St. Paul is suing its longtime investment broker to recoup money lost in a risky investment that the city claims it was misled into making.

The city says Merrill Lynch knowingly sold it an investment -- backed by risky mortgage loans and originated in the Cayman Islands -- that is unauthorized under Minnesota law.

Merrill Lynch maintains that the investment was legal.

The city is seeking to win the $993,884.17 it paid for the investment, attorney's fees and punitive damages, according to a lawsuit filed last week in U.S. District Court. Briol & Associates, a firm based in Minneapolis, is handling the city's case.

The city has written off the loss but intends to get its money. "By this federal court action seeking compensatory and punitive damages, the city of St. Paul is aggressively seeking recovery of the public's money," City Attorney John Choi said Monday.

Last August, the city bought what it thought was a highly rated short-term investment known as commercial paper -- short-term promissory notes issued primarily by corporations. The paper, Golden Key Ltd., was to pay back $1 million.

Two weeks after the Aug. 7 purchase, Golden Key was downgraded by Moody's and Standard and Poor's, a so-called enforcement action occurred and the Golden Key assets were frozen.

The city wrote a letter to the brokerage firm in December asking for its $1 million back, saying that it should have received more information about the investment and that the investment didn't meet the requirements of state statute.

A February letter from Merrill Lynch denied the city's request and rebutted the claims.

The amount is a tiny fraction of the city's $250 million investment portfolio. At the time, about 20 percent of the portfolio was in commercial paper.

The city no longer buys commercial paper and has stopped working with Merrill Lynch.

"The investments were legal under state law and consistent with the city's investment policy," Merrill Lynch spokesman Bill Halldin said Monday. "The city itself brought this investment to us and asked that we execute the transaction on its behalf. The investment was similar to ones the city had purchased over the years."

Chris Havens • 651-298-1542