State Street Faces Two More Lawsuits Over Bond Fund Losses

Two more lawsuits have been filed against State Street Corp. over its now controversial stewardship of fixed income funds marketed as following conservative trading strategies, but which faced substantial losses from subprime mortgage-related holdings.

In addition to an October suit from Prudential Retirement Insurance and Annuity Co. (See Prudential Accuses SSgA of “Misrepresented’ Investment Strategies), the Boston-based State Street faces lawsuits from New York publisher UniSystems Inc. and Nashua Corp., a Nashua, New Hampshire paper products company.

Also, last month, the Keller Rohrback L.L.P. law firm announced it was investigating State Street Global Advisors (SSgA) and State Street Bank & Trust Company by for potential violations of the Employee Retirement Income Security Act (ERISA) by marketing funds with misleading statements on investment strategy (See Keller Rohrback Announces ERISA Investigation Concerning SSgA Bond Funds). In addition, officials in Idaho and Alaska are following the legal goings-on since their state employee pension funds were invested in enhanced index bond funds offered by State Street — funds buffeted by the recent turmoil in investments tied to subprime mortgages geared toward customers with spotty credit (See State Street Could Face Another Investment Strategies Suit).

Want the latest retirement plan adviser news and insights? Sign up for PLANADVISER newsletters.

New Lawsuit Allegations

The suits allege State Street sold the affected bond offerings as facing a small amount of risk, but then State Street actually took imprudently large positions in mortgage-backed securities that ended up causing investors significant losses when the nation’s subprime mortgage market collapsed this summer.

For example, the Nashua suit claims its pension fund lost $5.6 million in State Street’s Bond Market Fund. As of the end of July, the Bond Market Fund “had invested more than 27% of the portfolio in asset-backed securities comprised of home equity loans” in the mortgage industry’s subprime segment, the Nashua lawsuit alleged.

In late August, Nashua received a letter from State Street advising it of a more than 12.26% loss in the fund that month, in a period when the Lehman Aggregate Bond Index, the index the fund was supposed to track, posted a 1.2% gain, the lawsuit says.

The lawsuits allege that State Street’s actions represent a fiduciary breach under ERISA.

“State Street represented those bond funds to be conservative investments designed to closely track, and slightly outperform, designated bond market indices,” the UniSystems complaint charged. “In reality, State Street converted the purportedly stable conservative investments into a high-stakes gamble in breach of State Street’s fiduciary duties under ERISA.”

As it has since the controversy began, State Street continued to insist it committed no wrongdoing. Arlene Roberts, a State Street spokeswoman, told the Associated Press that the company was “disappointed that a small number of our active fixed-income clients” have sued.

“We pride ourselves on our commitment to clients, and we believe that we managed these strategies consistent with stated investment objectives. The events in the fixed-income markets over the summer were unprecedented. We intend to defend ourselves against these complaints,” she told the news wire service.

State Street also contended that the funds at issue in the suits amounted to a small fraction of the $244 billion in fixed-income funds it manages. About $36 billion of that total is actively managed — as opposed to passive funds that track indexes. The proportion exposed to subprime mortgages amounted to $7.8 billion as of June 30, and just $2.6 billion as of September 30, Roberts told the Associated Press.

The UniSystems complaint can be viewed here.

The Nashua Corp. complaint is available here.