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Goldman Sachs … or Sack Goldmans?

There are so many articles and analysis into Goldman Sachs practices at the moment …

Goldman Sachs papers

… that I’m not going to write a lengthy analysis to add to all of these, but have picked a few of the best articles at the end of this blog entry.

What I would like to say is that the Goldman Sachs area of this blog shows that the SEC’s actions announced last Friday could be easily anticipated. From their near admittance of market manipulation in July 2009, followed in August 2009 of talk about the SEC looking at their flash trading practices; to the comments I made in January about the fine line “between making markets and moving markets that Goldman walk. It will be interesting to see how Goldman and company make markets in the future, between the Obama tax and the new regulatory regime.”

This was followed by the way they had to defend themselves recently, as evidenced by Chief Executive Lloyd Blankfiend’s letter to shareholders earlier this month.

Now the USA’s SEC has announced their formal investigation of Goldman Sachs, followed by the UK FSA's agreement to coordinate this investigation across borders.

There has to be a concern about their future.

Here’s my take on it.

The case for Goldman Sachs

  • They are the world’s most successful investment bank
  • They are the world’s best order execution broker
  • They are able to create incredible profits from complex instruments
  • They are the preferred choice of most clients for investment advice for these reasons, and this is why they maintain their success

The case against Goldman Sachs

  • They are the world’s most successful investment bank … and most of their brethren – Bear Stearns, Lehman Brothers, Merrill Lynch have imploded through this crisis
  • They stitch clients up
  • They are purely driven by greed and pay massive bonuses
  • They manipulate markets in their own favour

Sure the list could be longer, and sure we can argue the toss over some of these points, but overall there could be a case of saying the investigations into the bank are all driven by schadenfreude and political motivations. For example, Barack Obama presents his financial reform bill to the Senate this week, so what better timing.

Nevertheless, for the SEC to have “Pit Bull” Richard (Rick) Simpson in there litigating against the bank, means that there has to something in this and that must be a worry for them. Equally with the share price dropping 13 percent on Friday and further again today, even with their stunning results of $3.6 billion profits and $5.5 billion in bonuses for the last quarter, the reputation of the bank is taking a battering.

The core of this debate is the question: does Goldman Sachs make stunning profits – over $100 million every day for 131 trading days last year – by betting against clients?

If the answer is yes, then it’s more a case of Sack Goldmans rather than Goldman Sachs.

Best of the media coverage from The Week, via the NY Times, Reuters, Naked Capitalism

Why the SEC is going after the Wall Street powerhouse, and what it means for the financial industry

The Securities and Exchange Commission took on Wall Street titan Goldman Sachs on Friday, filing a potentially explosive civil lawsuit accusing the investment bank and one of its mortgage traders, Fabrice Tourre, of fraud. (Watch a CBS report explaining the SEC's charges.) Here's a brief rundown of the charges, and what they could mean for Goldman, Wall Street, and financial reform legislation:

What is Goldman accused of? 

The SEC says that Goldman created and sold a package of mortgage-backed securities to investors in 2007 without telling them that the person who picked or approved the securities, hedge fund manager John Paulson of Paulson & Co., was betting heavily that they would fail. Goldman brought in independent fund manager ACA Management to help pick the portfolio, allegedly to make the deal seem more trustworthy. But the SEC says Goldman misled ACA, too, not disclosing that deal "sponsor" Paulson was betting against, not on, the investments. Paulson's role was withheld from investors, too.

What's Goldman's defense?

That the investors who bought the securities were given "extensive information" about the securities they were investing in, and were "sophisticated" enough to know that somebody was going to take the opposite side of their bet. Also, Goldman says that while it earned $15 million in fees, it lost $90 million in the deal, although it didn't explain how.

Who else lost, and made, money on the deal?

The investors collectively lost $1 billion, with the primary losers being ACA Capital and German bank IKB. Paulson & Co. earned almost $1 billion in profit.

Is Paulson being charged?

No. Legal scholar Alan Dershowitz thinks that was a somewhat arbitrary choice by the SEC, though, saying in The Daily Beast that Paulson "could easily have been charged with conspiracy to defraud."

How damaging is this for Goldman?

Analysts say the hit to Goldman's "seemingly invincible" reputation could be much worse than any punitive damages. Given how important trust is on Wall Street, "it's very bad for business" if your clients think "you are doing shady things," says NYU law professor Marcel Kahan. And while any SEC fine would be "really small potatoes" for the firm, Goldman's stock price tumbled 13 percent on the news Friday, erasing more than $10 billion in market capitalization. Also, Britain and Germany are mulling their own investigations, based on the SEC allegations.

Are other Wall Street banks facing similar SEC charges?

It's certainly possible. SEC enforcement chief Robert Khuzami says the agency is stepping up its anti-fraud actions, and specifically looking at "similar deals" involving other Wall Street firms. Until Friday, Goldman employees were able to "sleep soundly after collecting their huge bonuses," says The New York Times in an editorial. Since Goldman wasn't the only bank betting against its own mortgage products, "others on Wall Street may have a harder time sleeping" now, too.

What are the politics of this case?

The SEC is an independent agency, but political strategists and banking lobbyists say the Goldman fraud allegations could help the Democrats pass a financial reform bill. The House passed its version last year, and the Senate finance committee recently sent its version to the full Senate (on a party-line vote) for debate this week. Some Republicans and TV pundits suggest that the announcement was timed to help secure the bill's passage. Business Insider's Henry Blodget says the SEC also might have rushed out the lawsuit to divert attention from a damning internal review of the agency's enforcement over the past few years.

Other recommended articles include:

About Chris M Skinner

Chris M Skinner
Chris Skinner is best known as an independent commentator on the financial markets through his blog, the Finanser.com, as author of the bestselling book Digital Bank, and Chair of the European networking forum the Financial Services Club. He has been voted one of the most influential people in banking by The Financial Brand (as well as one of the best blogs), a FinTech Titan (Next Bank), one of the Fintech Leaders you need to follow (City AM, Deluxe and Jax Finance), as well as one of the Top 40 most influential people in financial technology by the Wall Street Journal’s Financial News. To learn more click here...

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