Feb. 1 (Bloomberg) -- Merrill Lynch & Co. agreed to pay Springfield, Massachusetts, $13.9 million to settle a dispute over collateralized debt obligations that tumbled in value.

The money will reimburse Springfield for the cost of the CDOs, securities tied to home loans and other debts shunned by investors as losses on subprime mortgages mounted. New York-based Merrill said it agreed to the refund after discovering its brokers bought the CDOs without the city's ``express permission.''

``My focus all along has been to recoup these funds for the taxpayers of Springfield,'' Springfield Mayor Domenic Sarno said in a statement released last night. ``In my view, Merrill Lynch has now done the right thing.''

Local government agencies from Florida to Washington state have lost money buying securities such as CDOs that are backed by collateral no one wants. The market for CDOs has collapsed amid surging subprime defaults, hurting their credit ratings and making the securities difficult to sell.

Merrill Chief Executive Officer John Thain said this week that the firm will cut back on packaging home loans and consumer debts into securities because demand for the products has eroded. Similar securities have also saddled Wall Street banks with at least $133 billion in credit losses and asset writedowns, threatening to undermine the bond insurance companies that guaranteed the debts would be paid.

Documents, Testimony Sought

Merrill, the world's largest brokerage, bought CDOs for Springfield between April and June last year after it was hired to help manage the city's cash. It didn't give the city a detailed description of the investment until November when it sent officials a private placement memorandum on Centre Square CDO, one of the series of securities it bought.

``This is the only record of any prospectus being received,'' Edward Pikula, the Springfield solicitor, said in an e-mail. The city never received any documents on S Coast FD V CDO or TABS CDO, the other two series of securities that Merrill bought for it, Pikula said.

Springfield requested the information after it saw in its Merrill account statement that the value of the CDOS was dropping, reaching $1.3 million from $13.9 million by November, city records show.

State Attorney General Martha Coakley said her staff ``will continue to review this matter to determine if additional action by our office is necessary.'' Massachusetts Secretary of State William Galvin's office subpoenaed documents and sought testimony last month from Merrill and its brokers.

``After carefully reviewing the facts, we have determined the purchases of these securities were made without the express permission of the city,'' Merrill said in a statement. ``As a result, we are making the city whole and we have taken appropriate steps internally to ensure this conduct is not repeated.''

To contact the reporter on this story: William Selway in San Francisco at wselway@bloomberg.net Michael McDonald in Boston at mmcdonald10@bloomberg.net.

Last Updated: February 1, 2008 10:36 EST