Hedge Fund Basis Sues Goldman Over Bad CDO Deal

Jun 10 2010 | 9:02am ET

A collapsed Australian hedge fund has sued Goldman Sachs for more than $1 billion, accusing the Wall Street giant of misleading it about a collateralized debt obligation that one of its executives called a “shitty deal.”

The move comes after weeks of settlement talks between Basis Capital Management and Goldman failed to produce an agreement. Basis, whose Yield Alpha Fund filed for bankruptcy three years ago, filed the lawsuit in New York federal court.

“Goldman was pressuring investors to take the risk of toxic securities off its books with knowingly false sales pitches,” Eric Lewis, a lawyer for the collapsed hedge fund, said. “Goldman should be called to account.”

“The lawsuit is a misguided attempt by Basis, a hedge fund that was one of the world’s most experienced CDO investors, to shift its investment losses to Goldman Sachs,” the bank shot back in a statement.

Basis’s losses—which the hedge fund estimates at US$56 million on a US$78 million investment—came in a CDO called Timberwolf, and not in the Abacus CDO at the heart of the Securities and Exchange Commission’s fraud case against Goldman. Basis claims that Goldman sold it on the CD in June 2007 by saying the market had stabilized, but was hit with margin calls within two-and-a-half weeks of signing the deal.

Goldman counters that Basis knew what it was doing when it bought the CDO at “substantially below the face value of the securities.”

“At the time of the Timberwolf transaction, Basis specifically stated that it would not place any reliance on Goldman Sachs, and this decision formed part of the agreement Basis signed,” the bank said.

At a U.S. Senate hearing in April, Goldman claimed that former trading unit chief Tom Montag’s statement that Timberwolf was “one shitty deal” referred to Goldman’s own losses on the CDO, which the bank said totaled several hundred million dollars.

Goldman is still seeking to settle the SEC’s charges over the Abacus CDO, which was allegedly structured and marketed on behalf of hedge fund Paulson & Co. But the regulator is keeping up the pressure on the bank—which wants the fraud charges dropped—with a new investigation of another CDO.

The SEC has opened a probe into a $2 billion CDO called Hudson Mezzanine, the Financial Times reports. The same Senate hearing that unearthed the “shitty” e-mail also revealed that Goldman was the only investor in the 2006 CDO to buy credit default swaps on it, in effect betting against a vehicle that it selected the assets for.

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