Bank of New York Mellon Corp. secretly manipulated the cost of millions of dollars in currency trades conducted for Boston mutual fund giant Fidelity Investments, according to court documents filed by the Department of Justice in an ongoing investigation of the bank’s foreign exchange pricing.
Federal prosecutors and New York state’s attorney general filed civil fraud charges against BNY Mellon last year, alleging that the bank overcharged pension funds and investment managers for certain foreign currency trades, and misled them about practices that generated $1.5 billion in revenues.
Now it turns out that Fidelity, which has so far been silent on the investigation, was the second-largest client of BNY Mellon’s lucrative foreign exchange trading desk in 2008, and the largest in 2010, paying a total of $59 million in fees in a four-year period, according to the complaint.
Mutual funds and other large investors trades billions of dollars in foreign currencies because they buy and sell stocks and bonds in other countries, using the local currency. In addition, when international stocks pay dividends, they generate payments that need to be converted into dollars.
At issue in the nationwide probe of foreign exchange are so-called “standing instruction’’ trades, where investors outsource smaller currency transactions to big banks to handle. Even though these trades are more expensive, mutual funds have relied on banks like BNY Mellon and Boston’s State Street Corp. for the convenience — and only recently learned the banks were making a fortune, allegedly by misleading clients about the actual costs.
According to the government’s allegations, BNY Mellon said on its website and in proposals that it was pricing trades with the client’s interests in mind. But in reality, the bank would often charge clients the worst possible prices, as if they had bought currency at the highest price of the day and sold it at the lowest.
For instance, in 2008, BNY Mellon secretly cut prices for Fidelity, when the mutual fund firm was doing a large volume of trades, “to prevent Fidelity from noticing and/or complaining that it was receiving such poor pricing,’’ the Justice Department said in its amended complaint, filed June 6 in federal court in New York. Then in 2009, when Fidelity cut the number of trades it was sending to the bank, BNY Mellon reverted to the usual pricing without consulting Fidelity.
The government’s complaint says BNY Mellon settled in April with Prudential Financial Inc., repaying the Newark, N.J., insurer half the $28 million in fees that it had paid for foreign exchange services.
BNY Mellon spokesman John Heine declined to comment on whether the bank was negotiating a similar settlement with Fidelity.
The bank continues to believe it has a strong legal defense, and felt vindicated by recent dismissals of foreign exchange cases brought by whistleblowers in California and Virginia, Heine said. As far as the possibility of more settlements, however, “we have also said that we will be pragmatic,’’ he added.
Fidelity Investments declined to say whether it is putting pressure on BNY Mellon to make a deal. “We are monitoring information and allegations concerning custodian bank practices,’’ said Fidelity spokesman Vincent Loporchio.
State Street also is facing lawsuits alleging it overcharged for foreign exchange. In 2009, the company was the first to be sued in the matter, in a slew of whistleblower lawsuits led by Harry Markopolos, the whistleblower in the Bernard Madoff fraud case.State Street denies wrongdoing, and is fighting the lawsuits.
Fidelity handles much of its own foreign exchange, and still does business with BNY Mellon as well as other banks, particularly to handle dividend payments on international stocks. Fidelity has a fiduciary duty to get the best deal on trades that it can for its shareholders. In 2008, it did $11 billion worth of currency business with BNY Mellon, and paid $22.7 million in fees, according to the government’s complaint.
The Massachusetts state pension plan is among those that have alleged that they were overcharged for foreign currency services. Secretary of State William F. Galvin has sued BNY Mellon on the pension plan’s behalf, alleging that it overpaid $29 million in fees.
The Department of Justice complaint cited the Massachusetts situation, alleging that BNY Mellon described its foreign exchange services to the state as providing “competitive rates in a transparent market,’’ while internally touting its profits due to a lack of transparency.
After the State Street lawsuit, when the Massachusetts pension fund asked BNY Mellon about its mark-up on foreign exchange, the bank pled ignorance, the government alleged. In its March 2011 response, the bank “claimed that it did not ‘understand’ what was meant by ‘mark up,’’’ according to the federal complaint.