The state of Alaska is in settlement talks with State Street Global Advisors, trying to recover money lost in state employee retirement accounts in August.
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"We've made good progress in the negotiations with them," said Brian Andrews, deputy commissioner of the Department of Revenue.
State Department of Revenue officials say State Street's Daily Corporate/Government Bond Fund was billed as an especially safe investment option, but the company instead went for risky investments.
"That bond fund was mismanaged by State Street," Andrews said.
State employees lost about $5.65 million when the bond fund suddenly began losing value in August, at a time when the index that it was supposed to mimic actually rose.
Andrews said the problem was that the fund's managers borrowed money, known as "leveraging," in an effort to boost their returns when the investments they made with the borrowed money rose in value. Instead, they declined, magnifying the losses.
"It was that imprudent action on their part of using leverage that was inappropriate," Andrews said.
The Alaska Retirement Management Board held an emergency meeting in August and pulled the remaining $30 million out of the bond fund. Alaska was among the first of many investors to do so, and avoided worse losses others suffered.
State Street spokeswoman Arlene Roberts left a phone message saying the company "generally won't comment on matters that are in litigation," and did not respond to further inquiries.
Alaska has not filed a lawsuit, although at least three other entities with investments in the fund have. Assistant Attorney General Mike Barnhill is involved in the negotiations for the state, and he said settlement talks are ongoing.
The trade publication "Pensions & Investments" reported that several top bond managers were no longer with State Street, and called it a "housecleaning" after the summer's investment losses.
While the bond fund in question was a small one, the relationship between Alaska and State Street is an extensive one.
Just days after the Alaska Retirement Management Board pulled out of the bond fund, the Alaska Permanent Fund Corp. invested $500 million in another State Street fund, this one focused on emerging markets stocks, said Mike Burns, executive director of the fund.
"Our confidence was not shaken" by what some other area of the huge organization did, he said.
The permanent fund did extensive research into State Street before deciding to invest there, he said. They were assured by what they saw that the managers of the emerging markets investments had appropriate oversight.
"We put an enormous amount of time into this decision," Burns said. "Not that we wouldn't undo it if the cause was there."
The state of Alaska has an even larger relationship with State Street than just the permanent fund. Andrews said another $3.5 billion in general fund and retirement money are invested with State Street elsewhere.
The management fees that Alaska pays on that money amount to millions of dollars a year, and might be put at risk by a lawsuit.
Investors in the fund are mostly employees who selected the bond fund as part of the Supplemental Benefit System. A smaller number of employees chose that selection as part of their Defined Contribution retirement plan under the state's new Tier IV retirement system adopted by the Legislature last year.
Because the defined contribution has only been around for a short period of time, there is little money there so far, Andrews said.
Because the bond fund was touted as a conservative investment option, Andrews said most of those invested in it were likely nearing retirement age, a time when they couldn't afford to make the riskier investments younger workers might be more comfortable with.
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