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State Street Settles Fraud Claims with SEC

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  • Posted on: Sep 27 2017

On September 7, 2017, the Securities and Exchange Commission (“SEC”) announced that State Street Corp. agreed to pay more than $35 million to settle charges that it fraudulently charged secret markups for transition management services and separately omitted material information about the operation of its platform for trading U.S. Treasury securities.  

Hidden Transition Management Fees

The SEC charged State Street with defrauding six institutional investors by charging hidden markups for trades of U.S. Treasuries on its electronic platform. The scheme, which reportedly began in 2010, revolved around the highly competitive transition management business. State Street overcharged institutional investors that were changing fund managers of investment strategies for its services.

According to the SEC, Ross McClellan, an executive vice president of State Street, oversaw the scheme that targeted large deals for markups because the overcharges would not draw attention. The scheme first targeted a sovereign wealth fund in the Middle East in 2010. The bank offered to rework its $6 billion portfolio without charging a commission.

In reality, State Street booked $2.7 million (9 basis points) in markups that were disguised as  a “bid offer spread.” McClellan directed two U.K.-based State Street traders to take the undisclosed markups, but one of the traders was picked up on a recorded line telling a colleague no one would notice, calling it a “rounding error.” Similar schemes saw the bank cheat an Irish government agency of $4.5 million and a U.K. postal company of $3 million in undisclosed transition management charges.

“Agreeing to a fee arrangement and then secretly tucking in hidden, unauthorized markups is fraudulent mistreatment of customers,” said Paul G. Levenson, Director of the SEC’s Boston Regional Office that investigated the overcharges.

In a statement, State Street said that the settlement concluded all governmental investigations related to the overcharging.

“We deeply regret that our clients were impacted and that a small number of our employees failed to meet our expectations,” State Street said. “The impacted clients were fully reimbursed, and over the past several years we have taken significant steps to strengthen our controls for our transition management business, and more broadly to enhance our compliance program, culture and operating environment.”

The settlement comes on the heels of a deferred prosecution agreement the bank previously entered into with the Department of Justice in January to resolve criminal charges that it engaged in the scheme that is the subject of the settlement with the SEC. (Here.) State Street agreed to pay a penalty of $32.3 million to settle the criminal charges and offered to pay the same amount to the SEC as a penalty to resolve the civil charges.

A copy of the SEC’s order can be found here.

Failure to Make Material Disclosures

The SEC also charged the bank with failing to make material disclosures relative to “GovEx,” the bank’s electronic trading platform for U.S. Treasuries. The bank described the platform (known as the Last Look platform) as fair and transparent but gave special treatment to certain subscribers by allowing them to reject matches to quotes they had submitted. 

“Firms that run trading platforms cannot mislead subscribers about their order handling operations,” said Kathryn A. Pyszka, Associate Director of the SEC’s Chicago Regional Office that investigated the GovEx-related disclosure failures.

A copy of the SEC’s order can be found here.

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