Reply #77: ALSO LATE: Milan Police Seize UBS, JPMorgan, Deutsche Bank Funds (Update2) [View All]

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http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aOGICeXD8TPw

By Elisa Martinuzzi

April 28 (Bloomberg) -- Milan’s financial police seized 476 million euros ($620 million) of assets belonging to UBS AG, Deutsche Bank AG, JPMorgan Chase & Co. and Depfa Bank Plc amid a probe into alleged fraud linked to the sale of derivatives.

The police froze the banks’ stakes in Italian companies, real estate assets and accounts, the financial police said in a statement today. The assets seized yesterday also include those of an ex-municipality official and a consultant, the police said.

The City of Milan is suing the four banks after it lost money on derivatives it bought from the lenders in 2005. The securities swapped a fixed rate of interest on 1.7 billion euros of bonds for a variable rate that was losing the city 298 million euros as of June. Milan is among about 600 Italian municipalities that took out 1,000 derivatives contracts worth 35.5 billion euros in all, the Treasury said.

“Milan is an important case because it can be used as an example by others,” said Alfonso Scarano, who is heading a study into the trades by AIAF, a group representing Italian financial analysts. “This is a unique time for borrowers to shed light on their potential losses and renegotiate contracts” to take advantage of interest rates that have fallen to record lows. AIAF will next week testify before the Italian Senate’s inquiry into the cities’ use of derivatives contracts.

Officials at all four banks declined to comment. In January, JPMorgan filed a lawsuit against the city in London. The bank is seeking to have dispute heard in the U.K., according to two people familiar with the claims.

Cassa Depositi

A spokesman for Milan’s city council declined to comment. A report commissioned by the city last year into the derivatives trades didn’t identify the officials involved in the decision.

The banks reaped about 100 million euros in fees from the transactions, Milan’s financial police said today. Public officials, seeking to cut the cost of their debt and help fund their budgets, turned to the banks to refinance borrowings from the state-owned lender Cassa Depositi e Prestiti.

The 30-year bond carried annual interest of 4.019 percent. With the derivatives, the city swapped the fixed interest rate for a floating rate set at 12-month Euribor. Milan also agreed to repay the principal by annual payments instead of at maturity, according to the city’s report.

The banks and Milan later agreed on so-called interest-rate collars, under which the banks would pay the borrower if Euribor rose above a certain level, the so-called cap, while the borrower would pay the banks if Euribor fell below the so-called floor.

Credit-default Swaps

The banks misled municipal officials on the advantages of buying the derivatives, including the impact of the fees they charged on the contracts, the financial police have said. The banks made three times more money from the cap than Milan did from the floor, according to the city’s report.

Local governments often entered into derivative contracts without soliciting bids from competing buyers. In 2007, Milan also sold a credit-default swap, exposing itself to the risk that the Republic of Italy might default, the document shows.

The Milan case is among lawsuits filed by local governments from Germany to the U.S. amid allegations of mis-selling and fraud. Italy’s Senate is leading a review of the use of derivatives among local administrations.

Italian prosecutors can seize assets, subject to judicial approval, to prevent the worsening of the consequences of the crime or prevent further crimes being committed, according to Andrea Giannelli, a researcher at Milan’s Bocconi University.

‘Intimidating and unprecedented’

“Its use in this case is somewhat intimidating and unprecedented,” said Giannelli. “It’s a measure they may be using to accelerate a solution.”

Deutsche Bank, Germany’s largest bank, last year won dismissal of a lawsuit filed by Hagen, Germany, over losses on derivatives that the city purchased from the lender.

The U.S. Justice Department has been investigating for more than two years whether banks and brokers conspired to overcharge local governments on similar swap agreements.

Alabama challenged a so-called swaption deal last year as local governments across the U.S. faced rising bills after derivative trades with Wall Street banks backfired. The Alabama Public School and College Authority filed a lawsuit in October seeking to void a so-called swaption, or option on an interest- rate swap, that it sold to JPMorgan in 2002.