30036962-Abacus-2007-Ac1-Flipbook-20070226
SEC complaint against Goldman Sachs
Did anyone else find the timing of this accusation against Goldman Sachs particularly interesting? On a day when the SEC admitted that it knew about the Allen Stanford Ponzi scheme as early as 1997 but did not act because the case was not a quick hitter slam dunk, the headlines now shift to Goldman Sachs and "financial reform" legislation. Would government officials be calculating enough to do such a thing to put public pressure behind the "financial reform" bill? You betcha.
So what is Goldman accused of? Colluding with John Paulson and ACA Management to build an investment vehicle of mortgages most likely to fail, apply a credit rating those bundled mortgages and sell them to unsuspecting institutional buyers while Paulson sold those instruments short, betting sub-prime loans would default in large numbers. Well, not exactly. They are accusing of "making materially misleading statements and omission in connection with a synthetic collateralized debt obligation GS&Co structured and marketed to investors." Specifically, they misrepresented that ACA selected the portfolio instead of Paulson, and failed to disclose Paulson was intending to short the security. I find it interesting that all three parties aren't charged with a criminal act for colluding to defraud investors of the $1B that Paulson made on the transaction. But the real purpose is to shake the public's faith in Wall Street again, add to their perceptions that Wall Street is a rigged game that favors certain power brokers at the expense of others, and whip-up public sentiment against Wall Street so the financial reform bill will pass.
I have no idea if the government prosecution of Goldman Sachs will be successful. I do believe GS and the other Wall Street firms are riddled with ethical challenges and conflicts of interest. They will sell anybody anything they are willing to buy. I also believe in caveat emptor. I expect this action by the government will generate many more lawsuits from investors who lost money on these types of transactions, as well as additional government law suites against other Wall Street firms.
For the individual investor, these actions will likely trigger a downturn in the markets, and present an opportunity to pick-up equities at cheaper prices. Don't get scared off. Take advantage of the cheaper prices.
Interesting post. I'm not sure yet about the collusion part. If we go into a car dealer and say we have $5,000 to spend on a car the car dealer will show us 5 cars at that price. He will point out that each car has a 10 rating from the ABC car rating agency. It shouldn't surprise us that these turn out to be the 5 $5,000 cars that the dealers feels are in the poorest mechanical shape and it shouldn't surprise us that the car dealer, if he could, would bet against the car we buy lasting a year.
ReplyDeleteOne thing that bothers me is that everything seems so clear in hindsight. But today we see "toxic debt" prices skyrocketing and the government making money off of debt instruments people were sure would default. I know Paulson felt the subprime mortgages would go bad but was it a certainty?
It's one thing to issue stock and not reveal that you just lost your biggest customer - 30 % of your revenue stream - and quite another for that possibility to exist because the economy is weak.
I like your used car analogy. "Toxic debt" at the right price can be a money maker. It all comes down to analyzing risks and probabilities, and making the wager. Depending upon how AIG and GM work out, the government will make a profit on their bailouts.
ReplyDeleteIf you read the details of the SEC complaint, it certainly implies that at a minimum Goldman and Paulson colluded to built a security designed to fail. Goldman will be convicted in the court of public opinion even if they are exonerated at trail. As you point out, Paulson could have very easily lost the bet he made if the sub-prime bubble stayed inflated for a couple of years longer. Nothing was guaranteed. He played a hunch and won, and Goldman collect the commissions on both sides of the trade.