A jury acquitted two former Bear Stearns hedge fund managers of lying to investors about the dangers posed by imploding credit-backed securities that eventually brought down the Wall Street investment bank.

In the first major criminal trial stemming from the sub-prime mortgage crisis, jurors at the US District Court in Brooklyn cleared Ralph Cioffi and Matthew Tannin of three counts of securities fraud and two counts of wire fraud after six hours of deliberation. Mr Cioffi was also cleared of a charge of insider trading.

Government prosecutors had accused the Bear fund managers of encouraging investors to keep their money in two of the bank's hedge funds despite knowing by March 2007 that the funds were in “grave condition and at risk of collapse”.

Bear’s High-Grade Structured Credit Strategies Fund and High-Grade Structured Credit Enhanced Leverage Fund were mainly invested in collateralised debt obligations (CDOs) backed by sub-prime mortgages, which were rapidly going bad as poor Americans defaulted on their home loans.

Mr Cioffi and Mr Tannin hoped that the “funds' prospects would improve and that the defendants' incomes and reputations would remain intact”, prosecutors said. The court was shown e-mails between the two in which Mr Tannin wrote that the sub-prime market “looks pretty damn ugly” and described the entire market as “toast”.

Mr Cioffi, meanwhile, pulled $2 million of his own money from his fund but told investors “there’s no basis for thinking this is one big disaster”, according to prosecutors.

Attorneys for the men said that the e-mails were taken out of context and that Mr Cioffi had withdrawn the $2 million for personal reasons, including a failed property deal.

The defendants’ attorneys argued that prosecutors had failed to show that the fund managers knew the sub-prime market was about to collapse and hatched a scheme to lie to investors.

Bear shocked Wall Street in June 2007 when it bailed out Strategies fund with $3.2 billion after the fund made huge losses on the high-risk investments and investors demanded their money back.

About 300 investors lost $1.6 billion when the funds were liquidated in July 2007.

In September 2007 Bear reported a 61 per cent plunge in third-quarter net profit to $171 million due to the hedge fund losses and in November the bank lost its AA rating.

Despite a bailout from the Federal Reserve in March 2008, counterparties refused to deal with Bear and the Government was forced to broker the bank’s sale to JPMorgan Chase.

Leaving the courtroom this afternoon, Mr Cioffi said: “I’m happy.” Both men, who had faced up to 20 years in prison if convicted, were in tears after the jury’s decision was read out. Benton Campbell, the US Attorney for the Eastern District of New York, said that he was disappointed by the verdict, which demonstrated the difficulty the Government faced in prosecuting Wall Street executives at the heart of the credit crisis.

The verdict is, however, likely to come as a relief to JPMorgan Chase. As part of its $10-per-share purchase of Bear, JPMorgan assumed responsibility for the bank’s liabilities, including the cost of future litigation.

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