Two Goldman Sachs customers sue firm over ARS

NEW YORK (Reuters) - Two customers of Goldman Sachs Group Inc (GS.N) sued the Wall Street firm on Thursday, claiming it convinced them to keep buying risky auction rate securities when it knew the market was collapsing.

The lawsuit filed in U.S. District Court in Manhattan said that between July 2006 and August 2007, Goldman sold $3.6 billion of student loan ARS to Bankruptcy Management Solutions Inc and Ocwen Financial Corp.

"Goldman represented to BMS and Ocwen that the securities were appropriate for those companies' investment portfolios which, as Goldman knew or consciously and recklessly disregarded, were restricted to safe, highly-liquid investments," the lawsuit said.

At the time of the ARS market collapse in February this year, BMS and Ocwen held a combined $236 million in Goldman-brokered student loan auction rate securities, the lawsuit said. These were ARS based on student loans typically supported by government guarantees.

"Brokers, including Goldman, chose to take action to conceal from investors such as BMS and Ocwen the rapid loss of liquidity from the market by increasing purchases," the lawsuit said.

In the financial crisis that has changed the landscape of the industry, the two largest investment banks Goldman Sachs and Morgan Stanley (MS.N), have become bank holding companies, turning away from the high-risk broker model.

BMS does most of its business in California providing software, hardware and services to support Chapter 7 bankruptcy trustees. Florida-based Ocwen provides loan servicing and mortgage fulfillment to the financial industry.

A spokesman for Goldman Sachs declined comment on the lawsuit, one of several that have been filed by shareholders or customers of banks and investment banks that dealt in auction rate securities.

They were billed as safe, cash-like instruments bought and sold in periodic auctions every 7, 14 or 28 days, but big banks stopped supporting the auctions in January as investor demand for the debt dried up.

Many investors have been stuck holding the debt, sparking investigations into whether banks sold the securities even as they privately worried market turmoil was making it harder to complete auctions.

(Reporting by Grant McCool; Editing by Tim Dobbyn)