Jerry Burnett, administrative services director for Alaska’s Department of Revenue, told the WSJ the attorney general is examining “whether or not the fund was in investments more risky than our board had been told about, and whether there’s any liability to State Street.” Officials in Idaho would not give any details, but the Public Employee Retirement System had 5% of its $11.4 billion fund in State Street’s Government/Credit Bond fund.
Prudential – whose Retirement Insurance and Annuity Co. (PRIAC) on Monday filed suit against State Street Global Advisors (SSgA) over losses in SSgA-sold funds for which PRIAC claims the investment strategies were misrepresented – said the Government/Credit Bond fund dropped in value by at least 12% in July and August.
The value of assets about 1,100 Alaska state workers had invested through their defined contribution plans in State Street’s Government/Corporate Bond Fund fell to $30 million on August 23 from $36 million on June 30, Alaska revenue officials said. The following day the plan’s board, in an emergency meeting, dropped the fund as an investment option. Officials said by that time the fund was down 18% for the year.
In the PRIAC suit, the firm said it had placed its clients in two State Street funds, the Intermediate Bond Fund and the Government/Credit Bond Fund, that SSgA had marketed as investments that would provide “stable, predictable returns” in line with an index of U.S. government and corporate bonds (See PRIAC Accuses SSgA of ‘Misrepresented’ Investment Strategies ).
PRIAC claims State Street changed its investment strategy over the summer without notification and devoted a large portion of the funds’ investments to financial instruments that included “asset-based securities that overwhelmingly derived their value” from home-equity loans, mortgage-backed securities swaps, and derivatives. The suit also claims SSgA recently informed Prudential it held a position in “a synthetic index whose returns are linked to 20 subprime U.S. mortgage pools.”
According to the WSJ a “detail sheet” provided by State Street to clients for the Government/Corporate Bond Fund said the investor receives exposure to a “broad-based, investment-grade fixed-income universe.” However, as of March 31, the fund had nearly half of its weighting in mortgage-backed securities (25%) and other asset-backed securities (23%). Six months earlier the same fund’s biggest weighting was in U.S. Treasurys while mortgage and asset-backed securities accounted for less than 6% of its top 10 holdings, the news report said.
Sean Flannery, the chief investment officer for SSgA, wrote institutional clients on August 14 that “in the midst of the recent turmoil in the fixed-income markets, many of our active bond strategies” had “sharply underperformed,” according to the news report. Flannery said the company had “focused increasingly on housing-related assets” to find attractive yields and said “the level of underperformance” was “unprecedented in our 30-year history as a fixed income manager.”
According to the WSJ, State Street told institutional investors in a report that as of July 31, the Government/Credit bond fund was leveraged to nearly 6-to-1 – meaning that the fund borrowed to increase its portfolio to about six times the amount of money clients invested. A footnote said the investments included Treasury futures, options on futures, interest rate swaps, and interest rate “swaptions.”