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Bear Stearns Bail Out

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Bear Stearns Plans $3.2 Billion Fund Rescue to Halt Fire Sale

By Jody Shenn and Yalman Onaran

June 22 (Bloomberg) -- Bear Stearns Cos. plans to take on $3.2 billion of loans to stop creditors from seizing assets of one of its money-losing hedge funds in the biggest fund bailout since 1998, people with knowledge of the proposal said.

The firm told lenders to the High-Grade Structured Credit Strategies Fund yesterday that it would assume their loans, said the people, who declined to be named because the plan is confidential. The New York-based firm stepped in after Merrill Lynch & Co. took securities that backed $850 million in credit lines to two Bear Stearns funds and put them up for sale. JPMorgan Chase & Co. and Lehman Brothers Holdings Inc. also indicated they may take over collateral for loans they provided.

Bear Stearns increased efforts to salvage the fund, one of two that made bad bets on so-called collateralized-debt obligations, as concern about a possible collapse sent stocks and bonds of financial companies lower and pushed the perception of credit risk to a nine-month high. A loan agreement would prevent a fire sale, while increasing the risk to Bear Stearns, the second-biggest underwriter of mortgage bonds.

``Bear needs to put this behind it as soon as possible,'' said Peter Goldman, who helps manage $600 million at Chicago Asset Management, including shares of Bear Stearns. ``The firm might take on some of the risk of the fund they didn't have before, but they're a bond shop and they wouldn't take on risk they shouldn't.''

The Bear Stearns fund lost about 10 percent of its value this year, while the related fund, the High-Grade Structured Credit Strategies Enhanced Leverage Fund, lost about 20 percent, according to people familiar with the matter. Both funds are run by Ralph Cioffi, 51, a senior managing director.


The funds speculated in CDOs -- securities backed by bonds, loans and derivatives -- that were hurt in March and April as defaults on subprime mortgages to people with poor or limited credit histories increased.

Bear Stearns spokeswoman Elizabeth Ventura declined to comment. Lehman spokesman Randy Whitestone also declined to comment. Adam Castellani, a spokesman for JPMorgan couldn't immediately be reached when called after hours.

Investors from hedge funds to pension funds and foreign banks have snapped up CDOs as a new way to invest in debt, making it the fastest-growing market and pushing the amount outstanding to more than $1 trillion.

CDOs trade infrequently, so holders rarely change the values of the securities on their books. Forced sales may have required investors to write down those values, potentially causing billions of dollars of losses.

Largest Since LTCM

``The problem is not what we see happening, but what we don't see,'' said Joseph Mason, associate professor of finance at Drexel University in Philadelphia and co-author of an 84-page study this year on the CDO market. ``We don't know the price of these assets. We don't know which banks are exposed to this sector. These conditions are the classic conditions for financial crises across history.''

The bailout of the fund would be the largest since Long- Term Capital Management LP, which received $3.625 billion from 14 lenders in 1998. After Long-Term Capital, run by John Meriwether, lost $4.6 billion, lenders including Merrill and Bear Stearns agreed to take a stake in the Greenwich, Connecticut-based fund.

They sold the assets over time to limit the impact of its collapse.

Bankers and money managers bundle securities into a CDO, dividing it into pieces with credit ratings as high as AAA. The riskiest parts have no rating because they are first in line for any losses. Investors in this so-called equity portion expect to generate returns of more than 10 percent.

Shares Rise

Sales of CDOs reached $503 billion in 2006, a fivefold increase in three years. More than half of those issued last year were backed by subprime mortgages. CDOs may have lost as much as $25 billion because of subprime defaults, Lehman Brothers Holdings Inc. analysts estimated in April.

Bear Stearns shares rose for the first time in four days yesterday after Merrill decided against selling all its collateral. The stock gained $2.61 to $145.81 in New York Stock Exchange composite trading.

The perceived risk of owning corporate bonds fell after reaching the highest since September. Contracts based on $10 million of debt in the CDX North America Crossover Index traded at $167,000 from $168,000 on June 20, after rising as high as $179,000, according to Deutsche Bank AG.

The Bear Stearns funds had borrowed $9 billion and made bets of more than $11 billion, one person said. Aside from Merrill, Lehman and JPMorgan, other creditors included Goldman Sachs Group Inc., Citigroup Inc. and Cantor Fitzgerald LP, all in New York. Bank of America Corp., based in Charlotte, North Carolina, Barclays Plc in London and Frankfurt-based Deutsche Bank AG were the other lenders.

As the funds faltered, New York-based Merrill sought to protect itself by seizing the assets that were used as collateral for its loans. The firm was followed by New York- based JPMorgan, which offered some securities for sale before withdrawing its plan. Lehman, also based in New York, put some securities up for sale, according to a person with knowledge of the sale.

Source: http://www.bloomberg.com/apps/news?pid=206...&refer=home

Edited by studdymx

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