The Goldman hearings
Apr 28th 2010 | NEW YORK | From The Economist online
“ONE of the worst days of my professional life” was Lloyd Blankfein’s characterisation of April 16th, when the Securities Exchange Commission (SEC) filed civil fraud charges against Goldman Sachs and an employee over its failure to disclose that a hedge fund that had influenced the composition of a complex mortgage-debt transaction was also shorting it. April 27th was surely not much better, either for the Wall Street firm’s boss or any of the six other current and former Goldman investment bankers who testified before the Senate Permanent Subcommittee on Investigations. The roasting, which lasted more than ten hours, was as dramatic as any hearing focused largely on synthetic collateralised-debt obligations (CDOs) could be.
Goldman’s persecutor-in-chief was the panel’s chairman, Carl Levin. The gruff Democrat went beyond the SEC’s complaint, accusing the firm of having concocted several deals, not just one, to profit from the collapse of the housing market, and also of being riddled with “inherent conflicts of interest.” Not content merely to skewer America’s pre-eminent investment house, the senator harrumphed that its conduct “calls into question the whole function of Wall Street”—a market that, while supposedly free, “isn’t free of self-dealing.” His attack rested, in part, on internal Goldman e-mails. In one, a senior executive described a Goldman-underwritten CDO as “one shitty deal”. In another, a colleague applauded the structured-products team for making “lemonade from some big old lemons.”
The team’s representatives at the hearing squirmed in the spotlight. Fabrice Tourre, the employee charged by the SEC, firmly denied misleading investors. But he and his colleagues, coached by lawyers in light of the SEC case and clearly fearful of committing a legal faux pas, came across as evasive. At times the dialogue resembled a Pinter play: a question, then a long pause, followed by a spare, cryptic response.
The firm’s senior executives put up a stronger, clearer defence. In response to Mr Levin’s assertion that Goldman had profited from others’ misery with a “big short”, David Viniar, the chief financial officer, pointed out that its net revenues in mortgages were a mere $500m in 2007, with a loss of $1.2 billion in 2007 and 2008 combined.
Mr Blankfein gurned incredulously at some of the senators’ questions, doubtless baffled that they would characterise as immoral profiteering what he viewed as nothing worse than prudent risk management. (He must have wondered if Goldman would be have been better off from a public-relations point of view incurring giant losses, like Citigroup.) But he also struck a conciliatory tone, expressing gratitude for support from taxpayers, who were “understandably angry’ towards Wall Street, and declaring that everyone in the industry has to “ratchet up their standards”.
Nevertheless, he argued that criticism of Goldman’s motives rested on a misunderstanding of the market-making business. Unlike money managers, market makers owe no fiduciary duty to clients, and offer no warranties; their only responsibility is to make sure those they serve are getting the risk exposures they seek. Ironically, Mr Blankfein was at his most uncomfortable when tackling questions about a disclosure the firm had made, rather than one it had not: its decision to release e-mails that happened to reveal details of Mr Tourre’s personal life, a move leading to speculation that the Frenchman was being, as one senator put it, “hung out to dry”.
The hearing produced no smoking gun, but there was much that looked bad for Goldman. The reputational damage is hard to gauge, but it was not a good sign that Goldman was the butt of jokes this week at the Milken Institute’s Global Conference, an annual gathering of businesspeople and policymakers in Los Angeles. One panellist even drew a parallel with Drexel Burnham Lambert, an investment bank that went from best to bust in a matter of months 20 years ago. Some of Goldman’s institutional clients, such as CalSTRS, a Californian pension fund, have publicly expressed concern. It won’t help that shareholders have began filing suits this week. (As of mid-week, Goldman’s share price was 6% lower than when the SEC launched its case on April 9th.)
Goldman’s grilling all but ensures the passage of the Volcker rule, clamping down on banks’ proprietary trading and investments in hedge funds and private equity, as part of a broader financial-reform law. It will also add to pressure for broker-dealers to act with the same fiduciary duties towards their clients as investment advisers, a move already being contemplated by lawmakers. No wonder the usually chirpy Mr Blankfein looked so drained by the time he was let go, after almost four hours in the hot seat.
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