The Wall Street Journal reported that the attempted exodus from the fund, whose assets are held mostly by pension funds and wealthy individuals, followed a bad bet by the hedge fund manager who placed an order last June for several hundred million dollars of leveraged loans that a group of banks was selling in a private auction on behalf of a German media company, according to people familiar with the situation. The size of the order exceeded internal trading limits at Citigroup, and equaled more than half of the hedge fund’s assets, the sources told the WSJ.

The fund’s manager tried to back out of the deal, saying the banks changed the loan terms after he submitted his bid, according to the news report. When he couldn’t, he suggested Citigroup sue the banks.

Rather than face legal action, Morgan Stanley, a lead bank on the loan deal, worked with Citigroup to negotiate a settlement. In early December, Citigroup executives agreed to a deal under which CSO would pay the bank’s legal expenses and would purchase €512 million (about $746 million) of the loans at face value, even though they were trading for 86% to 93% of their face value, the paper reported.

Had it not purchased the loans and paid the legal costs, the fund would have reported a modest positive return for 2007 – not a 10.9% loss, the news report said. The week after the settlement, the fund’s manager handed in his resignation, and in the following weeks investors tried to pull their money out of CSO.

In a letter to investors the fund’s new manager explained CSO was halting redemptions because if the fund granted all of the requests, it would have to sell valuable assets at deep discounts. The letter also informed investors Citigroup injected $100 million into the fund in January.