UPDATE 3-UBS, Deutsche dealt new blow by Italy fraud verdict
* Case could set precedent for other local authorities
* May be "bit of a tsunami" for financial system -lawyer
* Four banks ordered to hand back 90 million euros and fined
* Verdict comes as UBS hit with $1.5 bln Libor penalty
By Giulio Piovaccari and Silvia Aloisi
MILAN, Dec 19 (Reuters) - An Italian court on Wednesday found Deutsche Bank, Depfa Bank, JP Morgan and UBS guilty of fraud for mis-selling derivatives to Milan that could set a precedent for hundreds of local governments to pursue.
The court ordered the seizure of just under 90 million euros from the lenders which were each fined 1 million euros ($1.3 million). Nine bank employees were handed suspended jail sentences of up to eight months.
The verdict, coming on the same day UBS was fined $1.5 billion for manipulating global interest rates, related to a swap contract signed by the city of Milan council when it issued a 1.68 billion euro, 30-year bond in 2005.
The four banks were accused of making 100 million euros in illicit profit and lying about the risks linked to the deal.
"This is an historic sentence because it has recognised the principle that banks' dealings with the public administration must be transparent," prosecutor Alfredo Robledo told reporters after the verdict.
"Italy was like a lawless jungle," he said, adding that in Britain and other countries similar derivative contracts with local governments had long been banned.
Deutsche Bank, JP Morgan and UBS said in separate statements they had done nothing wrong and would appeal.
"The evidence at the trial demonstrated conclusively that the individuals behaved entirely honestly and appropriately throughout and that the transactions complied with Italian and English law," the U.S. bank said.
The trial was the first of its kind in Italy, where about 600 local governments bought derivative products worth 36 billion euros, many of which turned sour when the financial crisis started to bite.
Derivatives mis-selling is one of a number of banking scandals that authorities are investigating following the global financial crisis.
The probe over the rigging of Libor interest rates has resulted in big fines for UBS and Britain's Barclays, while Deutsche Bank is the subject of a number of probes including suspected tax evasion over trade in carbon permits.
"This is a very dangerous verdict for the banks, which could have an impact for dozens of other legal battles involving local administrations," said Tommaso Iaquinta, a lawyer who has followed several similar cases.
"This is just the first step of the judicial process but it could be a bit of a tsunami for the whole system."
According to the prosecutors, the swap contract at the centre of the trial appeared to offer the Milan city council an attractive interest rate but turned out to carry much higher costs, paid for by taxpayers, than it had anticipated.
Prosecutors also said the banks involved were both advisers to the city of Milan and counterparties in the derivative deal. Under the seizure order, JP Morgan will have to hand back 24.8 million euros, Deutsche Bank 24.3 million euros, Depfa just under 24 million euros and UBS 16.6 million euros.
Bank of Italy data shows Italian cities face nearly 4 billion euros of potential losses from derivatives contracts, many of which were signed by people lacking the expertise to fully understand them.
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