Seducing Citron: How Merrill Influenced Fund and Won Profits


Long before Robert L. Citron became Merrill Lynch’s single largest client, the Wall Street giant courted Orange County’s treasurer with a series of sweet deals.

It was a seven-year affair, filled with enticements of lucrative, can’t-lose investments aimed at winning the county’s multibillion-dollar investment account.

And it ended in a bitter separation and ultimately the nation’s largest municipal bankruptcy.

Documents and previously confidential testimony released last week show for the first time how Merrill carefully cultivated Citron and how this affected the way $7 billion in taxpayer funds--deposited in Citron’s investment pool by schools, cities and local agencies--were used for Wall Street gambles.


On one occasion, the brokerage swallowed $116,000 in losses on a securities deal that never materialized. Taking that loss was part of a larger business calculation that characterized Citron’s relationship with the firm.

“While Merrill is going to have to eat the whole thing, I think Bob [Citron] should know exactly what this cost us. . . . [H]ope we can get some mileage out of it,” a top Merrill official wrote in an internal company memo obtained this week.

Some of the deals that followed brought about the county’s financial collapse and--years later--Merrill’s decision to hand over $467 million to settle county claims and get rid of a criminal grand jury investigation. Even though it paid the whopping sum, Merrill has consistently denied any wrongdoing.

The relationship between Citron and Merrill was symbiotic: Merrill was fighting to develop new products and new markets for them. Citron, for his part, was boastfully proud of the higher-than-average returns his investment pool earned and anxious to maintain his reputation as a financial wizard who kept the county’s treasury flush with cash.


An Offer Citron Couldn’t Refuse

Merrill’s courtship of Citron began in earnest in the late 1980s, when the brokerage made Citron an offer he couldn’t refuse: Merrill would guarantee the county a risk-free profit of at least $800,000 if it used the proceeds of a $400-million loan from Merrill to buy the firm’s securities. In addition, Merrill would absorb an estimated $100,000 in customary fees and commissions.

Citron bragged about the deal in a news release to Wall Street reporters, sending an anxious shudder through the brokerage’s executive suite. Would other Merrill clients demand the same sort of deals? What excuses could they offer for giving less favorable treatment to other customers?

One attorney involved in the civil damage case that Orange County filed against Merrill in the wake of the December 1994 bankruptcy said the brokerage was merely luring Citron into bigger deals. “Merrill’s method was the sure way to get Citron’s business--offer him a deal where he can’t lose.”


Soon thereafter, the budding relationship kicked into high gear, records show.

Battling to beat out a rival Wall Street firm, one of Merrill’s top executives flew out from New York to meet with Citron at a restaurant near John Wayne Airport.

Over lunch, Emmanuel “Manny” Falzon, the president of Merrill Lynch Money Markets Inc., began selling Citron on the idea that governments, like corporations, could issue medium-term notes to raise money for securities purchases. No other California government entity had ever done it.

Citron had told Merrill officials he would enter into such deals only if he could secure the most favorable interest rates. When Standard & Poor’s, the ratings agency, expressed reservations about the deal, Citron backed out, leaving Merrill with a $116,000 bill--from attorneys and the ratings firm.


In a memo dated May 12, 1988, Falzon said the company had no choice but to pick up the tab. But Falzon hoped to get some “mileage” out of it, as he wrote in the memo to colleagues.

The same day, Falzon sent Citron a copy of the bill and a separate letter noting Merrill’s goodwill.

“Although the $116,000 was a bitter pill to swallow,” Falzon told the treasurer, “I advised [a colleague] that Merrill would pay the entire amount and chalk it up as a bad experience.”

Shortly after, Citron returned the favor.


In 1990, Falzon needed to dump some undesirable securities from two New England banks. He turned to Citron when other clients turned up their noses at the offer.

In testimony released this week, Falzon recalled telling Citron “this would be a very large favor that he would be extending to me personally, and also Merrill Lynch.”

According to a memo written by another Merrill executive, Citron “was so uncomfortable [with the deal] he felt sick and was having chest pains.”

But he reluctantly made the purchase.


$200-Million Coo Placates ‘Pigeon’

Merrill officials knew that Citron was a quirky character. He was fond of star charts, loud ties, turquoise jewelry and homeopathic remedies. He was also a “pigeon” willing to absorb any new investments the brokerage was pushing, county attorneys charged in the newly released depositions.

But one of Merrill top executives believed Falzon crossed the line when he cast off $200 million worth of undesirable securities on Citron.

“This trade, in my opinion, was unethical, immoral, and possibly illegal,” wrote Michael G. Stamenson in a January 1990 internal memo that was among the newly obtained documents.


Ultimately, Merrill had to buy back the unwanted securities, even though Falzon’s successor had vigorously resisted such a move.

When The Times asked Merrill officials to explain Stamenson’s outrage, spokesman Bill Halldin immediately read a prepared response.

“There was an internal dispute about the New England [Bank CDs] sale to Orange County that ultimately resulted in Merrill Lynch repurchasing the notes,” Halldin said. “This matter underscores how Merrill Lynch and its employees are committed to serving the interest of our clients.”

More important, Stamenson’s protests to Merrill’s top brass strengthened his bond with the treasurer.


The two had actually met under dramatic circumstances during a conference in 1988. Citron, then president of the statewide treasurers association, watched as Stamenson and a lobbyist for Citicorp exchanged blows in a San Mateo hotel lobby. The two men had gotten into an argument over legislation that Citicorp supported, but Citron believed overly loosened municipal investment rules.

Even though he suffered a bloody nose, Stamenson drove Citron to the airport after cleaning himself up in a hotel restroom.

“Public treasurers have no business investing short-term funds in long-term securities,” Citron said in a letter of complaint to Citicorp that recounted Stamenson’s altercation.

Ironically, both Citron and Stamenson would team up to do exactly what Citron had cautioned against years earlier.


By the early 1990s, Citron had formed a deep bond with Stamenson, phoning him almost daily to discuss investments.

Citron would send Stamenson monthly reports that showed the county’s cash balance and how much money was available for investments.

Largely because of his work with the county, Stamenson began raking in record earnings, nearly $3 million in salary and bonuses in 1993 alone.

Citron didn’t seem to care that Stamenson had earlier been involved in San Jose’s loss of $60 million. In fact, he told a state legislature at the time that “nobody knows more about the San Jose situation that I do.”


Bets on Star Charts, Reverse Repurchases

The Orange County treasurer was interested in trying new and ever-riskier types of investments as a way of increasing yields. The extra interest earnings were needed more than ever to help county government avoid massive cutbacks after the state Legislature in the early 1990s reduced the amount of tax revenue county governments received.

Merrill, for its part, was interested in expanding the types of securities it offered municipal investors such as Orange County. With Merrill’s backing, Citron was instrumental in pushing through state legislation that allowed counties to invest in reverse repurchase agreements.

To remain one of Merrill’s most favored clients, Citron would occasionally use taxpayer funds simply to help out the brokerage. A 1991 audit by the county found that Citron made questionable purchases totaling more than $50 million “at the request of Merrill Lynch, to help the broker meet financial statement ratios required by the Securities & Exchange Commission.” County auditors found evidence of a similar transaction in 1990.


Merrill Lynch also came to realize that Citron didn’t always rely on standard investment techniques.

For more than a decade, the treasurer used a $4.50 star chart, purchased from an Indianapolis astrologer, to help make investment decisions for the county, as well as for local schools, cities and special districts.

In papers released this week, Citron testified that he told Stamenson, among others, that he would keep the chart in his desk and use it to predict changes in the financial markets. In April 1994, Merrill officials began planning damage control if interest rates continued their upward spiral, and Orange County suffered huge losses on its interest-sensitive portfolio.

Its attorneys kept in reserve a news release defending Citron’s record as a treasurer, if questions about his investments began to surface.


“He’s has demonstrated that he is an experienced and professional investor fully cognizant of the dynamics of his portfolio.”

Six months later, Orange County declared bankruptcy.


Times staff writers Ray F. Herndon and E. Scott Reckard contributed to this report.