Orange County, Calif., treasurer resigns over investment pool.

SANTA ANA, Calif. -- Under fire for investment decisions that led to the Orange County, Calif., investment fund crisis, county treasurer-tax collector Robert L. Citron resigned Sunday, it was revealed yesterday.

The bombshell announcement was made before Orange County supervisors met behind closed doors late yesterday afternoon as rumors flew that the board might consider total liquidation of the fund.

Assistant county treasurer-tax collector Matthew Raabe was named acting treasurer.

"After much thought and soulsearching and with much regret, I have decided for the benefit of the County of Orange, to resign," said Citron, who previously defended his aggressive investment practices."

Ernie Schneider, county administrative officer, said that Securities and Exchange Commission officials were "here over the weekend." Schneider said that he believed an official SEC investigation had been launched and that litigation also might be forthcoming.

On Friday, Standard & Poor's Corp. placed the county on CreditWatch with negative implications, a possible precursor to a downgrade, following Thursday's announcement that the county portfolio had suffered an estimated $1.5 billion paper loss. The county blamed interest rate increases and problems linked to derivatives trading.

Late yesterday, Moody's Investors Service said it placed under review the ratings of issuers that have funds invested in obligations secured by the pool.

"These guys have put public funds at major risk," said David Herships, a senior municipal analyst and first vice president at Kemper Securities Inc., referring to Citron and other county officials. "They've got a major, major problem on their hands."

In one development yesterday, a number of market observers expressed concern about four Orange County school groups that had borrowed $200 million and invested the proceeds in the pool.

Public documents show that the four Orange County school groups borrowed the $200 million just to invest it with a special Citron pool and reap the profits of his controversial strategy.

The school groups have "issued a bunch of taxable notes due next summer, and there is no place to repay those off except from the moneys in the county's investment pool," Herships said.

"This is preposterous," he added. "Especially with all the fiscal pressures on school districts. These guys are out 'arbing' for a minuscule amount of money."

Chriss Street, an investment banker and father of an Orange County high school student, has spent the last year and a half digging into the financial mess and has uncovered what he calls "an enormous crisis," separate from last week's disastrous report of a $1.5 billion value loss.

Street believes there are numerous other accounts separate from the main fund that represent more than a billion dollars of borrowing by Orange County local governments and several billion dollars in bonds.

"Nobody knows about this yet," Street said. "We don't know if the funds are commingled or segregated. Citron won't answer his phone .... I mean, people are jumping out of windows on this. It's the next big gorilla that'll come marching through here."

Street provided The Bond Buyer with public documents detailing the $200 million in borrowing by the four school groups.

The documents show borrowed amounts of $42.2 million for the Orange County Board of Education, $54.6 million for the Irvine Unified School District, $47 million for the Newport-Mesa Unified School District, and $56.3 million for the North Orange County Community College District.

In the case of Newport-Mesa -- where Street's daughter attends high school -- the district pledged its entire $55 million of annual property tax revenue to earn a triple-A credit rating and back up the loans, Street said. The borrowed amount represents more than half the district's annual budget of $80 million, he said.

Street said he believes the district has so far lost $7.3 million on its investment.

"So what started out as an attempt to avoid small pain has now turned into an enormous crisis that could lead to massive cuts in services, maintenance, and staffing," Street said.

"It was easier for the school board to throw up a Hail Mary with risk arbitrage, rather than to do the heavy lifting of cutting programs and controlling salaries," he said.

But Michael H. Fine, director of fiscal services for the Newport-Mesa district, said that for the current fiscal year the district initially projected $500,000 in earnings based on the borrowing, but "with the decrease in earnings the county is now alluding to," the district expects to make $200,000 or $300,000 on the deal.

"That is still pretty much a winner," Fine said. "It may not be worth all the gray hair I have. But, for the most part, we are making more than zero and that is extra money for our kids."

Herships disagreed with Fine's reasoning. "He should be worried about retaining the principal, let alone breaking even. He is missing the point -- the county investment pool doesn't have the money to pay the notes back. Fine is in a state of denial."

Fine countered that his district had both written and oral guarantees with the county that the district could "get out of the deal at par value, basically, when our piece of it matured."

Even if that is the case, Peggy Eckroth, an advisory board member to the state's Local Agency Investment Fund and a principal for Autumn Capital Investment Services in Dana Point, Calif., said the county's guarantee to the district of "no principal loss" is "very unusual."

"There is no way that a pool can guarantee no principal loss or give any one deposit preferential treatment over another," Eckroth said.

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