A New York judge has dismissed a class action lawsuit against State Street as the sponsor of a mutual fund, saying that even though the mutual fund misrepresented its risks, investors were not harmed. That's because the fund correctly calculated its net asset value.

The decision, made on March 31 by Judge Richard Howell of the U.S. District Court for the Southern District of New York, didn’t sit well with some attorneys specializing in investment managers by surprise.

“The reasoning in this case is somewhat tortured,” says Todd Cipperman, principal of Cipperman & Co, a Wayne, Penn., law firm in a communiqué with clients on Tuesday. “The fund manager can say anything in the prospectus as long as the NAV is accurate.”

The plaintiffs – Ning Yiu and others – alleged that the offering statements of State Street’s Yield Plus Fund “misrepresented the nature of the securities or investments held by the Yield Plus Fund, misrepresented the description and/or objectives of the fund and misrepresented the fund’s exposure to risky mortgage-related assets and the risk of investing in the fund.”

The plaintiffs also alleged that the fund overstated the value of its holdings by reporting “inflated values” for the fund’s mortgage-related securities and that the fund miscalculated the percentage of mortgage-backed securities it held.

Howell ruled that the plaintiffs could only win damages if the drop in the net asset value of the fund actually were the result of a “materialization of a risk contained within a material statement, not to those that are somehow connected with the misstatement or even those that are simply within the zone of risk of the misstatement.” That meant that the Securities Act of 1933 requires a direct cause and effect for an investor in a mutual fund to successfully sue for misrepresentations in a registration statement and prospectus.

Howell blamed Congress rather than his apparent narrow interpretation of the Securities Act of 1933 for his decision which he admitted conflicts with decisions made by other courts in similar situations.

 “Where the NAV does not react to any misstatements in the fund’s prospectus, no connection between the alleged material misstatement and a diminuition in the security’s value has been or could be alleged,” wrote Judge Howell. “It seems likely that Congress never considered it might be creating a loophole for fraudulent misrepresentations by mutual fund managers when enacting these provisions. Closing the loophole requires legislative action.”