By Justin Baer 

An Arkansas public pension plan sued Allianz Global Investors and its corporate parent late Monday, alleging the money manager violated its fiduciary duties and abandoned risk controls when it sought to reverse February losses by doubling down on a series of unprofitable trades.

Those trades, the Arkansas Teacher Retirement System wrote in its suit, left Allianz's Structured Alpha funds "dangerously exposed to even the slightest increase in market volatility or decline in equity prices -- the very conditions that Allianz economists, and many others, warned were on the immediate horizon."

While the stock market has recovered in the past few months, Monday's lawsuit shows the extent at which the March declines are likely to wreak havoc on all types of investors for years. Pension funds are particularly vulnerable because governments have routinely failed to pay in as much as needed, leading the retirement funds to opt for increasingly risky investment strategies in an effort to cover shortfalls.

Stocks fell sharply in March as investors responded to grave news on the spread and economic impact of the coronavirus. Market volatility spiked to a record. Later that month, Allianz moved to shut two of its most-aggressive Structured Alpha funds, locking in huge losses. And many of its other funds, including the three held by Arkansas Teacher, were sitting on year-to-date losses well in excess of their benchmark indexes. Allianz Global is owned by Allianz SE.

Arkansas Teacher said it had lost at least $774 million by late March on its investments in the Structured Alpha U.S. Equity 250, Global Equity 350 and Global Equity 500 funds. On April 6, the retirement system filed to redeem its remaining investment from the funds.

"The premise of the lawsuit is simply incorrect and without foundation, as the funds in the Structured Alpha portfolio did not diverge from their investment strategy," an Allianz spokesman said. "While the losses suffered in the portfolio are deeply disappointing, there is no basis for legal liability. AllianzGI intends to defend itself vigorously against these allegations."

Allianz's Structured Alpha funds had sold insurance against a market selloff, a strategy that brought in steady premiums for much of the decadelong bull market. But the Allianz managers had told investors it maintained another set of positions that would protect the funds against that market downturn -- even severe ones.

In its suit, Arkansas Teacher alleged that Allianz was negligent when it gambled that the options trades would reverse their February slide in spite of warnings that market conditions could worsen. The retirement system also accused Allianz of making a last-ditch effort to recoup its losses by making a flurry of March 18 trades to drive down the price of the Cboe Volatility Index, the popular "fear gauge" that had reached a record two days earlier.

Allianz's desperation, the pension plan wrote, was in part driven by a fee structure that rewarded the manager only if the funds exceeded their benchmarks.

"The funds' fee structure would have made it impossible for Allianz to earn any fees for its management of the funds for the foreseeable future if the losses experienced in February were not recovered by the end of March," the suit wrote. "Faced with these realities and motivated by self-interest, defendants risked client assets to recover these short-term losses."

The Wall Street Journal reported in May that some investors were caught off guard by the extent of the losses, and felt the managers' explanations on what went wrong were lacking. In a March 27 report to clients, pension investment consultant Aon Hewitt downgraded the Structured Alpha funds to "sell," reflecting "the flawed portfolio construction and poor portfolio management decisions during the drawdown."

"Allianz has been less forthcoming with information than we would have hoped in such a critical time for investors," the Aon consultants wrote.

Write to Justin Baer at justin.baer@wsj.com

 

(END) Dow Jones Newswires

July 21, 2020 12:45 ET (16:45 GMT)

Copyright (c) 2020 Dow Jones & Company, Inc.
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