California's giant public pension fund has been laboring for more than three years, without any luck, to recoup huge investment losses that it blames on Wall Street's powerful credit-rating agencies.
It just got a huge assist.
The state's attorney general, Kamala Harris, sued rating agency Standard & Poor's on Tuesday, blaming S&P for a total of $1.36 billion in losses sustained by CalPERS and the state's other big pension fund, CalSTRS. Her lawsuit came one day after the federal government sued S&P over losses suffered by investors nationwide.
Experts said the one-two punch will likely be an enormous legal boost to CalPERS, the California Public Employees' Retirement System. Cal-PERS has been pursuing all three big ratings agencies over its losses since July 2009 but so far hasn't collected a dime.
"I'd be shocked if it didn't help CalPERS," said John Hunt, a UC Davis law professor who studies financial regulation and the role of the ratings agencies.
Hunt said the ratings agencies have fended off other lawsuits in the past, but this could be different.
"Having the federal government sue you, and now the attorney general of the largest state, changes the conversation," he said.
California was one of 16 states, plus the District of Columbia, that were expected to announce lawsuits against S&P by the end of the day, according to the Associated Press.
The lawsuits all make the same basic argument: that S&P slapped its gold-star "AAA" rating, supposedly reserved for the safest deals, on high-risk securities backed by questionable mortgages. The federal case was filed in Los Angeles because a giant credit union in nearby San Dimas, known as Wescorp, collapsed under the weight of these bad investments.
CalPERS originally sued S&P and the other two big ratings agencies, Moody's and Fitch, over losses it suffered investing in so-called "structured investment vehicles." SIVs were a breed of special companies that sprang up during the real estate boom and invested in commercial and residential mortgages, plus other deals.
Filed in San Francisco Superior Court, Harris' lawsuit blames S&P for the SIV losses and targets a series of costly investments in residential mortgage securities made by CalPERS and CalSTRS, the California State Teachers' Retirement System.
All told, she said CalPERS lost nearly $1.32 billion on a series of investments, almost all of which received AAA ratings. CalSTRS lost $39.4 million. The state's lawsuit seeks triple damages, which would bring the total to more than $4 billion.
CalPERS issued a statement applauding the attorney general's lawsuit, while CalSTRS declined to comment.
Federal and state officials declined to say why they singled out S&P in the latest lawsuits.
"With regards to any other institution or individual, we're just not in any position to say where we are," said Attorney General Eric Holder during a press conference in Washington. Harris, through a spokeswoman, also declined to comment on whether she planned to sue any of the other ratings agencies.
Even though they're the two biggest public pension funds in America, with more than $400 billion in assets between them, CalPERS and CalSTRS were depicted in the state's case as innocents who relied heavily on S&P when making investment decisions.
"S&P's ratings had a natural tendency to influence, and did influence," the pension firm's investments, the lawsuit said.
The federal and state lawsuits say S&P knowingly inflated its credit ratings on a slew of doomed securities and took a cavalier attitude about it.
According to the suits, an S&P analyst serenaded colleagues with a parody of the Talking Heads' old hit song "Burning Down the House" as the housing market was weakening in March 2007, with new lyrics:
"Subprime is boiling over, Bringing down the house."
The lawsuits cited an issue often raised by critics of the ratings agency the fact that they get paid by the investment firms they're rating. According to the lawsuits, this business model created an obvious conflict of interest that "intentionally corrupted" S&P's ratings methods.
S&P called the lawsuits "meritless" and said it has instituted reforms to "reinforce the integrity, independence and performance" of its ratings.
"Although we deeply regret that these ratings did not perform as expected, 20/20 hindsight is no basis to take legal action against the good-faith opinions of professionals," the firm added.
All three ratings agencies denied any wrongdoing in connection with CalPERS' original lawsuit, in 2009. The big pension fund settled with Fitch in 2011; no money changed hands, but Fitch agreed to give CalPERS confidential documents to help it go after S&P and Moody's.
Michael Troncoso, Harris' chief counsel, said Tuesday's lawsuit goes deeper and provides more evidence than CalPERS' original case, which was filed by a private law firm from San Francisco. The attorney general put dozens of attorneys and investigators on the case, he said.
"We took our time; we did it right," he said.