“The nation’s largest public pension fund stepped up the pressure on the New York Stock Exchange, claiming in a lawsuit that the NYSE condoned improper trading by its floor-trading companies known as specialist firms,” writes Kate Kelly in today’s Wall Street Journal.

“In a lawsuit filed Tuesday in federal court in New York, the California Public Employees’ Retirement System, or Calpers, alleged that the Big Board “deliberately failed to halt, expose or discipline the illegal trading practices” of seven specialist firms, despite knowing that specialists were violating the Exchange Act of 1934 and the Big Board’s own rules.”

“Executives at Calpers said they are seeking at least $150 million in damages on behalf of all investors from the Big Board and the specialists, the referees who oversee stock trading on the exchange floor and also buy or sell for their firm’s own accounts when not enough public investors exist to do so.”

“Calpers officials, flanked by California state treasurer Phil Angelides, said Tuesday that the suit was based largely on reporting by The Wall Street Journal and was prompted by frustration that the NYSE wasn’t taking regulatory overhaul seriously, and that the Securities and Exchange Commission had failed to spot the Big Board’s shortcomings early enough to protect investors.”

“Mr. Angelides noted that Calpers has called ‘very strongly’ in recent months for an end to the system of self regulation at the Big Board.”

“The suit comes at a difficult time for the NYSE, which has been roiled by its own probe of its specialists’ trading improprieties and by the ouster in September of longtime Chairman and Chief Executive Dick Grasso. Calpers and other institutional investors played a pivotal role in calling for Mr. Grasso’s departure after the disclosure of his $140 million retirement pay package. Former Citigroup Inc. Chairman John Reed was appointed interim chairman of the NYSE.”

“Mr. Reed has focused on overhauling the exchange’s board structure to improve governance and on finding a permanent NYSE head. But in recent months, revelations contained in an internal SEC report that lambasted the exchange’s regulation activities has increased pressure on the Big Board to consider dramatically revamping its regulation efforts.”

“In its suit, the pension fund cited an early-November article in the Journal reporting on the confidential SEC report, in which the NYSE was blasted for failing to police its specialist firms. The 40-page report, dated Oct. 10, was a severe rebuke of both the specialists and the self-regulatory structure that monitors the Big Board floor.”

“The suit alleges that the specialist firms, with the knowledge of the Big Board, ‘routinely engaged in wide-ranging manipulative, self-dealing, deceptive and misleading conduct.’ It accuses them of ‘inter-positioning’ themselves inappropriately between investor orders and ‘front-running,’ or using confidential knowledge of public investors’ orders that may impact a stock price to trade for their own accounts, among other improprieties.”