Sent: 20-04-2010 10:09:04
In this issue:
Return to full article list
HomeFree weekly newsletterSelf Managed Super Fund ArticlesContact usLogin
The Consequences of Goldman Sachs
Fears rose on Friday that charges against Goldman Sachs would be another source of market contagion.
The surprise charges laid by the U.S. Securities and Exchange Commission on Friday against Goldman Sachs raised questions about whether this was a fresh insight into the grimy world of investment banking or simply the same view repeated.
Suspicions were raised about the motivation for the charges as soon as they were announced.
The sceptics observed that the announcement helped conceal the release of a scathing audit report by SEC Inspector General David Kotz detailing the failure of the SEC to control the Ponzi scheme operated for many years by Sir Allen Stanford, even after his misdeeds had been brought to the attention of regulators.
Coincidentally, or not, the Stanford report was released on the same day as the Goldman Sachs indictment was announced despite the former having been in the hands of the SEC for several months.
The Goldman Sachs charges also came a few days before new market regulation measures were due to be considered by the U.S. senate. The legislation being proposed by Senator Christopher Dodd, chairman of the senate banking committee, was in danger of being scuppered under pressure from critical Republican senators.
Now, Goldman Sachs would lose the benefit of any doubt its lobbying efforts might have created in the minds of legisaltors. Resurrecting some of the bad memories of 2008 at the right moment in the debate could stiffen resolve among some wavering senators to pass the legislation.
The Goldman Sachs charges also seemed pretty lame; a little like nabbing the mafia for tax evasion.
Technically, the charge being levelled by the SEC involves inadequate disclosure. Goldman Sachs furiously denies this. All along, and under intense questioning from regulators and congressional enquirers, Goldman chief Lloyd Blankfein and his lieutenants have claimed they sold products to investors who were some of the largest institutions in the world. Those institutions knew the risks and were fully aware that others, including hedge funds such as the one run by John Paulson, were taking contrary bets.
Goldman Sachs might incur some reputational damage but may be quietly pleased if this is as much as the SEC can throw at it. If this is the worst it must face, there will be little serious threat to the firm's business model.
Conspicuously, Goldman Sachs did not terminate the employee who allegedly set up the Paulson CDO scam. At the time of writing this note, the firm was stoutly defending him when they could have labelled him a "rogue trader" and cut him loose in the well trialled tradition of Baring Brothers and others caught out inadequately supervising their traders.
There are, however, some uncomfortable parallels between allegations that Goldman Sachs attempted to rig the CDO market and the demise of the Drexel Burnham Lambert led junk bond market 20 years ago.
A few initial and, we thought, isolated misdeeds gave way eventfully to a conclusion that the whole junk bond market had been rigged. This was repeated in the initial stages of the subprime crisis when we were tempted to conclude that the overall size of the sub prime market was too small to force a systemic shutdown.
If, on this occasion, major players are found to have rigged the CDO outcomes, the most serious repercussions could still be felt. Some of the participants like AIG and Lehman Brothers might have already left the scene but others, like Deutsche Bank, are still critically engaged. Governments might look to claw back some of their losses from the survivors.
Connect that with evidence that banks might have been using accounting loopholes to understate the size of their balance sheets, a finding against Lehman Brothers by its US bankruptcy examiner.
Lump that in with the admission by the Greek government and potentially others that national balance sheets were also being airbrushed to make them look more appealing to investors.
Suddenly, we have another loss of confidence just as we were concluding that markets were becoming safer.
Every time we survive one near death experience, the next threat appears that much less dangerous. So, it might be with Goldman Sachs even it is followed by a discovery that other banks were also conniving to hoodwink investors and regulators. The more dire predictions may not eventuate because of what we have already suffered.
However, one thing is now clear. Regulation does not work if someone is intent on ignoring the rules. Despite a post-Enron environment in which business dishonesty was to be consigned to history, accounting and disclosure malpractices have persisted so widely and on such a scale that Enron appears far less noxious than we might have thought at the time.
This email is general in nature only and does not constitute or convey specific or professional advice. Legislation changes may occur quickly. Formal advice should be sought before acting in any of the areas discussed. Be aware that the information in these articles may become innaccurate with time. Responsibility is disclaimed for any inaccuracies, errors or omissions. Particular investments are neither invited nor recommended and hence this publication is not "financial product advice" as defined in Section 766B of the above legislation. All expressions of opinion by contributors are published on the basis that they are not to be regarded as expressing the official opinion of any other person or entity unless expressly stated. No responsibility for the accuracy of the opinions or information contained in the contributor's articles is accepted by any other person or entity. Copyright: This publication is copyright. If you wish to reproduce this article you require a license, which can be purchased here, to do so.