* Fidelity and others dig for FX price details
* BNY challenges Justice Department logic in FX lawsuit
* Electronic FX trading gains prominence, but hurts profits
BOSTON, Nov 28 Fidelity Investments is pushing BNY Mellon Corp and other custody banks for stricter pricing on certain foreign currency trades, the latest sign of how big investment managers are using the same tactics as public pension funds to cut expenses.
BNY had been taking advantage of customers like Fidelity and overcharging on so-called standing instruction FX trades, according to lawsuits filed by the U.S. Department of Justice and others. Now customers are paying more attention, putting pressure on the bank's revenue.
Fidelity, the second-largest U.S. mutual fund company, has not filed a lawsuit of its own, but the firm is not waiting around for the litigation to wend its way through the courts, either.
The Boston-based firm is now requiring more data from BNY and others about the specific timing and pricing of any foreign-exchange trades that aren't directly negotiated, Fidelity spokesman Steve Austin said. And Fidelity has enhanced its forex cost analysis as it works to lower expenses for its mutual fund investors, Austin added.
In the U.S. District Court in the Southern District of New York, BNY Mellon is battling the Justice Department, which is pursuing a $1 billion-plus civil fraud case against the bank. The bank argues in court filings its trade-pricing policies were permissible and did not violate any laws.
BNY Mellon spokesman Kevin Heine declined to comment on Fidelity, but said BNY foreign-exchange products continue to evolve in response to client demand and marketplace changes.
Large investors typically negotiated specific pricing only when trading large amounts of foreign currency at a time. But for most smaller transactions, say the conversion of a dividend payment received by a U.S. fund from a non-U.S. stockholding, investors relied on so-called standing instructions that gave the banks leeway in pricing.
Peter Weiler, head of global sales for Abel Noser Solutions, which analyzes the cost of foreign-exchange trades, said mutual fund boards, for example, are keen to know how their costs stack up against industry peers.
"Interest has really taken off in the last 12 months or so," Weiler said.
Fidelity ranked as one of BNY Mellon's largest standing instruction forex customers, according to the DOJ's lawsuit. The mutual fund giant lost more than $50 million on standing instruction trades with BNY Mellon from 2007 to 2010, according to DOJ filings.
Meanwhile, BNY Mellon's foreign-exchange business, once one of its most lucrative operations, is doing a fast fade. In the third quarter, BNY Mellon's total revenue for all types of foreign-exchange trading was $121 million, a year-over-year drop of 45 percent.
Before the flurry of lawsuits, revenue from foreign exchange and other trading activities accounted for as much as 12 percent of the bank's total fee revenue. It was about 6 percent in the third quarter, the bank said in financial statements.
BNY Mellon and other custody banks embroiled in litigation like State Street Corp also have been hit by a becalmed foreign-exchange market, where volatility is far below the levels seen in 2008 and 2009, reducing the volume of trading. And the banks are dealing with a wiser clientele, thanks to the many lawsuits that have exposed their big profit margins. As a result, customers are finding cheaper ways to trade, including on electronic platforms, which BNY and State Street provide.
A NOVEL STRATEGY
Although Fidelity has not joined any of the foreign-exchange trading lawsuits, the Justice Department cited its losses as a key argument in recent legal briefs in the case against BNY Mellon.
That is because prosecutors are pursuing a novel use of a statute originally designed to protect financial institutions following the 1980s savings and loan crisis, attorneys said.
The Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) was intended to protect federally insured deposits, so the DOJ's latest brief emphasizes BNY clients, including Fidelity, that have at least some banking activities.
The statute helps prosecutors because it provides a 10-year statute of limitations rather than a traditional five-year period. Under FIRREA, the government can recover civil penalties, up to $1 million for each violation or up to $5 million for a continuing violation.
"FIRREA is a very powerful statute. The Justice Department is broadly interpreting the statute, stretching it in ways not originally contemplated," said Adam Lurie, a partner in Cadwalader, Wickersham & Taft LLP, who recently served as a DOJ white-collar crime prosecutor.
Lawyers for BNY Mellon, in legal papers and background discussions with journalists, say the government can't prove that the bank's alleged foreign-exchange fraud imperiled any financial institution's federally insured deposits.
BNY cited Franklin Templeton's $4.8 million alleged loss from standing instruction trades in 2010, for example. The loss was inconsequential because profits that year were $1.4 billion, BNY's lawyers wrote.
"Absent concrete allegations, it is simply implausible that a comparatively tiny loss, 0.33 percent of profits ... would have had an effect - let alone a sufficiently direct one - on Franklin Templeton's federally insured subsidiary," BNY Mellon lawyers said in recent court filings.