NEW YORK -- The PaineWebber Group disclosed yesterday that it would spend $180 million to bail out a mutual fund battered by its holdings of the highly technical and often risky securities called derivatives.
The rescue effort comes on top of $88 million already spent by the big brokerage to reimburse investors burned by what was advertised as a safe and secure mutual fund.
The bailout, at $268 million, may be the largest ever in the mutual fund industry.
It is the latest and sharpest example of the way Wall Street wizardry can go wrong -- and how such problems can hurt ordinary Americans. It also raises fears among some analysts about what would happen if such a fiasco occurred at a firm that could not afford to cover investors' losses.
The money from the bailout announced yesterday will not go directly to investors. It is intended to shore up the value of the fund in an effort to stem its losses.
The Securities and Exchange Commission, which must approve PaineWebber's bailout, is studying whether derivatives pose a pervasive problem in the $2.2 trillion fund industry.
This is the third time this year a fund company has had to rescue a fixed-income fund that had experienced enormous losses from derivatives.
The battered fund, the PaineWebber Short-Term U.S. Government Securities Fund, had been a hit with brokers and their clients who were unhappy with low interest rates on certificates of deposit and money market funds -- investments in which it is almost impossible to lose money.
The fund, which opened for business in May 1993, quickly collected more than $2 billion from investors looking for slightly higher returns.
But to get those returns, the fund's managers invested in derivatives, which are complex securities whose returns are based on -- or derived from -- other investments.
New, highly technical and extremely complicated, most of these derivatives were created when interest rates were falling.
In April, the price of PaineWebber's fund started falling sharply because its mortgage-based derivatives plunged in value as interest rates rose.
So far this year the fund is off more than 7 percent, far more than most other, similar funds.