May 5, 2010
Goldman Sachs used to be the firm that pursued top government posts; now government is in hot pursuit of it, and not in a good way. The SEC has charged the firm and an employee, Fabrice Tourre, with securities fraud and the Justice Department has commenced a criminal investigation, according to news reports.
Change appears to be swallowing Goldman Sachs. It began quietly moving out of its storied and staid headquarters at 85 Broad last Fall to flashy new multi-billion dollar digs at 200 West Street, including a 54,000 square foot gym (roughly the size of 20 homes for average Americans; those who can still afford one after the Wall Street pillage). And after the release of internal emails by the SEC and Senate, Goldman looks more like a sleazy boiler room pump and dump operation in drag than an investment bank (in drag as a bank holding company). Comedy talk show hosts are having a field day (Jon Stewart calls them “those f*!*!ing guys”) and Goldmanfreude (pleasure in watching Goldman shamed for the pain it inflicted on others) is in full swing.
It all sounds eerily familiar to the wealth transfer maneuver by Goldman Sachs Trading Company in the asset bubble of 1928. The Trading Company was a closed end fund (called a trust in those days) that Goldman Sachs created and offered to the public at $104 a share, stuffed with conflicted investments while paying Goldman a hefty management fee, only to end up a few years after the 1929 crash trading at a buck and change. On May 20, 1932, Walter Sachs, President of the Goldman Sachs Trading Company, was grilled by the Senate Committee on Banking and Currency. The implication was the same as the current round of Senate hearings: Goldman royally fleeced its customers to line its own pockets.
Security lawyers who watched the Senate Permanent Subcommittee on Investigations grill Goldman Sachs employees on April 27, 2010 hopefully were more eagle-eyed than investment guru Warren Buffet, who is now echoing the same refrain as Goldman CEO Lloyd Blankfein, that the firm has done nothing wrong and is being unfairly pummeled. Never mind that Mr. Buffet has $5 bilsky invested in Goldman on which he is earning 10 percent. (Goldman employees like to refer to $1 billion in their emails as a bilsky when bored of characterizing what they’re selling to clients as crap or sh—y deals.)
The first Goldman Sachs panel to line up before Senator Carl Levin’s subcommittee on April 27 consisted of Daniel Sparks, Joshua Birnbaum, Michael Swenson and Fabrice Tourre. Mr. Sparks headed the Mortgage Department and supervised the other three who worked in the Structured Product Group at the time the SEC has alleged the securities fraud occurred.
To hear these four tell it, their jobs included trading for Goldman’s benefit (proprietary trading), originating investment products, selling the products to customers once they were created (distribution), and, in Mr. Tourre’s case, even speaking with the rating agency that would transform these subprime bets into AAA derivatives. And how did they sum up all of this as a job description? They testified, under oath I might add, that they were “market-makers.” In a sane world, a market maker is an entity that matches buyers with sellers and profits from capturing a portion of the spread (bid and ask) on the buy and sell price of securities.
To a lay jury, this might fly as legitimate conduct; something akin to a short order cook who shops for the groceries, whips up the omelets, throws a little parsley garnish on the plates, serves the diners, and tallies up his P&L at the end of the day. If he overbought on ground beef, he might have to have three days of specials like Shepherd’s Pie, Hungarian Goulash, and Spaghetti with Meat Sauce to “flatten” his position and “get closer to home.” Nothing criminal going on here; just good ole American know-how and innovative workouts.
The major problem with this analogy, and most others in defense of Goldman, is that the short order cook wasn’t trying to pass off E. coli beef for prime rib. Another problem for Goldman is that embedded in the heart of every securities law is the principle that the customer must be treated honestly and fairly and any mechanism or device to deceive, manipulate or defraud is patently illegal. Remember, securities laws grew out of the ingrained Wall Street corruption exposed in two years of Senate hearings in 1932 and 1933.
It is difficult to see how one can be engaging in proprietary trading for the benefit of the firm at one moment, acting in an agent capacity for the benefit of the customer the next moment, and creating investment products designed to fail on a latte break. Sparks, Birnbaum and Swenson all had principal licenses to engage in investment banking activities like underwriting as well as the Series 7 license to trade securities. Mr. Tourre had only the Series 7 and Series 63 licenses to trade securities. He had no principal license according to his regulatory file available online. That could be a big legal issue for Goldman as a firm, for Mr. Sparks who supervised him, and for the controlled-demolition investment product he assisted in creating without a principal license. Failure to supervise is one of the first areas security lawyers review in assessing a firm’s liability.
According to the SEC complaint, Mr. Tourre knowingly assisted in creating and then peddled an investment product designed to fail that had been handpicked for that purpose by a hedge fund manager to facilitate his profiting from a short position. (John Paulson, the hedge fund manager, made approximately $1 billion while those on the other side of the trade lost about $1 billion while never being advised of the hedge fund manager’s role.) According to the Senate, Goldman was itself shorting (betting on subprime derivative products to fail) while actively promoting these products to clients. The Senate hearings raised a practice and pattern of deceit by Goldman against its own clients. And let’s not forget that the approximately $12.9 billion of taxpayer bailout funds that went in the front door of AIG and came out the backdoor into Goldman’s coffers was a result of Goldman’s well-placed subprime bets offloaded onto AIG.
Clearly, Goldman’s defense is being structured around the idea that anything goes if you call yourself a market maker. That seems like a fairly lame defense when your shareholders have lost $20 billion in market cap despite your top tier law firms playing hardball and the Oracle of Omaha waving pompoms. (This Buffet gesture is reminiscent of Prince Alwaleed bin Talal cheering on Citigroup as its share price plummeted to earth along with tens of billions of off balance sheet debt derivatives. He also owned a boatload of the stock.)
My advice to Goldman is to throw yourself on your sword. Come clean on everything and clean house. Put a modest gym in the basement of your new digs and donate the 54,000 square foot space to charities for the struggling folks you ripped off in their pensions and 401(k)s. And maybe it’s time to apologize for what you did in 1928 and 1929 as well.
Then have a sit down with Warren Buffett and start co-authoring OpEds on why the Glass-Steagall Act separating investment banks from insured mom and pop funds at commercial banks must be restored. If you have any trouble finding an argument for this, just lay all those recently disclosed internal emails end to end and observe the narcissistic, sociopathic culture you’ve created out of the uber-testosterone Wharton School boys.