First Hawaiian Bank violated its fiduciary obligations when it lost money on investments in mortgage-backed securities for some trust accounts, a senior official said.
That's why the $7.3 billion-asset institution, Hawaii's second largest, is reimbursing clients for the losses, said vice chairman Jack A. Hoag.
The bank revealed the losses in a press statement last week. In an interview following the announcement, Mr. Hoag explained that the losses stemmed from purchases of collateralized mortgage obligations of longer durations than allowed under the guidelines of some of the trust accounts.
He said the bank is still trying to find out how many accounts were affected by the investments. The problems were first uncovered late last month.
But Mr. Hoag said that at least one personal trust account lost money because of the inappropriate investments. Every other trust account known to have been affected belonged to institutional investors, he added.
Mr. Hoag declined to say how much money the bank has agreed to pay so far, or how many accounts are known to have been affected. But he said the bank believes the losses will be fully covered by a $10 million insurance fund, and so will not affect First Hawaiian's earnings.
Collateralized mortgage obligations are mortgage-backed bonds that separate mortgages into different pools, or tranches, based on duration.
Mr. Hoag said that all of these so-called CMOs were backed by government agencies and had the highest credit ratings. But the CMOs declined in value when interest rates rose earlier this year.
Mr. Hoag said the bank has taken several steps to insure it doesn't have these kinds of problems again.
For starters, it has tapped senior vice president William Johnstone, manager of the bank's own investment portfolio, to oversee the bank's $1.5 billion portfolio of discretionary trust assets.
Mr. Johnstone will be assisted by a vice president from the bank portfolio team, Tony Goo. The senior vice president who formerly oversaw trust investments, Jerrold Fuller, 59, has taken early retirement.
The bank said in the press statement that Mr. Fuller's retirement was "related" to the discovery of the CMO losses. Mr. Hoag declined to elaborate. Mr. Fuller did not return a call seeking comment.
Mr. Hoag added that First Hawaiian is reviewing its audit procedures in an attempt "to have a more frequent and detailed review of accounts."
First Hawaiian is not the first bank to lose money on controversial investments. But most of these losses have been in money market mutual funds. Trust account losses are a particularly sensitive because managers of trust accounts have a fiduciary responsibility to pursue an investor's best interests.
David Ross Palmer, a private banking and trust consultant in New York, praised First Hawaiian both for announcing the problem and for compensating investors. These actions, he said, should bolster trust customers' faith in the bank's reliability.
