Lawsuit declares bank overcharged by $56 million

State Attorney General Jerry Brown announced this morning that California is suing the State Street Bank of Boston to recover more than $56 million that Brown says the bank has overcharged California pension funds.

A Sacramento Superior Court judge today unsealed the suit, which claims that the State Street Bank overcharged the state’s two largest pension funds, California Public Employees’ Retirement System (CalPERS) and the California State Teachers’ Retirement System (CALSTRS), for a series of foreign currency trades the bank made for the pension funds beginning in 2001.

“What we have here is a fiduciary, the State Street Bank, ripping off the state of California’s pension funds and doing so in a very subtle way, in violation of their contract and in violation of the laws of the state,” Brown said in a mid-morning press conference at his Oakland office.

The State Street Bank is a financial holding company headquartered in Boston. Among its specialties is foreign exchange currency trading for institutional investors. According to the complaint made public this morning by the attorney general’s office, State Street has been serving as the master custodian bank, the institution responsible for keeping the pension funds’ assets safe, for CalSTRS’ assets since 1986 and CalPERS’ assets since 1992. Deputy Attorney General Jeffrey Simpton said this morning that the bank still serves as the custodial bank for both pension funds.

The lawsuit was filed, Simpton said, because two as-yet unnamed whistleblowers asserted that the bank had been using an improperly high rate for foreign currency transactions. According to the attorney general’s office, the State Street Bank was “contractually obligated to price foreign currency trades using the Interbank Rate [that was in effect] at the time it executed the trade.” The interbank rate is the rate that banks charge each other for making a trade. The lawsuit alleges that the bank would trade at a time when the interbank rate was lower but would charge the pension funds for a higher rate.

The bank was able to overcharge the state in part, the lawsuit declares, because it kept the price it actually debited the pension funds within the bounds of the high and low interbank rate for each day. The bank, the suit asserts, didn’t have to provide a timestamp to show when each trade had been made.

In addition, State Street is also accused of improperly converting the pension funds’ foreign currency holdings back into dollars. According to the lawsuit, the bank allegedly marked down the foreign currency exchange rates below the interbank rate upon completion of repatriation trades, or trades that converted foreign currency back into US dollars, which would then result in underpayments.

While the State Street Bank is only alleged to have overcharged the pension funds by a few “basis points” or “pips” a day (one basis point is the equivalent of 1/100th of one penny), “the cumulative effect of the overcharges and underpayments by State Street resulted in over $56 million in damages to the Pension Funds,” the lawsuit declares. Overall, the state is seeking $200 million from State Street, which includes triple the amount in damages, civil penalties of $10,000 for each false claim, and attorneys’ fees and expenses.

The State Street Bank denied the attorney general’s claims. “We categorically deny any allegations of wrongdoing and will defend ourselves against any litigation,” State Street spokesperson Arlene Roberts said in a telephone interview Tuesday afternoon.

Formed in 1932, CalPERS handles the retirement accounts of 1.6 million public employees and retirees in the state. CalSTRS, the largest teachers’ retirement fund in the United States, manages the retirement accounts for 833,000 public school and community college employees in California. Both CalSTRS and CalPERS have their own administrative boards and hold constitutional autonomy to invest for their pension funds.

The case has been under seal since it was filed by the whistleblowers in April 2008. Simpton confirmed this morning that the whistleblowers are not employees of State Street. The two whistleblowers are listed as a qui tam party in the lawsuit and stand to take part of the earnings from the case under the False Claims Act if the state of California collects damages from the State Street Bank.

Brown assured California employees that they would receive the money that was due to them in their retirement accounts, but pointed out that this strained an already overwhelmed budget. “This is another example of how the complexity of Wall Street and financial transactions allows those without a moral compass to put money in their pocket,” Brown said.