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Depositions Shed Light on O.C. Bankruptcy

Finance: Treasurer Citron and a key Merrill Lynch official admitted they knew little about municipal finance, newly released court documents show.


SANTA ANA — The two central figures in the Orange County bankruptcy--who saddled the county with billions of dollars in risky securities--admitted in lengthy depositions released Wednesday that they knew little about municipal finance.

In fact, Merrill Lynch super-salesman Michael G. Stamenson, who received daily reports of how much cash was available for investment from the county, told attorneys flatly, "I'm not an expert in municipal finance."

And former county Treasurer Robert L. Citron testified that he had begun to suspect his brain had been deteriorating throughout the period during which Stamenson had sold him billions of dollars in speculative investments, eventually triggering America's largest municipal bankruptcy.

Citron said he sensed his brain functions had been waning since 1989.

"My brain is unable to audit all the information necessary to make executive decisions," he testified.

The provocative admissions are among the highlights of thousands of pages of sworn testimony taken in the county's recently settled lawsuit against Merrill Lynch & Co. The documents were released late Wednesday at the urging of The Times and other news organizations.

For the Record
Los Angeles Times Saturday August 29, 1998 Home Edition Part A Page 4 Foreign Desk 3 inches; 91 words Type of Material: Correction
Merrill transcripts--A July 23 story about Orange County's civil damage suit against Merrill Lynch & Co. incorrectly characterized salesman Michael Stamenson's level of expertise in municipal finance. The story also should have said that Stamenson received monthly, not daily, reports from ex-County Treasurer Robert L. Citron. And the article should have noted that Merrill executive William S. Broeksmit's dollar estimates were of the county's holdings in one particularly risky investment, not of its potential losses. Also, the article should have quoted Stamenson as disputing that he performed a "war dance" after completing a trade.

Ironically, the revelations come at a time when current county Treasurer John M.W. Moorlach has said he wants to consider once again hiring Merrill Lynch to help the county invest its idle cash.

The newly released testimony by some brokerage executives supports the county's position that Merrill Lynch knew years before the bankruptcy that Citron's strategy was badly flawed and could trigger massive losses.

In December 1994, after $1.64 billion of the investment fund had been wiped out, the county filed for bankruptcy.

But fully two years before the bankruptcy, a debate raged within the Wall Street investment behemoth over the prudence of aiding Citron's gamble with billions of dollars in public money.

Top executives, including Merrill's current chief executive, David Komansky, attended a meeting in late 1992 about Citron's investment scheme and the county's dangerous exposure.

Among the clearest warnings that a downfall awaited Orange County if the brokerage did nothing to correct the problem came from William S. Broeksmit, the man who helped pioneer the exquisitely complex "derivative" securities sold to Citron.

Broeksmit testified that he walked away from a discussion with a colleague about Citron's strategy knowing that if the interest rates suddenly reversed, there would probably be "a negative outcome" for the county.

How much of one? he was asked.

"Greater than a billion dollars," Broeksmit testified.

Despite his professed ignorance of municipal finance, Stamenson amassed a personal fortune selling derivative instruments to Orange County, and took relish in every trade.

"Mr. Stamenson, have you ever been known to do a war dance around the trading room when you completed a trade?" he was asked.

Stamenson responded, "I became very pleased when a trade was executed, yes. I'm probably guilty of that."

The testimony had been sought by The Times and other news organizations who urged the court to make it public after the $420-million settlement last month of the county's lawsuit and a $17-million settlement of a similar suit brought by the Irvine Ranch Water District.

It had become clear by 1992 that Citron was assuming a level of risk that would have been extraordinary for a Wall Street insider, let alone a municipal treasurer.

As early as Feb. 6, 1992, Merrill told Citron of its profound concern about the strategy he had chosen to pursue--one based on the presumption that U.S. interest rates would remain low indefinitely.

In 1994, six unprecedented increases in the interest rate wiped out $1.64 billion in the county's pool, triggering the bankruptcy.

The executive who called on Citron in 1992 was Daniel T. Napoli, a senior vice president and member of Merrill's 17-member executive committee.

"You have 10 times the amount of leverage in your portfolio that we allow in ours," Napoli warned Citron then.

Gary Rupert, head of Merrill's "repurchase" desk at the time, had complained in a memo on Feb. 26, 1992, that the brokerage was "pushing the high end of a prudent target range with respect to any client" in selling Citron volatile securities at the same time it loaned him billions to buy them.

Napoli, who reported directly to Merrill's chairman at the time, Daniel P. Tully, had his staff analyze Citron's investments.

By August 1992, Napoli's staff knew just how supersensitive to interest rates Citron's pool really was.

Broeksmit, who left Merrill and now works for Deutschebank in London, urged the firm to sell the entire $2.8-billion Orange County portfolio at one point. Broeksmit's fateful warning was contained in a three-page memo to Edson V. Mitchell, then head of Merrill's fixed-income group, who shared the concern throughout the firm.

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