August 7, 2009 / 8:57 PM / in 8 years

UPDATE 1-Ambac sues Citi, Credit Suisse over CDO deal

(Adds suit against JPMorgan, details, byline)

By Karen Brettell

NEW YORK, Aug 7 (Reuters) - Ambac Financial Group Inc ABK.N is suing Citigroup Inc (C.N) and Credit Suisse Group CSGN.VX, alleging the companies misrepresented the risks of mortgage-backed assets in a deal Ambac insured.

The lawsuit, filed in New York State Supreme Court on Monday, seeks to void $2 billion in some of the credit default swap protection Ambac wrote on risky residential mortgages in a deal originated by Citigroup or be awarded damages for losses.

Ambac sold the protection to Citigroup through a collateralized debt obligation named Ridgeway Court Funding II in June 2007. Credit Suisse Alternative Capital, part of Credit Suisse Group, managed the selection of assets in the CDO.

“We believe this suit is without merit and will defend ourselves vigorously,” said Citigroup spokeswoman Danielle Romero-Apsilos.

Credit Suisse spokesman Duncan King said the bank is reviewing the complaint and declined further comment.

In the suit, Ambac accused Citigroup of using the CDO as a means of dumping risky assets the bank had failed to sell, knowing that the value of the securities was in steep decline.

Credit Suisse, in turn, allowed Citigroup to dump toxic assets in the portfolio in order to generate management fees and win favor from the bank, Ambac said. Credit Suisse managed about $6 billion in volume in Citigroup CDO deals, or about 50 percent of that business at Credit Suisse, Ambac said in the complaint.

Credit Suisse “allowed Citigroup to hijack the portfolio for the purpose of dumping leftovers from Citigroup’s prior CDO and residential mortgage backed securities offerings that it had been unable to sell,” Ambac said.

FALSE VALUES

Ambac accuses Citigroup of providing false market values for assets underlying the CDO, which had been accumulated for the deal over the course of six months.

At the time the deal was closing, Citigroup told Ambac that the assets on average were being given a market value of 96 percent of their initial value, when in fact the securities were worth less than 79 percent under a fair valuation, Ambac said.

Citigroup overpaid for some assets by as much as 30 percent, effectively rendering the deal insolvent at its launch, Ambac said.

Citigroup also misrepresented the risks of the debt to ratings agencies in order to receive high ratings, which were key to Ambac agreeing to insure the assets, Ambac said.

JPMORGAN

Separately, Ambac is also seeking damages from JPMorgan Investment Management, part of JPMorgan (JPM.N), claiming the asset manager acted inappropriately in investing almost entirely in risky mortgages in a CDO it managed, called Ballantyne Re plc.

By failing to diversify, JPMorgan breached its duty to provide “reasonable income while providing a high level of safety of capital” and has caused the deal to lose around $1 billion of its $1.65 billion portfolio, Ambac said in a suit filed in May.

Ambac sold $900 million in protection on the CDO in 2006.

JPMorgan spokeswoman Mary Sedarat said the suit is “without merit and we are going to defend it vigorously.”

Ambac, which on Friday reported a $2.4 billion loss for the second quarter, has been pushed to the brink of insolvency by writing protection on mortgage bonds.

Ambac competitor MBIA Inc (MBI.N) in April filed a suit against Merrill Lynch, now owned by Bank of America (BAC.N), for damages from losses the company took on mortgage-backed CDOs. For details see [ID:nN30143879]. (Editing by James Dalgleish)

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