Officials in Orange County, Calif., are considering swap proposals from Wall Street that would allow the county to minimize its losses on a heavily leveraged investment pool.

Dealers told The Bond Buyer that they have approached officials in Orange County with ideas on how they can staunch approximately $1.5 billion in potential losses with socalled swap reversals on the county's huge portfolio of derivative products.

The county, dealers said, would consider the proposals, but dealers offered no timetable as to when they could begin any investment strategy.

The offers from Wall Street came as rumors spread through the market that Orange County would take the unusual step of declaring municipal bankruptcy. Dealers said the rumors, if true, could short-circuit any attempt by Wall Street to minimize the county's losses using derivatives.

Officials from Orange County did not return telephone calls.

The county's problems with its derivatives portfolio became national news last Thursday, when officials announced huge potential losses on its investment pool.

Robert L. Citron, who on Monday resigned as county treasurer, used a series of leveraging strategies to create an investment portfolio worth close to $20 billion. Citron started with $7.8 billion of pooled money from approximately 170 municipal authorities.

Citron invested the $20 billion in several derivative instruments that do well only when interest rates decline. But over the past year, interest rates have bottomed out and started rising, causing massive losses in the county's investments. The county relied on Wall Street investment houses to leverage its position and purchase the derivatives.

Now, the county is once again looking to Wall Street and derivatives in order to cap its losses. Dealers said the county is considering swap strategies that would effectively reverse its current investment strategy.

The county has invested a significant amount of money in structured notes, a derivative instrument that in this case pays the county less when interest rates rise.

The result is equivalent to a swap in which the county pays a floating interest rate and receives a fixed interest rate.

To change course, dealers say the county would enter into another swap in which it pays a fixed interest rate and receives a floating interest rate based on the London Interbank Offered Rate.

As a result, Orange County ends up paying the difference between two fixed rates. The county still loses money, but these losses are capped for the life of the notes.

Last week, Orange County circulated a document on Wall Street, which it characterized as a "bid list," stating some of its derivative investments, a managing director at one Wall Street firm said. The county circulated the list before revealing the size of its losses.

"It was originally characterized as a bid list," the executive said. "They [the county] really were looking for valuations to get a better level on the real value."

The executive added the list revealed if the county tried to unwind its derivatives position immediately, it would incur much higher losses than it has reported.

Although the executive, who asked not to be named, couldn't put a figure on the losses, he said it would be "a material difference" compared to the figure announced on Thursday.

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