Defrauding Pension Plans?

Submitted by Leo Kolivakis, publisher of Pension Pulse.

Eric Dash of the NYT reports State Street Bank Accused of Fraud by California:

The California attorney general’s office has charged the State Street Corporation
with fraud, accusing the company of cheating the state’s two largest
pension funds of at least $56.6 million by overcharging them for a
series of foreign exchange trades.

The lawsuit,
unsealed on Tuesday by a Sacramento Superior Court judge, contends that
State Street currency traders consistently overcharged the two state
pension funds, Calpers and Calstrs, for the costs of managing their
accounts since 2001, and then concealed the charges.

The California attorney general is seeking to recover $200 million in overcharges and penalties.

“State
Street bankers committed unconscionable fraud by misappropriating
millions of dollars that rightfully belonged to California’s public
pension funds,” said Jerry Brown,
the California attorney general. “This is just the latest example of
how clever financial traders violate laws and rip off the public trust.”

Carolyn
Cichon, a spokeswoman for State Street, which is based in Boston, said
the bank categorically denied any allegations of wrongdoing and would
defend itself against any litigation.

The lawsuit is the latest
in a string of recent legal headaches for State Street, a bank that has
long flown under the radar of ordinary investors but plays a crucial
role in the global financial system in booking trades, lending
securities and providing other services to hedge funds, pension funds
and investment firms. Federal regulators considered it one of 19
too-big-to-fail banks in the recent stress tests.

State
Street has faced multiple regulatory investigations and shareholder
lawsuits over whether it misled investors about the risk in certain
bond fund, derivatives,
and subprime mortgage-related investments. One lawsuit was filed in
April on behalf of the Sisters of Charity of the Blessed Virgin Mary.

It
also comes as State Street is struggling to regain its financial
footing. After passing the stress tests this spring, federal officials
put them alongside JPMorgan Chase, Goldman Sachs and eight other large banks that were among the first to repay their taxpayer investments.

State
Street announced on Tuesday a $516 million profit in the third quarter,
but its shares fell 8.4 percent, its biggest drop in five months, on
the news of the lawsuit and a sobering earnings forecast.

Ronald
E. Logue, State Street’s chief executive, said the bank expected
earnings to decrease by about 16 percent, worse than the 12 percent
decline projected earlier this year.

Bank of New York Mellon, another big custodial bank, reported a $2.46 billion third-quarter loss on Tuesday, but its shares rose 6.1 percent.

Still,
the lawsuit raises troubling questions about the bank’s practices and
controls. It grew out of an inquiry by California state investigators
who were looking into claims made against State Street by unidentified
whistle-blowers that accused the bank of adding a secret and
substantial markup to the price of their currency trades. The whistleblowers alleged that the scheme cost State Street clients about $400 million annually and dated back to 1998.

According to the California Attorney General, State Street executed about $35.2 billion in currency trades for Calpers, the California Public Employees’ Retirement System, and Calstrs, the California State Teachers’ Retirement System, from 2001 to this fall.

State
Street tellingly referred to the state pension funds as “dumb” clients
since they allowed the bank to handle foreign exchange transactions for
them, according to a complaint filed by the whistleblowers. Smart
clients, it said, traded directly with the bank and obtained better
rates.

The lawsuit contends that State Street concealed
fraudulent pricing practices by entering false exchange rates into
electronic trading databases and reporting false prices in the account
statements that it provided Calpers and Calstrs. The lawsuit also
accuses State Street of deliberately failing to include time stamp data
in its reports so that the pension funds could not verify the actual
cost of the trade.

If the California attorney general is
successful, the whistle-blowers who filed the original sealed lawsuit
could receive a share of any money recovered.

As
pension plans face mounting financial strains, they will be
scrutinizing every relationship, including the ones with their big
custodial banks. If there is any truth to these allegations, State
Street will see many of their pension clients switching to another
custodial bank.

[Note: Watch this video California AG Goes Postal On Caruso-Cabrera. The fools at CNBC obviously don't take pension fraud allegations very seriously!]

On another note, Andrew Frye of Boomberg reports that Buffett Says Wall Street Pay Must Have ‘Downside’ :

Billionaire
Warren Buffett, who collects a $100,000-a-year salary for running
Berkshire Hathaway Inc., said Wall Street pay needs a “downside” when
profits deteriorate because of reckless bets.

“You have to put in
something where there is downside to people who really mess up large
institutions,” Buffett said in an interview conducted by the chief
executive officer of Business Wire, the Berkshire subsidiary that posts
corporate press releases. “Too many people have walked away from the
troubles they have created for society, not just for their own
institution, and they have walked away rich.”

Wall
Street bonuses for 2009 may jump 40 percent to $26 billion, a year
after bad bets on subprime mortgages sent financial firms to the
government for bailouts, according to estimates by compensation
consultant Johnson Associates Inc. Buffett became the second-richest
American by building Omaha, Nebraska-based Berkshire into a $150
billion company.

“What you
have to change in Wall Street, is you have to make sure that in
addition to carrots, there are sticks,” he said. “And it can’t be a
one-way street where they are making ungodly amounts of money when
things are good and then they move on to someplace else for a while
when things are bad.”

Goldman Sachs

Buffett
invested $5 billion of Berkshire’s money last year into Goldman Sachs
Group Inc., Wall Street’s highest paying and most profitable firm. He
said in the interview that the securities industry is essential to
economic growth.

“I don’t look at Wall Street as
‘evil,’” he said. “I look at Wall Street as given to huge excess
sometimes. I don’t want to get rid of it. We need something to allocate
capital and distribute securities and all of that throughout the
system. We have got a big capitalist system and we have to have a big
capital market - but there is plenty of room for improvement.”

Banks
worldwide reported more than $1.1 trillion of credit losses and
writedowns tied to the mortgage meltdown since 2007, according to
Bloomberg data. The property slump helped topple CEOs at Citigroup Inc.
and Merrill Lynch & Co., and pushed the Standard & Poor’s 500
Index to a 12-year low in March.

Kenneth Lewis

President
Barack Obama’s administration is seeking to overhaul regulation of Wall
Street and curb some pay packages, even as a seven-month stock rally
has helped restore profits to the banking industry. Kenneth D. Lewis,
in his last year as CEO of Bank of America Corp., won’t receive a 2009
salary or bonus on the recommendation of U.S. pay supervisor Kenneth
Feinberg.

Buffett has
criticized bankers for not guarding against the housing slump and
blamed them for the worst recession in half a century.

“I
think that virtually everybody associated with the financial world
contributed to it,” Buffett said in a May news conference after the
Berkshire’s annual meeting in Omaha.

“Some of it stemmed from greed,
some from stupidity, some from people saying the other guy was doing
it.”

Wall Street bonuses in 2008 fell 44 percent from
the prior year to $18.4 billion, according to New York state
Comptroller Thomas DiNapoli.

Goldman’s Pool

Goldman,
led by CEO Lloyd Blankfein, set aside $16.7 billion to pay employees so
far this year. That’s enough to pay each worker $527,192. The New
York-based bank repaid $10 billion it got from Treasury and reported a
jump in third-quarter profit. JPMorgan Chase & Co., which repaid
$25 billion of U.S. funds, said profit surged almost sevenfold in the
quarter.

The Buffett interview, conducted last month,
was released today in connection with the launch of a Web site,
PYMNTS.com, by Business Wire focusing on the electronic payments
industry. Buffett is chairman and CEO of Berkshire.

It's
not just Wall Street pay that needs a downside. The pay of senior
pension fund managers needs a downside too, especially when they report
disastrous results like in 2008. We need to revamp the compensation
practices on Wall Street and at public pension funds that take on far
too much risk, focusing on short-term gains. And these reforms are
needed urgently.

Comments

[time123]

Pension Plans should be protected as a lot of people depend on them to live on during retirement. Let's not allow them to be depleted by a few slick managers.

For those with 401K, I believe it is time to take our destiny in our own hands and recover at least some of the losses in our portfolios through trading the markets.

Today, we had a big drop in the end of the day, as nvestors were probably looking for an excuse to sell.

Richard Bove had made some good calls in the past, and that may be why they sold today on his comments.

By the way, the Invetrics DJIA index timing signal switched to Short prior to market open today (unrelated to the analyst's comments), and warned web site visitors of today's potential drop in the market.

It is up a respectable 64.84% for the year (as of October 20, 2009) and it is free of charge for individual investors at:

http://invetrics.com

[hbjork1]

Warren Buffet started out before computers and the derivatives market was primitive.  He is caught in a time warp.  The public was accustomed to less and had not gotten accustomed to government support programs.  Graham and Dodd were formalizing valuation methods for companies that were actually producing something that people in other countries (and the US) actually needed.  Banking was not centralized and to get a loan, it was necessary to have real collateral and income to repay.  The US had had spare times during a recession and a war, European and Japanese industry were bombed out so that, to a certain extent, manufactured goods that could be made could be sold. 

Emphasis for the young was on production and what I will call the “hard sciences” were important to the public.  The best and brightest tended to opt for science.  During the late 60’s (I think) the WSJ published a little piece with graph showing the rapid increase in law school enrolment vs decline in engineering enrollment.  The trend toward “liberal” arts continued.   

Veterans, from WWII GI bill teacher training were typically a little tough on their charges, I suppose doing their duty to prepare students for the stresses that we might face in life (Korea, cold war).  They had their share of PTSD cases but were expected to work it out for themselves.  Did the “baby boomer” generation, unable to see the need in their young lives, rebel somewhat against the artificial stresses imposed?   

As an engineer, I have to observe that, as the world found out in the LCTM meltdown, necessitating bailout of the Chase, the use of the statistics was flawed.  “We should have used fatter tails.”    For my professional engineering life, I would have considered such a remark as indicating incompetence ((in people licensed(?) to handle other peoples’ money). (Coins or dice do not communicate.)

Watching Larry Summers and Alan Greenspan in testimony, I see the great political skill but just don’t see the intellectual merit.

Most decent engineering schools require a passing grade in vectors and tensor math for the masters’ degree.  In science, competence in tensor math is required to deal with models of the “real world”.  If  financial engineers or the future were required to MASTER the real world math through tensors perhaps they will have a chance to be able to handle their jobs.   

The last public quote from GM's new CEO, Ed Whittaker, (approximately) "We are currently struggling with this GM culture of trying to get everything right." (before they take action?) 

[Anonymous]

Pray tell, how do you propose to safe-guard all individual pensions?

40muleteam borax

[Circumspice]

So, $56.6m / $35.2b = 0.16%. 16 bps on what I assume are pretty standard currency trades. Until recently, 16 bps was probably close to the day's trading range for a lot of the swaps and futures they might have been using. A quick check indicates that the day's high-low was inside 16 bps on the sizeable majority of a day's several possible EUR/USD trades (daily exchange rate, short-term FX futures, 1Y cross-currency swap) over the last 8 years.

I mean, yeah, State Street's probably write about investor savviness. You do have to be pretty dumb money to not notice that execution is always at the top of the trading range. Of course, I'm assuming that means you're an analytical minimalist and so you'd rather outsource responsibility for such messy details, so $200b AUM investors asking the bank to trade plain-vanilla instruments on their behalf are probably unlikely to have the technical resources or neurons necessary to know when they're getting fadunked. I can only imagine how badly CalPERS is getting reamed on more opaque or complex transactions.

And seriously, isn't this what portfolio managers or the trade desk is for? You know, small stuff like portfolios where the notional equals 20% of your portfolio.

[Anonymous]

The people who contribute to pension plans have only one interest....getting good returns. They have no interest in creating responsible governance, nor do they have knowledge about how their plans actually work. Thus, they want all the benefits that responsibility might produce, but they continue to behave irresponsibly. This is a non-sequitur that stems from mis-placed populist emotion and ignorance that are no substitute for understanding.

There is no tragedy. They have met the enemy when they look into the mirror.

[McGriffen]

Those contributing to the plan(s) should expect better than lip service when it comes to fiduciary responsibilities held by those administering & investing to earn that return.  Earning a top-percentile income as a senior pension manager also brings the appropriate weight of fiduciary duty.

Any tragedy is how pervasive any of these practices might actually be.  It wasn't too many years ago that large fund investors were accused of market-timing & front-running on daily NAV prices.

[Anonymous]

The people who contribute to pension plans have only one interest....getting good returns. They have no interest in creating responsible governance, nor do they have knowledge about how their plans actually work. Thus, they want all the benefits that responsibility might produce, but they continue to behave irresponsibly. This is a non-sequitur that stems from mis-placed populist emotion and ignorance that are no substitute for understanding.

There is no tragedy. They have met the enemy when they look into the mirror.

[crzyhun]

So, all gains are ill gotten?

Yes, pension plan admin and the whole system/halo around it is intermeshed with conflicts of interest, where really there should be little. When times are fat that spread is overlooked, neglected. If it were anybody than JB of Ca. I'd really look up. But like Spitzer, holier than thou, this all looks like theater.

And, Buffea, well he is another holier than thou. The man is a media creation, more or less.

[Rainman]

Public pension fund losses will deepen with the CMBS crisis. That should shed some more daylight on the incest going on between fund managers and investment houses.

It was Warren who said : "only when the tide goes out do you see who has been swimming naked ".  

[Gordon_Gekko]

And as we found out Mr.Buffet was/is himself swimming naked. Oh...the irony!

[Gordon_Gekko]

Here we have Mr. Buffett spouting off his hypocritical nonsense again. Mention of the real and the single most important cause of the crisis - meddling, manipulation and mismanagement by the federal reserve - is notably absent from his musings.

"We have got a big capitalist system..."

What we have right now is fascism, not capitalism Mr. Buffett.

[Cheeky Bastard]

dewd, he is one of the masters, he needs to spout out the propaganda, the belief that the juice, the blood of America is still flowing, that there is a chance for a small guy to own a boat, a decent house. He needs to tell these things, its part of the program. He needs to convince the unbelievers that the things have not changed, that American Dream, is only postponed, not dead. He needs the sheople to keep his money, but the sheople do not need him. 

[Gordon_Gekko]

To think that just a few years ago - when I was an enthusiastic participant of the brainwashed MSM-addicted herd - I used to really admire the guy; now I wouldn't trust him with my trash can. *shudder*.

[Steak]

He used to be my role model as a value investor.  Then I found out that he really made money the AIG way, uncollatoralized derivatives contracts.  What a dick.

"At year end we had written $4 billion of contracts covering 42 corporations, for which we receive annual premiums of $93 million. This is the only derivatives business we write that has any counterparty risk; the party that buys the contract from us must be good for the quarterly premiums it will owe us over the five years. We are unlikely to expand this business to any extent because most buyers of this protection now insist that the seller post collateral, and we will not enter into such an arrangement."

http://online.wsj.com/public/resources/documents/WSJ-20090228-berkshireletter.pdf