's representing the family in the claim against UBS.
In response to CNBC inquiries about the funds and claims against the firm, a UBS spokesman said there were "multiple written disclosures setting out in plain language the risks associated with Puerto Rico closed-end funds, including the use and risks of leverage in the Funds, the possibility that they could become illiquid, and that their concentration in Puerto Rican securities made them sensitive to changes in the Puerto Rico economy."
Switzerland-based UBS, which is one of the world's largest banks and oversees more than $913 billion in total assets, had rebounded from its own near-death experience during the financial crisis. It was imperative that the firm seek to keep the risky bond funds off of its own balance sheet, said McCann.
In the spring of 2011, brokers and financial advisors started receiving an influx of calls from investors because the prices of the bond funds had declined. Their clients wanted to sell and there were few buyers on the other line.
Ramon Almonte, one of the top financial advisors at UBS Puerto Rico, met with brokers on May 31, 2011, outside of San Juan to discuss key worries surrounding the funds.
An email sent to Almonte the next day that's been translated into English shows a detailed list of 22 concerns that the brokers had, including "lack of liquidity," "excessive leverage," "price instability," "excessive supply," "geographic concentration" and "churning."
Days later, UBS Puerto Rico Chairman Miguel Ferrer corralled the brokers into a meeting. He urged them to focus on the "funds' attractive benefits" and sell the product or "find another job," according to a certified English translation of a transcript from the meeting obtained by CNBC.
The lecture from Ferrer, according to the translation, was laced with profanities that ordered the brokers to "quit that whining." Ferrer told the brokers not to focus on the 22 concerns, but rather come up with a list of three or four positive selling points for the funds, including their "current yield of over seven and a half" percent, "diversification" and "exceptional" past performance.
"Next week we'll launch a campaign with these numbers in the paper," he said. "I hope the public will c-m in their pants because of that. They're f------ awesome."
Almonte, who has about 150 customer complaints listed on his public broker profile, also spoke at this meeting. He urged the brokers to "educate the client that what is happening in our economy is not necessarily linked to Puerto Rico's fiscal situation."
"Therefore, Puerto Rico's credit is good," he said. "We are the only place, the only pocket where there is money for our clients."
Almonte's BrokerCheck report shows he is still employed by UBS. Ferrer is no longer with the firm and declined to comment on this story through his counsel. The audio from that meeting was first obtained and reported on by Reuters in 2015.
Less than a year later, it became clearer — even to UBS — that Puerto Rico's credit was deteriorating.
The bank in a research report in January 2012 identified major risks for investors holding the commonwealth's debt including the "slower than anticipated recovery" and "rising debt burden." The 45-page report recommended: "conservative investors with concentrated exposure to any single borrower in the municipal market should pursue portfolio diversification."
A team of brokers from Puerto Rico sought to disguise some of these risks from their clients on the island, according to internal UBS emails reviewed by CNBC.
One of them showed that a group of UBS Puerto Rico brokers met with top executives in New York and New Jersey in mid-2012. An email sent on behalf of a group of brokers to Carlos Ubinas, who was CEO of UBS Puerto Rico at the time, read that they were pleased that "future research reports that address Puerto Rico bonds will bear a disclosure note stating that the content contained therein is not applicable to island residents."
However, the disclosure discussed did not appear in any of the reports reviewed by CNBC.
When questioned in 2015 in a FINRA arbitration proceeding about the UBS research reports issued in 2012 and 2013 Ubinas stated, while under oath, that although the reports were "of general applicability to Puerto Rico residents, they were mainly addressed to stateside investors holding Puerto Rico bonds."
Furthermore, UBS never translated this report, or any of its Puerto Rico-related reports from English to Spanish, according to sworn testimony by Ubinas. This despite the fact that a large majority of Puerto Rico residents do not speak English fluently. Fund prospectuses, as well as quarterly and annual reports, also were never translated.
Ubinas, in his testimony, contends that the eventual crash of the funds was a "black-swan event" — which by definition is extremely difficult to predict.
"Concerns about the Puerto Rico economy and its prospects had been the subject of wide public debate and press coverage for many years," a spokesman for UBS said in a written statement. "But no ratings agency or analysts predicted anything like the precipitous drop in bond prices that occurred in August and September 2013."
Throughout 2012, discussions over some of the funds' more troubling features rose all the way to top executives at UBS Americas, more than 1,600 miles away in Weehawken.
One email chain shows that Robert Mulholland — who was the head of UBS wealth management Americas client advisory group — was having trepidations about the excessive leverage in the UBS funds as early as April 2012.
Almonte wrote back to Mulholland to argue it was not time to dial back the funds' leverage.
"This is not the time to deemphasize the importance of our very successful business model," Almonte wrote, "any reduction in credit lines, margin limits, haircut, etc. can unfold into an undeserving loss of clients, assets and brokers to even more aggressive competitors.
"Of equal importance is the need attend to investment advisors' concerns in such a way that we can again unite to stop asset outflows and increase profitability."
Mulholland, who reported directly to Robert McCann, the CEO of UBS Americas at that time (unrelated to Craig McCann of SLCG), was not only fully aware of the issue but knew the consequences if the firm didn't dial back leverage.
"I have seen firm's over aggressive use of leverage in their business model ruin the firm (Merrill Lynch/Bear Stearns/Lehman). I will not let that happen to UBS PR," he wrote. "I don't want to risk client losses and business losses when rates turn up. And, unfortunately, the losses are usually rapid due to illiquidity. I believe we are helping preserve clients' portfolios by moderating (not eliminating) leverage now vs. extending more."
Mulholland predicted in that April 2012 email the catastrophic outcome that would take place more than a year later. Mulholland left the firm in 2015 and did not respond to requests for comment.
By the end of 2012, Moody's Investors Service cut the rating of the island's bonds to just above junk status, citing a weak economic recovery, very high levels of debt and a shrinking population.
The day of the downgrade, a flurry of internal emails was sent to and from executives at UBS Puerto Rico and UBS Americas questioning how this would impact the funds. It caught the attention Robert McCann. One email showed that the results of a stress analysis on how the downgrade would impact the firm's balance sheet were delivered directly to McCann.
At the end of the year, Ferrer tried to assuage any fears over the downgrade, sending an email on Dec. 18, 2012, to a financial advisors' distribution saying: "My own impression is that over a few months, prices will be firmer and today's bad news will be yesterday's news. For some, today's prices may offer a buying opportunity."
But research on Puerto Rico became increasingly negative throughout 2013. In March, after a downgrade by S&P, a UBS report warned that "Puerto Rico's reliance on periodic financial restructurings to balance its budget in the past [i]s a principal risk for investors." And it further recommended "investors diversify their holdings in favor of stateside issuers."
The brokers became increasingly concerned.
In April of that year, financial advisors at UBS Puerto Rico requested a "risk analysis of the total Puerto Rico bonds held on margin so they could understand the worst and probable scenarios," according to an email from Ferrer to Mulholland and Ubinas.
Mulholland responded the following day, April 11, 2013: "We will not print and give them our stress analysis ... we don't want it going public."
The next day Mulholland reiterated his decision in an email to Ferrer saying the request "is absurd and you should know that."
Detroit's bankruptcy in July 2013 was a "watershed event with implications that reverberated throughout the entire market," according to an October 2013 Morningstar special report. It also drew more attention to the island's liquidity and financial troubles and sparked warnings that Puerto Rico could be "the next Detroit," and investors "began looking around to see what might be the next shoe to drop."
These fears worsened as Puerto Rico's growth slowed. By late August 2013, investors in the UBS funds started to notice significant losses in their accounts.
"Until the sudden market disruption in 2013, Puerto Rico bonds were the top performer in the municipal market in the first half of 2013," UBS' spokesman said in the statement. "There were no undisclosed issues with the Funds."
The losses that August were unfortunately nothing compared with what was about to unfold.
In September 2013, numerous factors including growing fiscal concerns, increased headline risk and financial institutions selling large blocks of Puerto Rican bonds, all came together and resulted in a massive sell-off that further depreciated the value of the UBS funds. By the end of 2013, the UBS closed-end funds had lost $3 billion in value, or nearly 70 percent, in that year alone, SLCG data show.
As a result, UBS had to sell some of the assets within its proprietary funds because the prices of the underlying bonds fell to levels that violated the maximum leverage requirement. This caused a forced liquidation for the UBS funds.
It also resulted in permanent losses in the funds, which Ubinas says in his testimony will never be recovered.
"It becomes a vicious cycle because you have to sell, you're selling into a bad market, prices come down, which creates another sort of margin call, which creates another problem, and then it's like a vortex," Ubinas said in his 2015 testimony. "What kills you is how quickly it happens, because if it happens slowly over time, you can manage it. If it happens: Boom. All you have are dead bodies."
Eliezer Aldarondo, whose Puerto Rico-based law firm partnered with Sonn and Erez in August 2013, also noted in an interview that the UBS funds have been largely illiquid since mid-2016 — meaning that even if an investor's statement shows money in the account, the investor isn't able to access those funds since there are no buyers in the market.
Client statements from November 2017 show several UBS closed-end funds, which were purchased around $10 a share, have fallen below $2 per share, with one trading as low as $1.25 per share.
Analysts say that what happened to investors in the closed-end bond funds is a precursor for investors who hold the individual bonds.
Losses have accelerated on the outright bonds this year. The first blow was in May, following the commonwealth initiating the largest bankruptcy-like proceedings in the history of the U.S. municipal bond market.
Then in October, in the aftermath of Hurricane Maria, which devastated the island, bond prices plunged. Securities litigation has increased in the past year against the main broker-dealers in Puerto Rico that sold the outright bonds, namely Santander and Banco Popular, according to SLCG analysis.
In addition to the tsunami of arbitration, UBS has paid more than $65 million in settlements with regulators over sales practices for the Puerto Rico bond funds.
The firm settled with the SEC in 2012 for $26.6 million and in 2015 for $15 million. Also in 2015, UBS settled with FINRA, the industry's self-policing regulatory agency, for $18.5 million. A year prior, in 2014, UBS settled with Puerto Rico's local regulator, the Office of the Commissioner of Financial Institutions, for $5.2 million.
The regulators' charges included that the firm misrepresented and omitted material facts about the closed-end bond funds to investors and failed to monitor the combination of leverage and concentration levels in customer accounts, according to the settlement documents.
UBS Puerto Rico did not admit or deny wrongdoing in any of the settlements.
In October 2013, in a decision "in favor of two UBS executives facing SEC civil charges, the SEC's Chief Administrative Law Judge concluded that UBS's disclosures about the [closed-end funds] were accurate," the firm's spokesman points out in a statement.
UBS has disclosed in regulatory filings that the Department of Justice is conducting a criminal inquiry into the impermissible reinvestment of the nonpurpose loan proceeds, in regard to the Puerto Rico funds. "We are cooperating with the authorities in this inquiry," the filing states.
At least 10 former UBS brokers are also in litigation against their former employer, claiming that the firm declined to share important details about the bond funds that subsequently caused their clients harm, based on arbitration filings reviewed by CNBC. Now, the brokers say, their reputations are ruined.
Jorge and Teresa Bravo were a brother-sister team who sold the bond funds to 200 of their clients. After only three years at UBS, the Bravos each now have more than a dozen customer complaints.
"It's basically a disaster, because right now, clients blame you," Jorge Bravo told CNBC. "Your personal life's almost gone; you have the stress of litigations that are pending on your cases. ... Everything is going bad."
In their arbitration claim against UBS, the Bravos said that "to artificially preserve the market, UBS made material misstatements and omissions to both brokers and customers about the PR funds, UBS's true analysis of the PR Funds and the market they controlled."
"One of the worst victims in the entire process is the broker," said Jenice Malecki, who represents the Bravos in their case against UBS. "The brokers lose everything. They lose their careers. They lose their reputations. They lose their friends and some of them, even family."
Teresa Bravo had also purchased $100,000 worth of the Puerto Rico funds for her personal brokerage account. She was able to sell out of her position in April 2013, before funds became illiquid. She said she still suffered losses.
The Bravos also advised their friends and family, including their brothers, to buy the bond funds.
"They know that we tried to do our best. But it was the funds that exploded," Jorge Bravo said.
In the fall of 2014, in wake of the Puerto Rico fund implosion as investors in the bond funds were reeling from the major losses in their portfolios, UBS instituted a "Performance Improvement Plan" for their brokers.
According to their claim, the Bravos were told to accomplish at least one of three requirements within three months or they would be terminated: increase their production by 10 percent, bring in $500,000 in new assets and boost the percentage of assets they manage by 0.5 percent to 1 percent.
This ended up creating "a high pressure environment to induce brokers, including the Bravos, to find more assets and sell the PR Fund products, or else face termination," the claim details.
In reality, "the Plan meant, either churn your client['s] account to increase production or pull in $1 million more assets and sell more clients toxic PR Funds."
The Bravos say this was the final straw. They both resigned Jan. 30, 2015.
"UBS lost the clients' lifetime savings … 50 percent, 60 percent, 80 percent of their clients' money. And now you're going back to the client and say … 'UBS is telling me I need to generate 10 percent more of commissions.' That's absolutely immoral," Jorge Bravo said.
"As a result of UBS's wrongful conduct, the Bravos were forced to resign and constructively terminated," the claim states.
"The brokers are kept in the blind and can provide no answers," their resignation letter said. "The undersigned feel oppressed and harassed by UBS NY's Management directives, regarding the haste efforts for risk and loss control through unreasonable demands upon brokers, willfully destruction of Teams and undue pressures upon brokers as to matters which the clients' may well have a right [to] know for their own assessment."
UBS claims that "the Bravos voluntarily resigned from UBS in 2015 to join a competitor," the firm's spokesman wrote in his statement to CNBC.
Following their departure from the firm, UBS contacted the Bravos seeking to recover the approximately $1.6 million — $800,000 remaining for each of them — that "was given to them as an upfront bonus and two subsequent production bonuses, in the form of forgivable loans," their claim alleges.
"During their brief tenure at UBS, the Bravos received more than $1.6 million in loans from UBS, which they have refused to pay back. The arbitration claim they have filed seeks to cancel that lawful debt. Any comments they make now should be viewed in light of their obvious financial incentives," the UBS spokesman said.
In addition to trying to cancel the debt the Bravos are seeking relief in the amount of no less than $10 million and are also seeking punitive damages due to "the extreme and outrageous conduct with which the Bravos and other brokers at UBS were treated by UBS [that] crossed the bounds of decency to be regarded as atrocious and intolerable in a civilized society," the claim states.
The Bravos admit they share some of the blame. Jorge said his biggest mistake was, "believing in UBS management, believing that they were telling me 100 percent of the facts, believing that they were protecting our clients' assets, believing that this was gonna be the best for the clients."
"But now, I see that, of course, I didn't have the information," he said.
After Hurricane Maria struck in September, more than 472,000 housing units were destroyed or severely damaged. The agriculture sector was decimated, including the loss of almost 80 percent of planted crops. Meanwhile, the electrical grid was destroyed leaving parts of the island without power for months.
The slow pace of recovery had been weighing on the financially strapped island, which had already been suffering under the weight of a recession lasting more than a decade.
Miguel and Maria's mother, Angelica, who lives with Maria and Gervasio and requires 24-hour care, fell ill after the hurricane hit. The family was unable to call a doctor for help due to the island's telecommunications systems being wiped out by the storm.
A friend was able to provide antibiotics, which allowed Angelica to recover from the infection.
"Everything is hard for us," said Maria, who has lived in Puerto Rico her whole life. "You feel that you can't do anything, that everything is out of your hands."
Repair from the storm is likely to be one of the most expensive ever. Puerto Rico Gov. Ricardo Rossello has requested a $94 billion aid package but the U.S. government has not approved it yet.
In October, President Donald Trump said in an interview with Fox News that the island's debt should be wiped out.
Those comments sent the value of the bonds plummeting even further. The benchmark general-obligation bonds maturing in 2035 have plunged more than 60 percent since Hurricane Maria made landfall. They now trade around 20 cents on the dollar.
And erasing the debt completely would be catastrophic for the thousands of Puerto Rico residents who own the commonwealth's bonds in their retirement accounts. Gervasio and Maria Garcia and her brother Miguel Castro, who were already grappling with $2 million in losses, are seeing their finances even more strained since the hurricane.
Fearing for his mother's life after the generator ran out of fuel, Castro stopped in the middle of the road to beg a fuel truck driver to follow him to the house.
Between the fuel and the extra tip money for the drivers, it's costing the family around $500 per week just to keep the lights on for their mother.
Nearly three months after the hurricane hit, the family is still without power and the generator they had been using recently broke. The cost to replace the broken generator was $6,000.
"We are conservative people; we tried to invest in something with no risk," said Castro. "Can you imagine working for over 40 years and trusting your savings to a person, to a company, and the value [of those savings] today is trash?"
UBS settled with Miguel, Maria, Gervasio and the other family members more than a year and a half after the initial claim was filed, according to the lawyer for the family. Terms of the settlement, which are confidential, were reached late Friday, Dec. 15. That was just two days before the case was scheduled to be heard by a FINRA arbitration panel and three days before this story's publication and airing on CNBC.
"We are pleased that our clients were able to resolve this case without the necessity of having to continue the arbitration. Our clients are very satisfied with the outcome," Erez said.
UBS declined to comment on the settlement.