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Goldman Sachs: Yesterday a giant squid. Tomorrow calamari?

Is Goldman Sachs calamari?

Overpaid bankers who are given crazy bonuses for making average returns and who ought to be using their first-class brains to design volcano-proof 747s rather than financial timebombs are a favorite topic on Monevator.

And don’t get me started on the housing bubble.

You might therefore expect the Goldman Sachs fraud charges to have me bashing away at my keyboard like Bill Clinton on an intern’s Facebook page.

But to be honest, I find myself strangely unmoved.

It’s hardly news, is it? Two years ago I wrote that Wall Street ‘innovation’ created the credit crisis, and that the elite banks should pay for it. The subsequent carnage took out Merrill Lynch and Lehman Brothers. Not a perfect result but better than I expected.

Okay, so bankers were soon collecting huge bonuses on the back of the special measures designed to protect them from going bust – but who was shocked by that? On a professional level bankers care only about money these days, and for all I know that’s all they ever cared about.

No, this SEC move seems politically timed. The sub-prime issue has been knocking about for ages. Michael Lewis even wrote a book about it!

What’s more, Goldman Sachs seems to be being challenged on a technical point, even though the ‘moral’ impetus behind the action (which will justify it to the electorate should the market wobble) is from the gut.

Shooting the messenger (and the postmaster)

What especially irks is the way the hedge fund Paulson & Co. is repeatedly painted in articles about the case. The emphasis is on how the fund made $1 billion by betting against sub-prime, as if it was at fault to do so.

We should give John Paulson an honorary knighthood for his services to market efficiency. If certain bankers had thought as much about the fallout from sub-prime mortgages – rather than just high-fiveing each other as they packaged them up for profit – then the bubble might have burst sooner, and less painfully.

Instead we have the spectacle of Goldman Sachs banker Fabrice ‘Fabulous’ Tourre writing in the midst of the boom:

“More and more leverage in the system, the whole building is about to collapse anytime now.

Only one potential survivor, the Fabulous Fab [Tourre]… standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all of the implications of those monstrousities!!! [sic]”

You really couldn’t make it up. Then again he is not just a banker – he is a French banker.

It certainly sounds awful to a public that until recently thought of Captain Mainwaring when they thought of bankers. But again, the egotism and disregard is nothing new.

What the SEC alleges is pertinent is that Paulson was shorting the securities that Goldman Sachs was packaging up to sell, and that Goldman Sachs kept this secret from the client on the other side of the deal.

Why is this an issue, even in a civil court? It seems a red herring to me. If I sell some shares, am I to be legally obliged to warn whoever buys them that I think I’m getting the better bargain? And was Goldman even allowed to reveal Paulson’s identity and motives to its other client?

As to the latter point – the client’s interests – a similar analogy applies. When dealing shares, a market maker isn’t obliged to say who he is buying or selling from, as far as I’m aware. Why should it be different for supposedly sophisticated investors trading in complex securities?

Smells like rotten fish

I had lunch with a banker friend at the weekend (yes, they’re real people, and they can be pleasant enough away from the office!)

He told me the issue is that Goldman’s actions failed the ‘smell’ test. They may have been technically permissible, but its other clients won’t be pleased by the impression they’re left with.

My banker friend couldn’t help smiling at Goldman’s fate. He said everyone in The City has been waiting for the company to put a foot wrong.

When it comes to loathing bankers, even bankers are it!

Goldman Sachs’ shares fell 12% on Friday, which seems an over-reaction. But I cheerfully admit to not having the faintest idea where this will end.

It’s hard to believe that the SEC would have turned over this stone without the willpower to go to war on it. Goldman Sachs’ robust and public denial suggests it expects as much.

As one hedge fund manager put it in the papers:

“With all of the people who were inside the Goldman credit engine, to point the finger at some French VP is as credible as blaming the collapse of the Royal Bank of Scotland on one of its tellers.”

We’ll see. I can’t bring myself to actually stick up for investment bankers, but on the face of it the case against Goldman doesn’t look especially convincing.

Further reading:

Got a view? Let us know in the comments below.

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{ 7 comments… add one and remember nothing here is personal advice }
  • 1 SJ221 April 19, 2010, 3:45 pm

    Okay I’ll bite!

    Nice squid pub but I don’t follow why you’re against the SEC move?

    You say you called the bankers on creating the subprime mortgage mess and also that they should take the blame and pay for it.

    So what’s wrong with Uncle Sam going after GS? From your reasoning, isn’t it calamari washed down with sangria all round to celebrate?!

  • 2 The Investor April 19, 2010, 3:52 pm

    @SJ221 – Yes, I can see why you might be confused. The issue for me is that it’s not a means to an end – I don’t think Goldman Sachs should go down in a long-postponed witch hunt, if that’s what it is, or be hoisted on a technicality, again if that’s what this is. (I’m not an expert on contract law in MBS trades! 😉 )

    The time to extract punishment from the banks was when they all faced bankruptcy because of the sub-prime kick-started credit crunch. Unfortunately the whole system faced meltdown because the fallout was so great, and it was judged, rightly or wrongly, that the best way to fix it was to bail out the banks that had helped cause the crisis with their murky products.

    That’s why I say Meryll and Lehman Brothers was our pound of flesh.

    I’m all for regulating what the banks can do (not that I think it’s ultimately possible to legislate against failure) and for curbing the stupidly high pay that sucks our best graduates into a zero-sum game, even if only by making them hold a lot of capital and increasing competition somehow.

    But I’m not going to support hindsight charges brought on the back of an unsuccessful trade, which according to some interpretations is all this case amounts to.

    I could be wrong though, and as I said in the piece I don’t claim any special insight into Goldman Sachs or where we go from here. We’ll see! 🙂

    Thanks for your comment!

  • 3 Simple in France April 19, 2010, 5:24 pm

    I have to agree with you. I’ve stopped looking at Goldman Sachs in the news since the whole thing in Greece. It raises my blood pressure too much. What really gets me is that it all seems legal. And that the US government (and it’s citizens–me!) paid these jerks to stay in place. Sigh. It’s kind of like, well I can’t think of a non-vulgar analogy at this time 😉

    The problem I’d like to point out to our illustrious government is that this was all legal in the first place . . . It’s not the banks’ job to make the rules.

    But now I want to watch another round of news stories on Goldman Sachs to see if they really get caught. I’ll have to have a glass of wine when I do to remain calm. . .
    .-= Simple in France on: Risks you’d take to live your dream =-.

  • 4 Financial Samurai April 20, 2010, 12:55 am

    Nice! I knew there was a side of you that would realize that the politicians are just trying to make scapegoats out of one firm, instead of hold themselves, or the people who BOUGHT more house than they could afford accountable.

    Bravo Monevator for reforming! Let free markets reign!
    .-= Financial Samurai on: Don’t Have Children If You Can’t Take Care Of Yourself =-.

  • 5 Money Reasons April 20, 2010, 10:05 pm

    I agree with your points “The Investor”, “Financial Samurai” and “Simple in France”!!! I don’t think I can add anything you’ve all said any better. Nice job, it good see that others can read between the lines!!!

    I’ll add to the viewpoints by saying:

    The US government can’t blame themselves for part of the problem (after all they need to get re-elected), and they certainly can’t blame the US voters… So the only entity they can blame something on is the banks… I just hope this doesn’t become some kind of Mccarthy-like witch hunts!!! The more I see the current US government do, the less respect I have for them… I just hope their careless actions don’t stall the recovery, and put us back into a recession!
    .-= Money Reasons on: MoneyReasons Weekly Cache 2010, April 18 =-.

  • 6 Bret @ Hope to Prosper April 21, 2010, 4:31 am

    Here is my take on the Goldman situation.

    First, it’s important to understand what they are charged with. It’s not only that they sold an opposing position to the Paulson hedge fund, that might have been OK. It’s that they allegedly allowed Paulson to influence which properties went into the CDOs and then told the German banks the properties were selected by an independent third party. If, all of these revelations are true and provable, this could be very bad for Goldman Sachs. They could they be on the hook for the $1 billion lost by the German banks, plus fines and damages.

    Second, I think the German banks were chumps. From what I understand, they bought something called a “Synthetic CDO”. In other words, they didn’t even own the real CDO, properties or mortgages. They were speculating (i.e. gambling) with a derivatives instrument that Goldman just whipped up out of thin air. They are very, very lucky to even have a remote chance to recover their loses.

    Most important, I don’t think this can be settled quietly or made to go away. This is a huge blow to Goldman’s reputation, no matter what happens in the trial. Who is going to do business with them, now that everyone knows how they screwed their customer? This could have a similar effect to Arthur Anderson failing after the collapse of Enron.

    Finally, this is all very political. The SEC may just be doing their job, but the timing is suspicious. Supposedly, they knew about this for nine months and just filed it. Also, there are supposed to be other major charges against other investment banks. In the past, GS was almost untouchable because of their political clout. It’s very obvious to me that their layer of protection just evaporated.

    Powerful people are up for re-election and voters have had enough of the financial elite. Also, President Obama and the Democrats want derivatives reform and they are tired of being stymied by the deep-pockets. Banks are officially fair game right now.

  • 7 The Investor April 21, 2010, 8:54 am

    @Bret – Thanks very much for that excellent summary of the case for the opposition.

    On a related note, I wonder where (if at all) these new IMF banking regulations being suggested today will into the move against the banks? Obama could potential latch on to them as a way to internationalise financial reforms, although always non-trivial getting international consensus past the admirably suspicious American people.

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