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Killing it like a hooker in Hong Kong

Goldman Goldman on the wall…

I couldn’t resist breaking my long blogging fast to post a quick comment on Goldman’s run-in with the SEC

Firstly, I don’t think Goldman did anything illegal, and therein lies the tragedy, because at the very least what they did commit fraud, but did it without breaking the current laws in existence. Investment bankers are, if nothing else, masters of the fine print, and what this will end up revealing is really that the regulatory and legal system is so far behind the banking sector, that they have little chance of catching up. The SEC is still trying to use circa 1930s laws to prosecute modern fraud, but bankers have figures out all the little details. What do you think the whole compliance and risk management divisions are for.

Some other quick notes on what people are saying from the American Situation:

The investors who took long positions – the US’s ACA and German bank IKB – were what are referred to as “sophisticated investors” (i.e., big boys who should know that “buyer beware” applies everywhere in investment). They knew what mortgage securities they were betting on. As William Cohan wrote in a New York Times op-ed piece, “No one forced them to buy Abacus.”

Ah yes, the so called big boys. One thing you quickly learn in the hedge world,  is that not all boys are equally big. Institutions like ACA and IKB, run by professionals who get paid meagre salaries and bonuses, most of whom do not have the budgets to do independent, sophisticated research, are like 3 or 4 rungs below hedge funds run by owner-managers. An MD at IKB can’t for example, do independent credit analysis of each credit in a CDO portfolio. He simply does not have staff or budget. And in fact, the whole reason IKB is buying AAA securities is because it doesn’t trust itself to do credit analysis.  Furthermore the triple AAA yields do not lend themselves to management fees or big research organization.

So the fact of the matter is, this was the equivalent of a city boy from New York being subjected to the old Texas slow poke, you run a scam on someone who you know won’t or can’t do the analysis, and you don’t tell them that there is some real smart money on the other end.

When you can’t afford to do real credit analysis on your own, besides credit ratings, who is selling you the securities is also important. If you knew a real game player was on the other end, you would not do the deal. That is precisely was Goldman did here.

At the time the investments were made, there was no certainty that the funds would fall in value. Many were still bullish on the subprime market. And if the assets had risen in value, would the SEC be charging Goldman today?

True, the SEC wouldn’t be charging Goldman if the assets had gone up in value, but that doesn’t mean they shouldn’t. Unfortunately the SEC has limited resources, and doesn’t go after cases where the harm isn’t clear. That’s an argument for more resources for the SEC, not one about selectivity in this case alone.

The media is excited about the “billions” involved. In fact, Paulson made about $1 billion. Which, in the world of investment banking and toxic assets, is akin to Dr. Evil’s ransom claim for “one…million…dollars”.

This argument is so ridiculous, I don’t even know how to address it. Would you like a billion dollars? Nuff said.

Goldman itself lost money on the deal ($90 million), making it a fraud to deceive… itself?

Another ridiculous argument, only possible when someone doesn’t know finance, or knows finance and is trying to be facetious. If Goldman had a long position of 90 mil on Abacus, but was overall short 10 bill on the mortgage market, then they were short the mortgage market and made money. At the end of the day, the big banks look at risk from a portfolio perspective, so the risk manager at Goldman would have said OK we take on 90 mil of mortgage risk here, but we already have a overall very short position in the mortgage market, and we earn 15 mil in fees immediately, so that makes economic sense, let’s do it.

We already know that Goldman was net short the mortgage market, so this whole 90 mil exposure may have been something they took on just to do the deal. The loss on it was more than offset by the short, so it’s completely facetious to only point to the loss.

It appears that only one Goldman executive, Fabrice Tourre (who referred to himself as “Fabulous Fab”) was involved, with no connection to the top executive team.

Well this is the obvious defense, that Fab got himself into this by being a loquacious Frenchman with a flair for words. The fact of the matter is that he was not a rogue trader and that the deal was approved by Goldman’s credit, risk and legal. That means the firm is implicated. How much of the details were made known to the upper level guys remains to be seen, but I think senior management below the C-suite were aware of the details.

Unfortunately for Fab, his comments have been embarassing to the Firm, so any opportunity GS counsel sees to hang him out to dry in order to save the Firm, they will take. He’ll join the long list of ambitious youngsters who have been crucified in the last three years, poor kid.

The case might drag on for months if not years, and, since this is a civil (rather than criminal) case, the most that is likely to happen is that Goldman, if found guilty, would face a fine (that would probably represent a tiny portion of its assets).

I agree here. It’s highly unlikely that GS is touched too deeply by this, unless other allegations can be found and a snowball develops.

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April 22, 2010 - Posted by | Uncategorized | , , , , , ,

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