Colin Barr

Following the money in banking, economics, and Washington

SEC sues ex-State Street execs in subprime scam

September 30, 2010: 2:15 PM ET

Securities regulators charged two former State Street execs with ripping off investors in a subprime fraud scam.

The Securities and Exchange Commission said John Flannery and James Hopkins sold a State Street (STT) bond fund to investors as an alternative to supposedly safe money market funds. But by 2007, the agency said, the fund was invested almost entirely in subprime mortgage-backed securities and derivatives whose value collapsed when the markets for risky debt dried up.

But are they subprime?

The two continued to sell the fund, known as the Limited Duration Bond Fund, without disclosing its risk and illiquidity, the agency said. Meanwhile, the company was telling some clients about the subprime problems in the fund, allowing them to cash out while others were left holding an increasingly illiquid asset.

"Hopkins and Flannery misled State Street's investors about the risks and credit quality of a fund concentrated in subprime bonds and other subprime investments," said Robert Khuzami, Director of the SEC's Division of Enforcement. "The SEC is committed to identifying and holding accountable those who violated the law and harmed investors through subprime investments."

The SEC is seeking to bar the two from the securities industry and to assess unspecified civil damages.

Flannery, of Scituate, Mass., a shore town south of Boston, was the firm's chief investment officer for the Americas till he was fired in a 2007 restructuring, the SEC said. Hopkins, of Wellesley, Mass., was named head of product engineering for North America in 2008 but has since left the firm, State Street said. Calls to both weren't immediately returned.

State Street paid the SEC $300 million and private litigants nearly $350 million earlier this year to settle related cases.

"State Street has resolved this matter both in terms of addressing client concerns as well as settling with the SEC and will not comment on the SEC's separate investigations into individuals who are no longer with the firm," the firm said.

The SEC is pursuing a similar case revolving around an asset manager's disclosure of its subprime exposure against Morgan Keegan and a fund manager there, James Kelsoe.

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Colin Barr
Colin Barr
Senior Writer, Fortune

Colin Barr has covered finance for Fortune.com since November 2007. Previously he was a writer and editor for TheStreet.com, winning a 2006 Society of American Business Editors and Writers award for "The Five Dumbest Things on Wall Street," and for Dow Jones Newswires. He is a 1991 graduate of Penn State and lives in Port Washington, N.Y., with his wife Meena Bose and their two kids.

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