Curtis M. Loftis Jr., South Carolina treasurer, won a skirmish in the battle of wills with other members of the South Carolina Retirement System Investment Commission through settlement of long-running securities lending litigation with Bank of New York Mellon Corp.
BNY Mellon last month agreed to pay a total of $34 million to settle the suit that was initiated in 2010 by Converse Chellis III, the previous treasurer, and then refiled by Mr. Loftis.
About $20 million will be credited to the collateral reinvestment fund of the $27.3 billion South Carolina Retirement Systems and $5 million will go into the same type of fund for state operating accounts. Legal fees, being paid by BNY Mellon, total $9 million, according to the settlement document, which was obtained by Pensions & Investments from the treasurer's office through a Freedom of Information Act request.
The settlement stipulates BNY Mellon will be awarded a 10-year contract for global custody services for approximately $40 billion of state money that Mr. Loftis oversees, including retirement system assets.
Mr. Loftis originally sought $200 million in damages and fees from BNY Mellon, alleging the bank caused losses in state securities lending reinvestment funds by investing collateral inappropriately in mortgage-backed securities and in Lehman Brothers' debt instruments.
Mr. Loftis' complaint was filed on Jan. 26, 2011, in South Carolina state court.
BNY Mellon agreed to settle the case while denying “any and all allegations and liability” or “any breach” of the securities lending agreement, according to the settlement.
“We are pleased to have reached an agreement with the state, which puts the litigation behind us and allows us to continue to build on our long-standing relationship with the state,” said Kevin Heine, a BNY Mellon spokesman, in an e-mail.
The South Carolina treasurer is the custodian of state money and has the authority to procure custody services without the consent of the investment commission, which oversees investment of the state pension plans. Both the commission and the retirement system are based in Columbia.
Mr. Loftis and fellow investment commissioners have been at odds over the management of the state retirement fund since he took over the treasurer's role in 2011 and became the only elected member of the commission.
When the BNY Mellon settlement was brought up at a May 21 commission meeting, Mr. Loftis was intently questioned about the deal by other commissioners. Eventually, he left the meeting before its conclusion, expressing frustration, according to sources who attended the meeting.
Mr. Loftis initiated a search for global custody services in December 2011. BNY Mellon, the incumbent, was permitted to rebid.
An evaluation committee determined that BNY Mellon's proposal “would be most advantageous to the state,” according to the settlement. The evaluation committee was made up of employees from the treasurer's office, the investment commission, and the South Carolina Public Benefit Authority, the administrative arm of the state retirement system.
While the securities lending settlement is final and the money already has been disbursed, the global custody contract with BNY Mellon has not been inked, which concerns Reynolds Williams, chairman of the investment commission.
“It's impossible for me to comment on the custody contract because the commission doesn't know anything about it. We have not been in the loop on this process, not because we didn't want to be,” Mr. Williams said in an interview.
“The commission and investment staff gave input about what services were important to us, and we hear that some of those things we asked for are in the proposed contract, but we won't know until we get a copy,” he added.
Mr. Loftis said in an interview that he is negotiating with BNY Mellon and it will “take a little while” for the complicated agreement to be completed. “Now it's time to fill in the blanks and let the lawyers bash it out,” he said.
“I've achieved the perfect alignment of interest with this settlement. This is an advantageous contract,” said Mr. Loftis. “I've preserved the independence of the investment commission as the investor and gained the potential for significant savings if we do aggregate global custody services with BNY Mellon.”
Sweeteners in the settlement agreement that promote the bundling Mr. Loftis mentioned include a variety of service credits, including a new securities lending revenue split of 90% to the state funds and 10% to the bank, up from the previous 85%-15% formula.
The treasurer and the investment commission will decide whether to use BNY Mellon as its securities lending agent and may set investment guidelines for the collateral pools, according to the settlement document. The higher revenue split will only apply if the securities lending contract is for at least 10 years.
Annual custody fees will be reduced by 20% if the investment commission opts to place at least $3 billion on the hedge fund managed account investment platform of HedgeMark International LLC, a BNY Mellon subsidiary, for at least 10 years.
The settlement notes BNY Mellon's fees before service rebates will total about $2.6 million per year over the decade of the contract. If the investment commission does use the hedge fund investment platform, HedgeMark's fees also will be reduced by 20%.
BNY Mellon also will provide $150,000 annually over the next 10 years to train employees of the treasurer's office, the investment commission and the public benefit authority.
While not spelling out total savings, the agreement document said “settlement benefits, including payments made, future credits, discounts and training provide substantial value to South Carolina considerably in excess of the cash payments made.”
A pension attorney who asked not to be identified termed the settlement agreement “pretty weird,” but noted South Carolina will be the beneficiary. “It looks like BNY Mellon is getting slammed very hard here based on the length of time and the percentage splits and discounts favoring the treasurer in each of the 10-year provisions,” the lawyer said.
Mr. Williams said he could not predict whether the investment commission will opt to accept BNY Mellon's service credit offers.
“The future is all hypothetical,” Mr. Williams stressed. “All we know is that the South Carolina Retirement Systems have gotten about $20 million from the settlement. Everything else is unknown. To echo Vice President (Walter) Mondale, we are in 'where's the beef?' mode. We are waiting to see what's offered.”