Idaho may lose $27M from 'inappropriate' transfers

Idaho may lose $27M from 'inappropriate' transfers
Idaho Treasurer Ron Crane is shown in his office at the state Capitol in Boise, Idaho, Tuesday Nov. 8, 2011. Crane plans to ask family members of government officials who go along on annual trips to New York City in the future to reimburse the state for their own transportation if they add to the costs. (AP Photo/Jessie L. Bonner)
BOISE, Idaho (AP) — State Treasurer Ron Crane's office made inappropriate transfers that cost taxpayers at least $10.2 million, though the hit to state funds could grow by millions more, according to an audit that concluded Idaho's money manager overrode internal controls meant to contain financial risks.

Legislative auditors said in a report Crane's office should strengthen measures designed to keep Idaho from losing money. Following its release, lawmakers Friday also called for new oversight on grounds Crane now has too much authority to shift investments without guidance of others.

The losses result from investments in mortgage-backed securities hit by the housing bubble's collapse. Crane shifted these investments between accounts in 2009, exposing state taxpayers to the risk, auditors say.

Crane's office "inappropriately transferred investments...resulting in a disproportionate share of investment losses incurred by the state," according to the report issued by April Renfro, a certified public accountant who oversees Idaho's Legislative Audits Division.

What's more, auditors wrote, Crane's office still oversees $2.9 billion in the accounts hit by the losses — "without the aid of independent oversight to review investment activity and to ensure fiduciary duties have been considered."

Crane, a four-term treasurer whose management has drawn fire from auditors in the past, including spending thousands on limousines during trips to New York, declined to make himself available for an interview.

But in a written response, Crane says he disagrees with the finding. "It is only through the lens of hindsight that the decision is being evaluated," he wrote, adding that he believes the report includes "outright falsehoods" to which he "vigorously objects."

The situation emerged in around 2008.

That's when ratings agency Standard and Poor's threatened to downgrade the rating of a fund Crane manages — called the Local Government Investment Pool — that allows cities and counties to pool cash they don't immediately need.

Standard and Poor's cited the vulnerability of the fund's mortgage-backed securities. At the time, housing values were dropping, people across the country were defaulting on their mortgages at historical levels — and the securities that backed those home loans were going bust.

Though those mortgage-backed securities had a face value of $31 million, their market value was far lower, only $19 million.

To protect the local government fund's rating, according to the report, Crane's office shifted those distressed securities into another fund, Idaho's so-called Idle Pool, where state government parks cash it doesn't immediately need.

Instead of accounting for the securities at their market value, however, Crane took $31 million in cash from the Idle Pool and put it into the local government fund — a full $11 million more than the securities were worth at the time to investors.

"This is an exchange transaction that should have been handled at arm's length (and) should have had adequate internal controls in place to protect the interests of both parties," auditors wrote. "The transactions were completed at amounts in excess of fair market value."

Last year, when Crane liquidated the securities, he booked a $10.2 million loss for the state. The local government investments, meanwhile, lost nothing.

They have "no exposure to any remaining risk of loss," according to the report.

However, an even bigger hit could still come: "The two remaining securities...were in an unrealized loss position of approximately $17.4 million at June 30, 2013," according to the audit that concludes Crane's activities undercut his fiduciary duty.

Crane, who vehemently denies unnecessarily exposing Idaho taxpayers to risks, said in a statement that the unrealized losses as of Friday had narrowed, to $14 million.

"The assertion that the state treasurer's office's internal controls were overridden is false," he said. "In this case, the investment and management decisions were made after due diligence and consideration of the circumstances known at the time."

Reached Friday, Renfro reiterated auditors' conclusions Crane's office exposed Idaho taxpayers to risk and broke its fiduciary duty to state taxpayers, all to protect the credit rating of the local government fund from a downgrade.

"We stand behind my report and my auditors' conclusions," Renfro told The Associated Press.

Sen. Dean Cameron, R-Rupert and a co-chairman of the Joint Finance-Appropriations budget committee, said the losses show Crane's office has too much latitude to make investment decisions absent adequate oversight from a professional board — much like Idaho's existing Endowment Fund — tasked with ensuring he fulfills his fiduciary obligations.

"It calls into question the entire process," Cameron said. "There's a lack of transparency and a lack of communication. This raises the question of whether there needs to be a different system. We have no other state entity that invests funds with the authority of a single person."

Crane sent a press release later Friday evening that reads:

"It is disappointing to me that the LSO auditor has decided to raise questions about transactions that occurred in 2008 and 2009 and then second guess our decisions by using ‘hindsight’ which is always 20/20. It appears the auditor is using this platform for political purposes.”

“There are two categories to the finding submitted by the LSO Audit Division concerning my office. Both are related to assets we managed five and six years ago in the portfolios we oversee.”

“The first category addresses the moving of some securities from one portfolio to another at the suggestion of the S&P rating agency and with the encouragement of our securities lending agent. While we are of the opinion we did the right thing at the time, better accounting practices could have been employed by conducting an actual buy and sell transaction. Better oversight systems are now in place to prevent this from happening again and have been for some time.”

“The other aspect to this finding suggests that the Local Government Investment Pool benefited at the expense of the state’s Idle pool from the transfer of these assets. However, this occurred in 2008 and 2009, when we had every expectation that the securities in question would perform normally. At that time, we had no reason to believe there would be any losses in either portfolio, in fact, our research indicated otherwise.”

“During FY 2013, the State Treasurer’s Office determined that it was an opportune time to sell certain distressed mortgage backed securities out of the Securities Lending collateral portfolio, given that liquidity and demand had returned to the Alt-A mortgage backed security market. The market values on the Alt-A pools had improved to levels more representative of the underlying home loans in the pools, taking into account future losses that will eventually have to be recognized. With interest rates at historic lows and bond prices near all-time highs from the unprecedented stimulus from the Federal Reserve Board of Governors, the Treasurer’s Office was able to 'harvest' gains from investments in the IDLE pool to offset the recognized losses to reduce any future fiscal strain on the State of Idaho general fund.

The STO realized $10,100,464.99 in losses at the time of sale in FY2013; during the same time period the STO realized $10,222,586.41 in gains on the sale of assets which led to a net realized gain of $122,121.42.

There are currently $14,022,378.11 in unrealized losses present in the securities lending collateral portfolio, which has come down from $17,473,507.18 since the June 30th report cited by audit staff. The STO will continue to monitor the performance of the remaining two distressed assets and manage them accordingly.

Due to the unprecedented economic crises experienced 2007-2011, there have been numerous and considerable losses realized by investment portfolios nationwide. Investing has inherent risks and the placement of a committee or board members will not eliminate those risks. In fact, other agencies in Idaho have had similar experiences with distressed assets in securities lending portfolios while being governed by a board.

While it is convenient to use hindsight when evaluating investment decisions, the STO remains steadfast in our dedication to manage our portfolios in a manner consistent with our fiduciary duties. The STO manages each situation to the best of our ability based on information available to us at the time.”

“While there is a measure of truth to portions of the finding and to which we agree, there are also outright falsehoods and subtle implications of impropriety that simply don’t “hold water” and to which we vigorously object.”

“I re-emphasize that the portfolios we manage experienced more gains than losses, allowing us to mitigate the losses from non-performing assets."