More on Springfield v Merrill Lynch Civil Suit

From the same New York Times article:

According to the suit, Manuel Choy and Carl J. Kipper, two Merrill brokers hired by the Springfield Finance Control Board, were told to pick “instruments that yielded more than Merrill’s money market account as long as the products were triple-A rated by the major credit-rating agencies.”

The pair invested about $14 million of the city’s newfound budget surplus into three so-called collateralized debt obligations — pools of debt securities that were backed by residential mortgage-backed securities and commercial-backed securities (which in turn are pools of residential and commercial mortgage loans). Some of the debt obligations were backed by other debt obligations and synthetic securities, securities backed by derivatives, the suit says.

But the suit says the brokers did not communicate to the city that they had invested the city’s money in collateralized debt obligations, never explained the risks of the investments and never produced the documents laying out certain risk factors.

What Merrill did deliver to Springfield was a presentation entitled “Merrill’s Auction Rate Market Sheet” that set out to explain the market for short-term securities aimed to help sophisticated investors manage cash.

According to the sheet, the securities represented a “large and liquid market” with “high-quality credits” and similar returns to other short-term instruments like commercial paper and money funds. The presentation specified that 92 percent of the securities in which Merrill participated were triple-A rated and 97 percent were double-A rated.

Last summer, when the market for collateralized debt obligations backed by subprime markets seized up, the value of Springfield’s securities plummeted. For example, Mr. Choy and Mr. Kipper invested $12.6 million in April 2007 into the “Centre Square C.D.O.” By August that C.D.O. had a value of 84 percent of its purchase price; by September it was down to 50; in October, 30 percent, and by December, only 5 percent. When the city asked that Merrill sell the securities, Merrill said there were no buyers.