Botched financial planning is the accusation facing Northern Trust Company, which has been sued by the Chicago Teachers’ Pension Fund over claims that the investment company breached its fiduciary duty and made unsuitable investments in risky, long-term securities that ultimately plummeted in value.
The lawsuit – which seeks class-action status – was filed by Public School Teachers’ Pension and Retirement Fund of Chicago and the city of Atlanta Firefighters’ Pension Plan. It also names Northern Trust Investments N.A.
As reported Feb. 2 by Pensions & Investments, the lawsuit stems from a Northern Trust securities lending program. Specifically, the 43-page complaint states that instead of investing the Chicago and Atlanta funds in conservative, highly liquid, ultra short-term investment funds, “Northern Trust, in flagrant violation of its duties, locked the funds into risky, long-term investments – including hundreds of millions of dollars of unregistered, illiquid securities that plummeted in value.”
On July 31, 2007, almost 70% of the securities held in the Short-Term Extendable Portfolio (STEP) were not due to mature for more than a year-and-a-half, and more than 20% of the securities in STEP were not due for at least 10 years,” the suit alleges.
“The STEP portfolio included hundreds of millions of dollars in exotic, unregistered securities issued by structured investment vehicles, or SIVs – entities that were recently identified in hearings before the congressional Financial Crisis Inquiry Commission as one of the causes of the financial crisis that served no good or productive purpose in the financial system – and millions more in securities backed by risky residential mortgages and other consumer loans.”
As of July 31, 2007, more than 15% of the securities in STEP were invested in unregistered securities – securities which, by definition, can only be sold under certain narrow circumstances and for which there is no ready market, the suit said.
Those unregistered securities included two structured investment vehicles, Sigma Finance and Theta Finance Corp. Both were created and managed by the United Kingdom-based investment management company, Gordian Knot. According to the lawsuit, the notes issued by SIVs are exotic, high-risk investments that were outside the enumerated classes of securities permitted to be held in STEP.
The lawsuit further contends that because SIVs in general – and Sigma and Theta in particular – lacked an established track record, they were entirely inappropriate investments for a conservative fund such as STEP.
The complaint also cites what could be some telling information by Northern Trust’s chief economist, Paul Kasriel. In 2006, according to the complaint, Kasriel said the following: “The U.S. housing market was in a ‘recession’ and that the housing market would ‘pull the economy down’ in 2007.”
Northern Trust, however, ignored the warnings of its own chief economist and kept the collateral pools invested in securities, the lawsuit states. And those securities had significant exposure to mortgage-backed securities, SIVs and financial institutions that (Mr.) Kasriel warned were overly exposed to mortgage-backed investments.
Northern Trust has denied the allegations.