On August 5, 2011, the SDNY issued a decision in Board of Trustees of the AFTRA Retirement Fund v. JPMorgan Chase Bank, N.A., which ruled in favor of JPMC on claims for breach of its fiduciary duty of loyalty under ERISA in managing the assets of its ERISA plan clients. The Board of Trustees of the AFTRA retirement funds, on behalf of the class of ERISA plan clients, argued that JPMC breached its fiduciary duty of loyalty when its securities lending service invested the assets of the ERISA plans in Sigma Finance, Inc. (SFI) while JPMC's investment banking division simultaneously extended billions of dollars of repurchase agreement financing to SFI and retained a high priority for claims in the event SFI was unwound. The threshold issue in the case was whether JPMC was performing a fiduciary function for its ERISA plan clients when it extended repurchasing financing to SFI.

JPMC offers public securities lending services, which include lending client securities to third parties, who post collateral. JPMC, through its separate private investment banking division, then invests the collateral for its clients' benefit, including its ERISA plan clients. Due to requirements under securities laws designed to prohibit conflicts of interest within financial institutions that offer both public and private services, JPMC put in place an information barrier, sometimes referred to as a Chinese firewall, between its securities lending service and its investment banking division.

In June 2007, JPMC's securities lending arm purchased $500 million of SFI medium-term notes. Credit markets entered a period of turmoil beginning in August, 2007 during which SFI began to finance itself increasingly through repurchase agreements. Although internal e-mails circulated among JPMC officials as early as August 2007 revealed a belief that the structured investment vehicle sector could unwind, JPMC's investment banking division extended an additional $8.4 billion in repurchase agreement financing to SFI between February and August of 2008. Discussions among JPMC personnel during this time suggested that JPMC structured the trades to ensure the best possible return on capital if SFI survived and the best possible protection if SFI defaulted. Pursuant to JPMC's duty to minimize conflicts of interest between its public- and private-side functions under securities laws, neither JPMC's clients nor JPMC's securities lending arm were directly informed of JPMC's repurchase agreements with SFI.

In September, 2008, SFI defaulted on its obligations and subsequently entered receivership. A sale of all of SFI's assets produced a return of six cents on the dollar on JPMC clients' notes, including the notes held by the ERISA plan clients. JPMC had a higher priority claim to SFI's assets under its repurchase agreement with SFI. The ERISA plan clients alleged that JPMC made $1.2 billion in profits from asset appreciation, the sale of SFI assets and repurchase agreement fees, a figure disputed by JPMC.

Certain of JPMC's ERISA plan clients brought a class action in the SDNY, alleging that JPMC breached its fiduciary duty of loyalty under ERISA by becoming a repurchase agreement financier of SFI with a higher priority claim to SFI's assets to capitalize on profit opportunities when SFI collapsed. JPMC argued, among other things, that it was not acting in a fiduciary capacity to its ERISA plan clients when it extended repurchasing financing to SFI and was permitted under ERISA to take actions in a non-fiduciary capacity that may not be advantageous to its ERISA plan clients.

The SDNY held that JPMC was not acting in a fiduciary capacity when it extended repurchasing financing to SFI with a higher priority claim when SFI defaulted. Accordingly, the court found that JPMC did not breach any duty of loyalty to its ERISA plan clients. The court reasoned that JPMC did not "use the assets" of its clients' ERISA plans, but instead acted as a creditor in a transaction with a third party which affected those plans.

The court also held that JPMC had no duty to disclose the existence of the repurchase agreements to its clients or to its securities lending arm because there was no conflict of interest. The court noted that JPMC was essentially prohibited from sharing information between its public and private services to prevent conflicts under securities laws, and that penalizing JPMC for failing to align the operations of its public and private services would effectively penalize it for complying with the law.

The court did not yet decide the issue of whether JPMC breached its duty of prudence and care in managing the assets of its clients' ERISA plans.

The court's opinion indicates that a financial institution that maintains both a public securities lending division and a private investment banking division, and which maintains an information barrier between those divisions as required under securities laws, will not be found to have violated a duty of loyalty to the ERISA plans that its private division manages, while its public division utilizes its ERISA plan clients' assets in a non-fiduciary capacity in third-party transactions.

For more information on fiduciary duties under ERISA, see Practice Note, ERISA Fiduciary Duties: Overview.