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Investment cost state $120M

Retirement funds suffer the largest losses

HARRISBURG - Pennsylvania's cash-strapped government has taken another hit with the Treasury Department's revelation that the state lost $133 million last year when a London-based financial services firm went belly up.

State Treasurer Rob McCord said that a 10-year-old securities-lending deal with Mellon Bank led in September to the massive loss after Sigma Finance Corp. collapsed.

The deal with Mellon generated $404 million for the state over the decade or so before the September losses. The Treasury Department said that Bank of New York Mellon - the successor to Mellon Bank - has returned $13.8 million in fees from 2008, reducing the effective loss to just under $120 million.

McCord said that his department has begun distributing the loss among the various accounts, based on their exposure on the day the loss occurred.

"I firmly believe that the commonwealth must proceed and make decisions under the current reality [that the funds have experienced this loss] and account for the securities lending losses now, rather than later," McCord told Gov. Ed Rendell in a Friday letter that was also sent to legislative leaders.

McCord said that the largest losses were $57 million for the state teachers' retirement system and $28 million for the state employees' pension fund. The Tuition Account Program, the Workers' Compensation Security Fund, the State Workers Insurance Fund and the Tobacco Settlement Fund all lost more than $1 million each, McCord said.

Lesser amounts were attributed to a fund for state workers' health insurance, the state lottery, an underground storage tank indemnification fund and the Pennsylvania Municipal Retirement System.

State Senate Minority Leader Bob Mellow, D-Lackawanna, asked McCord on Wednesday to investigate further, suggesting that the state might pursue a lawsuit to recover some of the money.

Mellow said that he worried about taxpayers' financial exposure based on "a number of questionable and seemingly unregulated" investment practices.

"These practices include arms-length agreements between the custodians of commonwealth funds, third-party borrowers of securities and investments by the custodian that are not accountable to state officials," Mellow wrote.

McCord's chief of staff, John Lisko, said yesterday that the Treasury Department was "pursuing all possible remedies to recover whatever we can," but noted that the longer-term record for the investment was that it performed strongly over time.

"We do not necessarily believe we should throw the baby out with the bath water on this program," Lisko said. "Year after year, this has been a great program for the commonwealth, and it's led to hundreds of millions of dollars in returns."

The securities-lending agreement called for Mellon to handle the short-term loan of Pennsylvania-owned securities to investors. But when Sigma, invested in asset-backed securities and bank funds, was unable to meet its obligations, millions of dollars' worth of the state's securities disappeared.

Asked if he believed there had been any wrongdoing, Lisko said that the agency was "still conducting research as to where the fault lies - if anywhere." *