* Seemingly safe funds lost more than half their value
* "Strategic alternatives" sought for Morgan Keegan
* Sale could fetch up to $1.3 bln-analyst
* Shares of Regions close down 1.4 percent (Adds analyst comment, closing share price)
By Joe Rauch and Jonathan Stempel
CHARLOTTE, N.C./NEW YORK, June 22 (Reuters) - Regions Financial Corp (RF.N) agreed to pay $210 million to settle allegations that its Morgan Keegan brokerage fraudulently marketed mutual funds and said it hired Goldman Sachs Group Inc (GS.N) to explore strategic options for that unit.
Seven federal and state regulators including the U.S. Securities and Exchange Commission had accused Morgan Keegan of fraudulently misleading investors from January to July of 2007 about the risks of mutual funds filled with subprime mortgages, and artificially inflating the funds' prices.
Wednesday's settlement was announced one day after the SEC said another major bank, JPMorgan Chase & Co (JPM.N), agreed to pay $153.6 million to settle charges it defrauded investors who bought mortgage debt, also on the eve of the credit crisis. [ID:nN1E75K13Z]
The accord with Regions, a large U.S. southeast regional bank based in Birmingham, Alabama, stemmed from roughly $1.5 billion of investor losses tied to five Morgan Keegan funds.
Some of these funds, including investment-grade funds marketed as conservative investments for older investors, lost more than half their value as credit conditions worsened.
The Select Intermediate Bond A fund, for example, fell 50.3 percent in 2007, while the Select High Income A fund fell 59.7 percent that year.
James Kelsoe, 49, a former star portfolio manager for Morgan Keegan who oversaw the funds, agreed to a $500,000 fine and permanent securities industry ban, the SEC said.
A Morgan Keegan comptroller, Joseph Thompson Weller, 46, agreed to a $50,000 penalty and one-year suspension, it added.
"The falsification of fund values misrepresented critical information exactly when investors needed it most -- when the subprime mortgage meltdown was impacting the funds," SEC enforcement chief Robert Khuzami said in a statement. "Such misconduct does grievous harm to investors."
Regulators from Alabama, Kentucky, Mississippi, South Carolina and Tennessee, and the Financial Industry Regulatory Authority brokerage regulator, were also part of the accord. No criminal charges were filed.
A lawyer for Kelsoe and Weller did not immediately return a call seeking comment.
Regions previously set aside funds for the full settlement. It will pay $200 million into funds administered by the SEC and the states for investors, and a $10 million fine to the states. The payment to the SEC fund includes a $75 million penalty.
TARP NOT YET REPAID
By hiring Goldman to explore "strategic alternatives" for Morgan Keegan, Regions signaled it may sell part of Memphis, Tennessee-based Morgan Keegan, which it has owned since 2001.
Regions has not posted an annual profit since 2007 and unlike most other large U.S. banks has yet to receive regulatory approval to repay the $3.5 billion it took from the Treasury Department's Troubled Asset Relief Program (TARP).
The settlement "gives Regions greater flexibility with respect to the Morgan Keegan franchise and the ability to explore opportunities that are consistent with our strategic and capital planning initiatives," Regions Chief Executive Grayson Hall said in a statement.
Regions could expect $900 million to $1.3 billion from a sale of Morgan Keegan, although the amount would depend on what is sold, said Jefferson Harralson, bank analyst at Keefe Bruyette and Woods Inc. He called the unit one of Regions' "crown jewels."
Morgan Keegan has about 1,200 brokers in its private client group and also has investment banking and capital markets businesses.
The bank said Morgan Keegan generated $1.32 billion of gross revenue in 2010. It also said Morgan Asset Management and Regions Morgan Keegan Trust are not part of its review.
"Regions needs a great deal of capital and selling Morgan Keegan would be a great way to get part of the way there," said Richard Bove, a banking analyst at Rochdale Securities LLC.
The bank also has roughly 1,771 branches in 16 states.
In its original complaint, the SEC accused Kelsoe of directing his accounting department to make repeated, arbitrary "price adjustments" to boost the perceived value of securities in his funds. The regulator also said Weller failed to ensure proper pricing for the securities and mutual funds.
It is rare for any bond mutual fund to suffer losses of the magnitude suffered by the Morgan Keegan funds, and Morgan Keegan has faced a slew of related arbitration proceedings.
"No investor is giving up any rights or any claims" in such proceedings, Joseph Borg, director of the Alabama Securities Commission, said on a conference call.
Hyperion Brookfield Asset Management Inc took over management of some Morgan Keegan funds in 2008.
Regions shares closed down 9 cents, or 1.4 percent, at $6.21 on the New York Stock Exchange. (Additional reporting by Joseph A. Giannone in New York; Editing by Andre Grenon, Dave Zimmerman and Steve Orlofsky)