BOSTON - Officials for the city of Auburn, Maine, said yesterday they have lost more than 40% of the city's funds that were invested in derivatives and other securities.

Acting city manager Patricia A. Finnigan said that the value of the city's $16 million investment portfolio has fallen by about $6.5 million over the past few weeks.

The announcement came only two days after Orange County, Calif's potential $1.5 billion loss from its derivatives investments caused the county to file for Chapter 9 bankruptcy.

Auburn had funds invested in derivatives, zero-coupon bonds, Treasury strips, and some stocks. The recent increase in interest rates and other market conditions caused the city's investments, which had been profitable at one point, to turn Sour.

Auburn, a city outside of Portland of about 24,000 residents, has a yearly budget of $44 million.

"The important thing to remember is that so far this is just a paper loss," Finnigan said. "We hope that over a year or two we will be able to recoup all of our losses."

Finnigan also said that the city is considering filing a lawsuit against the investment banking firms that sold the city the securities because city officials were not made aware of the risk to the city's finances.

Finnigan said she did not know the names of all the firms, if any, that would be the subject of a lawsuit.

Finnigan said that this investment in derivatives was never disclosed to the city council or to the previous city manager.

"This problem was the result of a lack of oversight and an incompetent investment policy," she said. "Part of the problem is that we were never invested in this way until 1993 and the markets have changed since then."

The news about Auburn's investments came only two days after the resignation of finance director William E. Lundrigan.

Lundrian and Finnigan disagreed on the city's policy to invest in derivatives. Finnigan said she did not think that city funds should be invested in risky derivatives.

Finnigan did not say that Lundrigan had resigned specifically because of the losses.

Lundrigan's phone number is unlisted, and he could not be reached for comment.

Town officials said that although the loss does not put the city in as bad a position as Orange County, it is still significant.

The city had planned to use the $16 million to offset its share of the burden on the Mid-Maine Waste Action Corp. incinerator. The incinerator will cost Auburn taxpayers $3.7 million next year. The city will now have to look for an alternative way to pay for the incinerator.

Taxes for city residents could be raised as much as 10% next year, and some planned capital expenditures will be delayed or canceled, Finnegan said.

The city had also planned to purchase several snowplows and police cars next year. But Finnigan said it is uncertain whether the city will have to sell bonds to plug the gap from the lost investments.

If the town does have to sell bonds, it is possible that the town's rating may be downgraded.

The city is rated A-minus by Standard & Poor's Corp. and Baal by Moody's Investors Service. Fitch Investors Service does not rate the credit. it.

Finnigan said that the city council is meeting on Monday with its auditor and investment adviser.

The city has retained Alan Donald from the Portland office of Tucker, Anthony Inc. as its investment adviser. Before now, Auburn had never employed an investment adviser.

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