After a six-year legal battle, the $40.4 billion Public School and Education Employee Retirement Systems of Missouri quietly settled its securities-lending lawsuit against State Street Bank & Trust Co. for $123 million, one of the larger known settlements since the financial crisis.
Following the global financial crisis, a number of institutional investors sued custodians that provided securities, attempting to stop the custodians from drastically cutting the value of the investments in their securities-lending programs. Until now, most of the settlements have been much smaller. For example, Northern Trust Corp. stated in a recent Securities and Exchange Commission filing that it paid a total of $70 million to settle all of the securities-lending lawsuits brought against it; mostly in the second quarter of 2016.
The $21.7 billion San Francisco City & County Employees' Retirement System settled with Northern Trust in December 2016 for $11.7 million. A class-action lawsuit filed by 1,500 retirement plans settled with Northern Trust for $36 million in 2015. Another class action led by three pension plans — the $2.3 billion Investment Committee of the Manhattan and Bronx Surface Transit Operating System, the $1.9 billion AFTRA Retirement Fund and the $714 million Imperial County Employees' Retirement System — settled with J.P. Morgan Chase & Co. for $150 million in 2012.
The financial crisis was a game-changer for the securities-lending business, which had been considered a safe way for institutional investors to grab a little extra return by lending securities already in their portfolios.
“Generally, investments (in the cash collateral pools) that had been very safe turned out to be not so safe,” said Michael Rosen, principal and chief investment officer of Santa Monica, Calif.-based Angeles Investment Advisors LLC.
“Securities lending is about picking up nickels in front of a steamroller,” Mr. Rosen said. “For years and years, there was no problem … but then in the crisis there was no liquidity and the steamroller got out of control. … Now you're taking losses in this portfolio and the collateral that you have … can't be sold; there's simply no bidder for this stuff.”
In that environment, some custodians offered their pension fund clients securities in lieu of cash, he said.
While Mr. Rosen was unfamiliar with the particulars of the Missouri-State Street case, he said generally factors that lead to larger settlements include the amount of securities on loan, asset size of the investor and some sort of breach of duty.