* Profumo faces toughest career challenge
* Bank's party links draw political fire in election campaign
* Bank is independent of politics - chairman
By Lisa Jucca and Silvia Aloisi
MILAN/SIENA, Jan 29 (Reuters) - Alessandro Profumo went to Monte dei Paschi to stage a financial turnaround; now one of Italy's most renowned bankers must also drag the 540-year-old institution out of a legal and political mire.
Profumo faces the toughest challenge of his long career as he tries to shake off the legacy of heavy losses on derivatives trading under previous managers at Italy's third-largest bank, as well as suspicions of bribery during a 2007 takeover deal.
"Profumo is tried and tested in other banks. He has a good reputation," said a fund manager who knows the Italian banking scene well. "The trouble is that the problems at Monte Paschi are much bigger than elsewhere."
An uncompromising, sometimes abrasive banker, Profumo was drafted in as chairman of Banca Monte dei Paschi last April. His task was to sort out the world's oldest lender along with chief executive Fabrizio Viola, another outsider who had arrived a year ago.
Monte dei Paschi said last week it could lose $1 billion from secret derivatives trades. The bank is also under judicial scrutiny over possible bribery linked to its purchase of rival lender Antonveneta, and is struggling with weak capital and a large stock of bad loans.
On top of all that, 55-year-old Profumo has found himself under political attack during an Italian election campaign.
"You are displaying absolute calm but I see desperate people whose investments have disintegrated," said Beppe Grillo, who leads the anti-establishment Five Star Movement. "You are inadequate to lead the bank," Grillo told a shareholders' meeting last week.
Profumo, a former head of Italy's largest bank UniCredit , is known in the industry as a tough and able banker who led a string of successful acquisitions.
Together with Viola, he has tried to overhaul weak governance at the Siena-based bank and laid off more than a hundred managers with close ties to its previous leadership. But turning around Monte dei Paschi is proving trickier than even Profumo may have envisaged when he moved his home to Siena, a medieval Tuscan town, as required by the bank's by-laws.
Monte dei Paschi, which has a "junk" credit rating, is the only large Italian bank to have sought billions of euros in state aid since the financial crisis, funds which it will get by the end of February.
Profumo had burnt some bridges in Italian financial circles when he clashed with UniCredit shareholders in 2010 over lagging results and a growing influence of Libyan investors.
This dispute led to his departure from UniCredit, which he had turned into a top player in eastern Europe following the acquisition of Germany's HVB, the biggest by an Italian lender.
But his strong personal links with Italy's centre-left Democratic Party (PD), which has long exercised influence over Monte dei Paschi, made him "the ideal figure" to run the troubled bank, said RMJ fund manager Alessandro Frigerio.
The PD, which is leading in opinion polls for national parliamentary elections later this month, is the main political force in the town and province of Siena.
Profumo supports PD leader Pier Luigi Bersani, who is the frontrunner to become Italy's next prime minister, and has never hidden his political leanings, briefly toying with the idea of entering politics after he left UniCredit.
Critics say this could undermine his ability to make a break with the past at Monte dei Paschi, but Profumo rejects this. "Today we are completely independent from political parties," he said earlier this week.
However, the role of politics is clear. Siena town and province together name 13 of the 16 members of the board of a foundation which owns nearly 35 percent of the bank. The foundation appoints half the bank's board members, including the chairman.
Former chairman Giuseppe Mussari, who was replaced by Profumo, was forced to resign abruptly last week as chairman of Italy's ABI banking association, a role he continued to hold for nearly a year after his removal from Monte dei Paschi.
Viola has acknowledged accounting irregularities over the derivatives deals under the previous management but said he had found no evidence of bribery.
However, questions have been raised over why the bank did not immediately disclose a number of secret derivatives transactions in November when Monte dei Paschi raised its request for state aid by 500 million euros, citing a possible hit on its capital from past structured deals.
"Why didn't they say back then that this was linked to the derivatives trades? Why didn't they detail the losses?" said one source close to the shareholders.
Viola said on Monday that his predecessors had used complex refinancing deals to hide losses, leaving the bank dangerously exposed to interest rates swings. However, he said the vital document linking two of the financial transactions in question had been concealed in a safe and not revealed to authorities until he had discovered it in early October.
Anther ghost from the past that may come to haunt Profumo is his alleged role in the "Brontos" tax case, which dates from his UniCredit days and for which the banker has been indicted.
This case centres on suspected tax evasion in 2007 and 2008 stemming from a complex financial scheme, known as Project Brontos, which was set up by Barclays and used by UniCredit. Profumo has vigorously denied the allegations.