May 18, 2010 / 8:26 PM / 9 years ago

INSIGHT-Aussie fund director's Goldman claim gets traction

* Basis director went to regulators over Goldman CDO

* Settlement talks between Basis fund and Goldman heat up

* Basis claims it was misled on Timberwolf CDO

* Basis invested in deal in June 2007 (Attention language in paragraphs 19-20 that may offend some readers)

By Matthew Goldstein

NEW YORK, May 18 (Reuters) - An Australian hedge fund’s former independent director has been complaining to U.S. regulators for more than two years about how Goldman Sachs Group (GS.N) contributed to the fund’s collapse by selling it a toxic mortgage-linked security.

Now, in the wake of a recent U.S. Senate hearing on Goldman’s role in the U.S. mortgage mess, during which the security — called Timberwolf — was repeatedly singled out by lawmakers as a particularly egregious transaction, David Mapley said he’s finally getting a measure of satisfaction.

But Mapley, a former independent director for the Basis Yield Alpha Fund, said what he really wants is for Goldman to give back the $100 million the Basis Capital fund and its investors sank into the Timberwolf collateralized debt obligation.

There are signs the persistence of Mapley and others connected to the defunct Australian hedge fund may be about to pay off.

A Washington, D.C., law firm that represents the Basis fund is negotiating with Goldman over a possible settlement to the hedge fund’s $100 million claim, people familiar with the situation said.

The fund’s representatives initially hired Washington’s Baach Robinson & Lewis more than a year ago to look into suing Goldman over the Timberwolf deal. The law firm did work on a draft complaint, but a lawsuit was never filed for reasons that remain unclear.

‘BEYOND THE NORM’

Mapley, who resides in Switzerland but also has homes in the Cayman Islands and the United States, said he met with lawyers from Baach Robinson when he was still serving as one of the fund’s independent directors and urged them to sue Goldman.

He stepped down from the fund’s board last summer and hasn’t been involved in any settlement talks with the investment bank.

“We found this aggressive behavior by Goldman,” said Mapley, who still serves an independent director for a number of other offshore hedge funds. “We started uncovering certain practices that were beyond the norm.”

The Basis fund’s main contention is that the fund’s managers were misled by Goldman when it purchased two $50 million tranches of Timberwolf, a $1 billion CDO that Goldman took to market in March 2007, according to Mapley and other people familiar with the situation.

The Basis fund sank money into Timberwolf in June 2007, after the one-time $500 million fund claims it got assurances from Goldman’s mortgage trading desk that the market for CDOs had stabilized after falling sharply.

In fact, the hedge fund initially passed up an opportunity to invest in Timberwolf in April 2007 because Basis’ managers were concerned about the health of the CDO market.

Mapley said he has been told Goldman sold the Timberwolf securities to the hedge fund at a significantly higher price than what similar mortgage-linked securities were selling for at the time. Basis’ managers were not aware that Goldman’s mortgage trading desk was actively shorting CDOs and other subprime mortgage-linked securities at the time of the Timberwolf deal, he said.

Michael Duvally, a Goldman spokesman, said, “Basis advertised itself as a highly experienced, professional CDO manager and investor.” He added that the hedge fund “had access to the same information regarding the underlying portfolio as Goldman Sachs.”

DEAL’S NOTORIETY

Mapley, however, said he found Goldman’s conduct in marketing and selling Timberwolf so disturbing that he contacted the U.S. Securities and Exchange Commission about the deal in December 2007. He subsequently sat down with SEC lawyers several times in early 2008 to discuss the transaction, which he said securities regulators were already looking into.

In light of the SEC’s early interest in Timberwolf, Mapley said he was surprised the commission’s civil fraud claim against Goldman focused on another CDO — Abacus 2007.

“When I saw the SEC action against Goldman I thought it was going to be Timberwolf,” he said.

An SEC spokesman declined to comment on whether its lawyer met with Mapley and if regulators are looking into the Timberwolf transaction.

However, the Timberwolf deal drew considerable notoriety during last month’s hearing by the Senate Permanent Subcommittee on Investigation when lawmakers revealed that a former Goldman executive had described the transaction as “one shitty deal” in an internal Goldman email.

Former Goldman mortgage executive Thomas Montag, who now works for Bank of America, penned that “shitty deal” email on June 22, 2007. A week earlier, Basis invested in the Timberwolf deal by plunking down about $11 million in cash and financing the rest of the transaction with a margin loan from Goldman.

The Timberwolf deal, which referenced a pool of other subprime-backed CDOs, quickly soured. By the end of August, the deal had lost 80 percent of its value and the CDO was liquidated in June 2008.

In buying Timberwolf on margin, Basis agreed to let Goldman re-price the value of the securities as it saw fit. And within weeks of closing the transaction, Goldman began marking down the securities and demanding cash collateral from Basis.

In August 2007, the hedge fund told its investors it was planning to liquidate. Basis contends the liquidation was prompted in part by the demands for collateral payments by Goldman, said people familiar with the hedge fund and information reviewed by Reuters.

TOKIO MARINE ROLE

Basis was not the only hedge fund that purchased Timberwolf securities and went belly-up in summer 2007.

The single biggest buyer of Timberwolf securities was the once giant Bear Stearns group of hedge funds, which invested $300 million in the CDO. The Bear funds, which once controlled nearly $30 billion of CDOs and other subprime mortgage-linked securities, imploded in June 2007 after the funds could not meet a series of margin calls from a dozen Wall Street lenders, including Goldman.

Another buyer of Timberwolf securities was a division of Tokio Marine Holding Inc (8766.T), one of Japan’s largest property and casualty insurers, said people familiar with the Timberwolf deal. The insurer did not return phone calls seeking comment. (Reporting by Matthew Goldstein with additional reporting in Australia by Narayanan Somasundaram and in Tokyo by Nathan Layne; Editing by Gary Hill)

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