Oregon Sues 529 Fund Manager

Oregon has sued the firm for losses of $36.2 million incurred by participants in the Oregon College Savings Plan, a 529 college savings plan which Oppenheimer manages.   According to the Wall Street Journal, at least four other states had hired Oppenheimer to manage parts of their college-savings plans, including Texas, New Me, Illinois and Maine (see  College Savings Plans Hit Hard by Oppenheimer Fund Loss) . A spokeswoman for Illinois’s state treasurer said the state is working with the other states, “to try to negotiate a settlement,” according to the WSJ.

In the lawsuit, filed in Marion County, Ore., the State Treasurer and Oregon 529 College Savings Board allege violations of Oregon securities law, breach of contract, breach of fiduciary duty, negligence and negligent misrepresentation.   Treasurer Ben Westlund and Attorney General John Kroger said the lawsuit was filed on behalf of families and aims to recoup their losses.

“We are taking action on behalf of Oregon families whose college accounts were battered — and their financial futures jeopardized — because of OppenheimerFunds,” said Treasurer Westlund. “Families were doing the right thing and saving for college, but unknown to them or Oregon, their money was invested in ways that were plainly inappropriate for those saving for college or already in college.”

Investigation Undertaken

Monday’s filing comes after a three-month investigation by the Oregon Attorney General, which found that Oppenheimer Funds represented that certain investments were appropriate for conservative and ultra-conservative portfolios – “but shuttled college savings instead into a hedge-fund like investment fund that took extreme risks in a search for speculative large returns,” according to an  announcement of the action.

In response, OppenheimerFunds said in a  statement it was “…very disappointed by the actions of the Oregon Attorney General Office’s in filing a lawsuit against it today seeking to recover amounts lost in investments held in the Oregon College Savings Plan.”   The fund manager said that it had “cooperated fully with the State of Oregon in its inquiry into OFI’s role as program manager for the funds at issue” over the past several months, and “despite this cooperation and ongoing dialogue with the State, Oregon proceeded to file its suit without so much as a single meeting with OFI or its representatives in an effort to discuss their concerns or potential solutions.”   Noting that it was “deeply concerned with the investigative process followed by Oregon and its decision to file a suit given the fact that the State Attorney General did not conduct the investigation but rather hired and paid an outside attorney to do so,” OFI said “we are prepared to defend ourselves and our reputation vigorously against these claims which lack legal merit.

The lawsuit focuses on the Oppenheimer Core Bond Fund, which was part of five age-based portfolios in the Oregon College Savings Plan.   The  lawsuit  alleges that the character of the OppenheimerFunds Core Bond Fund changed in 2007 and 2008, but neither the state nor investors were alerted that the fund had become "significantly more aggressive and risky".   The Investment Policy for the Oregon College Savings Plan provided that "Ultra-Conservative/In College" and "Conservative/1-3 Years to College" portfolios had the primary investment objectives of "protection of principal" and "income," according to the announcement.

Steep Losses

While the Core Bond Fund lost a total of nearly 36% for the year 2008, its benchmark index was actually up 5% for the year, according to Oregon officials - and through March 2009, the Core Bond Fund lost another 10% while the index remained virtually even.   Oregon officials noted that Morningstar Inc. gave OppenheimerFunds a grade of "F" in February for failing to communicate with its investors about the true nature of its funds.

According to the WSJ, Oppenheimer Core Bond fund's sharp losses in 2008 stem partly from bets on high-quality commercial mortgage-backed securities, which its manager believed would rise in value. To make these investments, the fund used a type of derivative called total-return swaps, which are agreements between parties to exchange cash flows in the future based on how a set of securities performs. But commercial mortgage securities have deteriorated since last year, thanks to the worsening economy.

Unprecedented Volatility

In its  response to the suit, OFI acknowledged that "the mutual funds cited in the complaint experienced significant losses due to unprecedented market volatility in 2008, as did other mutual funds and investments", going on to note that the investment consultant hired by the State of Oregon's Board noted at a meeting of the Board in January 2009 that OFI wasn't the only firm that made the types of investments that the fund at issue held and that the fund was hit badly by "the dislocation of the market."   OFI said that "that consultant went on to state that OFI provided 'full transparency in the portfolio, allowing it to be analyzed at both the sector and security level.'"   For its part OFI said it "did not radically change the investment policies of the Fund in 2007 and 2008, as alleged in the suit, and made no changes in the fund's investment policies and strategies without telling the board. For the Attorney General to suggest otherwise in the complaint is simply a distortion of the facts."

Also named in the suit are OppenheimerFunds Distributor Inc. and OFI Private Investments Inc. Both are based in New York.

The Oregon 529 College Savings Board voted in  January  to remove the Oppenheimer Core Bond Fund from the state 529 portfolio.