Merrill Lynch & Co. Inc.'s $1.3 billion bet on subprime lending hit a sour note on Monday, when the world's largest brokerage confirmed job cuts at its First Franklin Financial Corp. unit.

Merrill Lynch bought San Jose-California-based First Franklin in December amid a meltdown in the market for risky subprime mortgages. Analysts have questioned the timing of the deal and the rich premium Merrill paid for the company.

Merrill Lynch declined to say how many jobs were being cut. Recently filed reports with U.S. banking regulators show that Merrill Lynch Bank & Trust Co., where a lot of the First Franklin franchise is housed, lost $111 million through the first half of 2007.

We have adjusted our staffing levels to be in line with current business requirements, the company said in a statement.

Merrill Lynch's rationale for buying the business -- packaging risky mortgages into securities for institutional investors -- has been undermined by escalating defaults throughout the subprime industry. The market for securities backed by subprime loans has all but dried up in recent months.

First Franklin relies on independent brokers to find borrowers and to submit loans applications. This model keeps overhead costs lower than a branch-based approach. But Merrill's peers, including Lehman Brothers Holdings, have abandoned or sharply curtailed funding loans sourced by independent brokers. Lenders have complained about lax underwriting and outright fraud on broker-related loans.

In recent months, First Franklin has moved toward offering Alt-A loans, or mortgages to borrowers with better credit than subprime customers.

(Reporting by Tim McLaughlin)

California Mortgage Merrill Lynch