Derivatives Are Blamed in Arco Fund’s $22-Million Loss : Securities: The volatile investments were made through an ostensibly low-risk money market fund. The company seeks IRS approval to reimburse investors, says it has changed strategy.

Officials of Atlantic Richfield Co. confirmed Friday that it was investments in volatile derivative securities by an ostensibly low-risk employee savings plan that resulted in a $22-million loss last month when interest rates soared unexpectedly.

Employees--some of whom saw the value of their savings accounts fall by thousands of dollars as the plan lost 5.3% of its worth--expressed varying degrees of shock and disappointment with the performance of the Arco-managed Money Market Plus Fund.

“I felt that it was a money market account and therefore that the potential risk of losing principal was nil, so I was surprised when it lost money,” said Stephen Oettinger, director of community and public relations for Arco’s transportation company in Long Beach. He said his holdings in the fund amounted to tens of thousands of dollars.

Arco said it has liquidated all of the derivative securities in question and changed the investment strategy of the money market fund to avoid such investments in the future.

In a letter to employees last week, Arco said it wanted to make good on the losses of affected employees. “Whether or not we can do that depends on whether we get the appropriate approvals from the Internal Revenue Service,” Arco spokesman Al Greenstein said Friday, citing potential tax questions.

The disclosure that the fund invested in derivatives came a day after The Times reported that the Money Market Plus Fund, one of several options employees may choose for investment of tax-deferred or retirement savings, had experienced the dramatic April loss.

“All of the losses were associated with derivative securities with principal risks,” Greenstein said Friday. He declined to specify the types of securities, saying only that they were not mortgage-backed securities, which lately have not performed as expected.

Greenstein would not say whether Arco will make any personnel changes at Arco Investment Management Co., whose president is Beverly Hamilton. Hamilton did not return phone calls Friday.

Word of Arco’s investment strategy comes as regulators and policy-makers are focusing attention on the growing market for derivatives--often-complex transactions involving the trading of options, futures or combinations of the two that are designed to hedge risks in the movement of interest rates, commodity prices or other factors.

Several major companies in recent weeks have announced losses of millions of dollars from derivatives transactions.

However, a spokesman for the Investment Company Institute in Washington, a mutual fund industry trade group, said he was unaware of any money-market-type funds that have had trouble because of investments in derivative securities.

Typically, money market funds invest in commercial paper, government securities, certificates of deposit and other usually liquid and relatively safe securities. Most are managed to maintain a $1-per-share principal value.

In contrast, “derivative securities as a concept aren’t necessarily risky, but a lot are structured so that they are quite exposed to the market and can be quite volatile,” said Catherine Voss Sanders, an analyst with Morningstar Mutual Funds in Chicago.

In general, she said, derivatives are the kinds of investments money market funds should avoid: “Money markets are just perceived by people . . . as rock-solid instruments. Nobody thinks the principal is even capable of” a loss.

Indeed, Arco’s own documents describe its Money Market Plus Fund as an investment vehicle designed to “provide security of principal and liquidity,” as well as to earn rates higher than typical short-term Treasury bills.

Still, plan documents do not prohibit fund managers from investing in derivatives, and fund participants are made aware of the inherent risks of any investments, Greenstein said.

Employee savings funds such as those operated by Arco are regulated by the Pension and Welfare Benefits Administration of the U.S. Labor Department. Area director David Ganz said the agency generally takes enforcement action when a fund manager makes imprudent or impermissible investments or ones that involve a conflict of interest.

He declined to say whether Arco is the subject of an inquiry.

On Friday, phone calls poured into the office of Arco’s fund management company. While the promise of being made whole mollified some employees, others still found the loss disturbing.

“I don’t understand why it happened,” said one Arco executive who asked not to be named. With $150,000 invested in the Money Market Plus Fund, his loss in April would have added up to $7,950. “It certainly suggests a problem that needs to addressed,” he said.

Times staff writers Ralph Vartabedian in Washington and Scot J. Paltrow in New York contributed to this report.