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Federal Prosecutors Launch Probe of Bear Stearns Funds

Federal prosecutors have launched a criminal investigation into two Bear Stearns Cos. mortgage-related hedge funds that collapsed during the summer, according to people familiar with the matter.

The U.S. attorney in Brooklyn has made a request to Bear Stearns for information related to the hedge funds, whose failure cost investors $1.6 billion, said these people. The probe is in the early stages, the people added, and has not generated subpoenas.

The specter of a criminal investigation is clearly bad news for the embattled Wall Street firm, which is already under the microscope by the U.S. Securities and Exchange Commission. Thursday, two weeks after reporting an abysmal third quarter marred by broad declines in their asset-management and fixed-income operations, Bear officials tried to put a positive spin on the firm’s future during an investor gathering at its New York City headquarters.

“Most of our businesses are beginning to rebound,” said Bear Chief Executive James Cayne. Late in New York Stock Exchange trading Thursday, Bear shares closed 0.52% lower, at $127.61.
Bear’s two funds, the High-Grade Structured Credit Strategies fund and a riskier sister vehicle known as the High-Grade Structured Credit Strategies Enhanced Leverage Fund, were launched in 2003 and 2006 respectively and managed by Ralph Cioffi, a former Bear mortgage salesman.

Until this past spring, the funds had enjoyed a series of up quarters. But when the market for subprime home loans, which catered to weak borrowers, turned south, so did many of the funds’ holdings.

After protracted performance declines and margin calls from Wall Street lenders that could not be met, the funds were shuttered in July. It was around that time that federal prosecutors in Brooklyn took an interest in the matter, said one of the people familiar with the matter.