SEC Lacked Evidence to Find State Street Execs Liable

Securities Law Daily provides daily coverage of developments in the regulation of federal, state, and international securities and futures trading, with objective coverage of the...

By Phyllis Diamond

Dec. 8 — The Securities and Exchange Commission didn't have enough evidence to support its conclusion that two former State Street Bank & Trust Co. executives made material misstatements to investors about two State Street funds, the U.S. Court of Appeals for the First Circuit concluded.

With respect to James Hopkins, head of North American product engineering for State Street's fixed income funds, the Enforcement Division's showing of materiality was “marginal,” Judge Sandra Lynch said.

With respect to John Flannery, a former fixed income chief investment officer, at least one of two August 2007 letters to investors wasn't misleading, the appeals court held. As such, it said it needn't decide whether the other letter was misleading.

The court vacated the SEC's order finding the executives liability and granted their petitions for review of the commission's decision.

According to the charges, (192 SLD, 10/6/10), Flannery and Hopkins marketed State Street's Limited Duration Bond Fund as an alternative to a money market fund for certain types of investors. However, by 2007, the fund was invested almost entirely in subprime residential mortgage-backed securities and derivatives. The two nonetheless continued to hold the fund out as less risky than a typical money market fund and didn't tell investors about the extent of its concentration in subprime investments, the division alleged.

After an 11-day hearing, the administrative law judge ruled in favor of Flannery and Hopkins, saying LDBF investors “were sophisticated, institutional investors, most of whom engaged investment consultants to provide investment assistance” (211 SLD, 11/1/11).

Late last year, a divided SEC reversed; it found Hopkins liable under 1933 Securities Act Section 17(a)(1) and 1934 Securities Exchange Act Section 10(b) and Flannery liable under Section 17(a)(3). It imposed cease and desist orders against both men and imposed civil money penalties totaling $71,500.

Earlier this year, Flannery and Hopkins asked the First Circuit to review the commission's conclusion that the limitations on liability articulated in Janus Capital Group Inc. v. First Derivative Traders, (114 SLD, 6/14/11), didn't apply to Exchange Act Rules 10b-5(a) and 10b-5(c), and 1933 Act Section 17(a)(15 SLD, 1/23/15).

In response, the SEC told the appeals court that there was substantial evidence to support its finding that the two men committed securities law violations(138 SLD, 7/20/15). It also argued that it reasonably interpreted 1933 Securities Act Section 17(a)(3) in imposing liability on the two executives.

The commission didn't respond immediately to a request for comment.

Flannery was represented by McDermott Will & Emery LLP. Mintz Levin Cohn Ferris Glovsky & Popeo PC represented Hopkins.

To contact the reporter on this story: Phyllis Diamond in Washington at

To contact the editor responsible for this story: Susan Jenkins at