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The implications of Goldman's defence

Robert Peston | 10:41 UK time, Saturday, 17 April 2010

Goldman Sach's response to the SEC's fraud charge shows that probably the best way to see the SEC's action is as an attack on one important aspect of the leading investment bank's business model - which, of course, probably makes the charge more significant than the narrower allegation that it committed a single billion-dollar crime.

The world's number one investment bank concedes that it constructed Abacus 2007-ACI after the mega hedge fund Paulson "indicated its interest in positioning itself for a decline in housing prices" (see yesterday's note, "Goldman may owe British taxpayers $841m"). And it says that Paulson provided "input regarding the composition of the underlying securities" and stood to benefit "from a decline in the value of the underlying securities".

Also, Goldman doesn't attempt to deny that those who invested in Abacus may not have know that Paulson would be betting against them, or taking a short position that would impoverish them to Paulson's considerable benefit.

But Goldman has a defence that deserves to be taken seriously - which is that the firm stuck to the conventions for how such deals should be managed.

Goldman says that those who invested in Abacus, notably IKB and ACA, were experienced professionals who were "among the most sophisticated mortgage investors in the world".

And it says that the normal practice of a market maker - and part of Goldman's role in this deal was as market maker - is not to "disclose the identities of a buyer to a seller and vice versa".

Goldman is also completely adamant that it did not ever represent to ACA that Paulson would be a long investor in Abacus - although ACA, according to the SEC, believed that was the case.

A bit of explanation is required here: ACA Capital Management was a leading manager of CDOs; it gave final approval for the 90 mortgage-backed bonds on which Abacus was constructed, having received input from Paulson and IKB; and it was the largest investor, in the sense that it provided insurance against default for Abacus, with a $951m exposure (which through a complicated chain ended up generating huge $841m losses for Royal Bank of Scotland).

So, more specificially, Goldman says that ACA and IKB, a German bank, were given all the necessary information on the securities underlying Abacus to have allowed them to assess the risk of investing in Abacus; and that they knew that a deal of this sort was always going to have someone on the "short" side, profiting from the claim on the credit insurance if the deal went bad.

Here's what Goldman thinks is the clincher, in that it's the first line in its defence: Goldman itself lost money on Abacus; although it took a fee of $15m on the transaction, it too was an investor in Abacus - alongside IKB and ACA - and ended up losing more than $90m.

So Goldman can't understand why anyone could think that it constructed Abacus as a surefire lossmaker, to the detriment of ACA and IKB, because if that had been its intention it - like Paulson - would surely have bet on Abacus's collapse, rather than putting its own money into the deal.

All I would say about this apparently simple and compelling point is that CDO structures are highly complicated. And it's simply not possible to know, on the basis of the available financial material, what degree of poor performance by Abacus would have generated net losses for Goldman.

It is conceivable that Goldman invested on the basis that some degree of poor performance by Abacus was highly likely - just not the total meltdown that transpired.

Doubtless all this will become clearer as the SEC's case against Goldman is pursued.

But what may be of some concern to Goldman's owners, its shareholders, is that in denying that Abacus was a rogue deal, Goldman has in a way raised the stakes for the firm.

If Goldman were to lose the case, there could be collateral and expensive damage to the way that it constructs and sells other deals, and thus to the inner workings of one of the most formidable moneymaking machines the world has ever seen.

UPDATE 17:35 Following my blog of yesterday ('Goldman may owe British taxpayers $841m'), Royal Bank of Scotland says that its board has not yet made a decision on whether to sue Goldman.

Royal Bank will let the SEC's case against Goldman run for a bit and will then make a decision. The board will have discussions with lawyers in the coming weeks and "think carefully" about suing Goldman, I am told.

As chance would have it, the previous Royal Bank board, under the then chief executive Sir Fred Goodwin, had a row with Goldman in the spring of 2008 when Goldman was an advisor on Royal Bank's £12bn rights issue.


  • Comment number 1.

    So, President Obama is showing guts and determination. The tentacles of the "vampire squid" are unwinding.
    Over to you now, Gordon and Alistair...
    Was there not a British bank that sold similar product to its clients?

  • Comment number 2.

    Isn't the possibility they might win also interesting!
    It might give the regulators an argument for even tighter regulation on derivatives than they are currently thinking of.
    So potentially damned if they win or lose?
    If they win it could affect whole industry, where if they lose they shoulder the blame...

  • Comment number 3.

    The squid will twitch and turn in agony but eventually it will collapse under the weight of its own slime.

  • Comment number 4.

    You've got to laugh.

    Is it the ''nutters in the tent'' versus the ''nutters in the Saville Row'' ???

    For the Undisputed, Nutters Of The Universe title bout #21...

  • Comment number 5.

    Sorry, I should make it clear, I, of course, mean ''nutters(bankers) in Saville Row (suits)''.

  • Comment number 6.

    The problem for the financial regulators is that they are outbrained by the banks. There's a continuing problem that the banks understand the regulations so well that they outmanoeuvre the regulators. Next question is, can they do the same to legal systems ?

    There are two possible solutions. One is to out-recruit the banks so that the brains are in the regulators and the legal systems. The other is to come up with a fairly arbitrary judgment fuelled by primarily political sentiments - like banker-hating - so that the bankers cannot rely on the letter of the regulation.

    It worked on MPs...

  • Comment number 7.

    Now let me see, wasn't it just a year or so ago that some British directors went to jail in USA though "they only did what everyone else did". It was common practice at the time.
    "But Goldman has a defence that deserves to be taken seriously - which is that the firm stuck to the conventions for how such deals should be managed"
    So they didn't break the rules!! Where have I heard that before - oh yes, somewhere called Westminster.
    And the fees for the fat cats continue - solicitors, accountants, bankers, auditors, civil servants. Good job someon'e earning some money in the recession.

  • Comment number 8.

    "The most sophisticated mortgage investors in the world"??? Don't they really mean the most sophisticated con artists in the world? These people are nothing less than criminals.

  • Comment number 9.

    What about the material holdings through offshore holding companies of many partners and executives of GS in Paulson & Co? The $90m loss is a deliberate diversion. The SEC needs to dig deeper. They won't because they're tools of the banks. This is just a show trial (not even a trial an 'investigation').

    Even if these 'sophisticated' investors knew of Paulson's involvement they were hoping they could sell their holdings to a greater fool while the pyramid scheme was still going. They're a cartel intent on transferring wealth from passive investors to the happy insiders. It's a rigged market not a free market

  • Comment number 10.

    I think it's quaint that Obama thinks Goldman is somehow subject to the rule of law. This will not end at all well for him.

  • Comment number 11.

    It would appear to me that the "market maker" shouldn't have to tell the buyer who the seller is and what their position is. Surely isn't the advice of ALL financial advisers is "remember investments can go down as well as up" It seems to me that the only recourse there could be is if GS was advising ACA on the buying of them as well (which would mean surely conflict of interest) If that wasn't the case then it should be thrown out, Or is it a case of someone deciding to try and make a profit from another's profit base?

  • Comment number 12.

    "among the most sophisticated mortgage investors in the world"

    Don't look too closely at this statement will you? For if you do the consequences are catastrophic. In reality 'sophisticated' actually equates to 'randomly (historically) lucky'. These investors are in fact fooled by their own arrogance - and that is really the general condition of all market 'experts'. The have nothing more going for them than the random luck of past actions.

    This both explains why the debt instruments were created and the inevitable consequences of their creation. This is the hubris of the markets that caused the 1930s and the 1870s crashes. They have nothing going fro them at all except luck - they have paid huge sums of money to economic and business academic institutions to provide 'theoretical' support for their arrogance. They have perverted the whole science of economics and have rendered it a non-science. That is what the 'masters of the universe' have done, nothing more and nothing less!

    The 'sophistication' is nothing more than that of a tin-pot dictator or gangster - the arrogance and hubris of power. There is no theoretical basis for their success.

    The inevitable consequence of this is that we have to reconstruct the whole world's banking industry as a service to trade - the unredulatable and unregulated gambling den has to be closed. The fake money that they have 'created' has to be paid back by its borrowers and if they cannot these borrowers will have to suffer foreclosure if the debt is secured. There is no alternative to this as these monsters of the universe have quite literally broken the bank in both the USA and the UK.

    We must return to valuable money once again!

  • Comment number 13.

    In order to maintain market integtity and public trust,securities and financial regulator should allow the firms to fail.
    And bring the wrongdoer walk on the camera.

  • Comment number 14.

    The best way to see the SEC's action against Goldman Sachs is a desperately needed investigation into its double-dealing, an investigation that will ultimately lead to a declaration of guilt or innocence.
    This was not a single billion-dollar crime; it was a multi-tangled mess that involved trillions.
    As you say, Goldman admits it constructed Abacus 2007-ACI because in 2006, Paulson & Co. indicated its interest in positioning itself for a DECLINE in housing prices. The firm structured a tangled bundle (CDO) through which Paulson would benefit from the DECLINE. Why would Paulson do this? In addition, why would he provide specific "input regarding the composition of the underlying securities". E.g. Why had Paulson taken all mortgage-backed securities originating with Wells Fargo & Co when Wells Fargo was generally perceived as one of the higher-quality subprime mortgage lenders.
    There's only one answer: Paulson knew the housing bubble was about to burst and he was positioning himself to profit.
    Those on the other side of the transaction, IKB (DDeutsche Industriebank, Düsseldorf, Germany) - and ACA Capital Management, the portfolio selection agent, would benefit from an INCREASE in the value of the subprimes.
    ACA Capital Holdings Inc., defunct bond insurer at the center of the SEC fraud case against Goldman Sachs Group Inc., appeared and reappeared on Wall Street’s selling securities backed by subprime mortgages.
    Goldman also conceded that those who invested in Abacus may not have know that Paulson would be betting against them, or taking a short position that would make them less rich and make Paulson much richer.
    How could they know? Even now bundled CDOs are proving so complex, so-intertwined that the very best professionals cannot untangle them to write them off. They sit on a large number of balance sheets distorting the reality of true capital.
    But Goldman has a defence that deserves to be taken seriously - which is that the firm stuck to the conventions for how such deals should be managed. You’ll note that Goldman does not say rules, regulations or laws because in the United States of America regulatory tools when down with Glass-Steagall. This is the problem in dealing with the USA – derivatives, credit default swaps, CDOs - all unregulated. It's buyer beware BIG-time!!
    Goldman says that those who invested in Abacus, notably IKB and ACA, were experienced professionals who were "among the most sophisticated mortgage investors in the world". This is a defence? So Goldman outsmarted some pretty smart guys; this is a defence?
    ACA lost the investment-grade credit rating it needed to guarantee new securities in December 2007 as defaults on home loans packaged into bonds caused a credit seizure. Write-downs began to happen. Losses began to happen - almost $1.8 trillion at the world’s largest financial institutions.
    ACA was professional; yes, it knew what it was doing. ACA was backing $70B of credit-default swaps, approximately $30B of which were related to residential mortgage-backed securities issued in 2005 and 2006. The SEC alleges that ACA was misled by Goldman Sachs in early 2007 to believe that Paulson & Co., which bet against subprime securities, was siding with the insurer in backing an investment pool of subprime securities known as ABACUS 2007-AC1.
    Goldman Sachs decided around January 2007 to approach ACA about becoming a collateral manager. What did Goldman really want?
    It's name! The ACA name on these transactions - ACA’s branding to help distribute the bonds. ACA employees were not made aware during several meetings between ACA and Paulson that the hedge fund manager intended to bet against the CDO that he was working with ACA to create. In August 2007, with the market for subprime securities imploding, ACA executives said (conference call with stock investors) that they were looking forward to doing more deals at better prices as competitors abandoned the market.
    Goldman says that the normal practice of a market maker - and part of Goldman's role in this deal was as a market maker - is not to "disclose the identities of a buyer to a seller and vice versa". This makes next to nothing sense! Once you role twisted products into CDOs, whose sole purpose is to muddle the multi-sellers so the buyer cannot know what s/he is buying, I’d like to see you try to unmuddle the CDO to explain to the buyer exactly what has been bought and from whom. As I said, we can’t even sufficiently untangle them to write them off.
    CDOs, such as ABACUS, bundle fixed-income assets such as bonds or loans and slice them into new securities of varying risk intended to provide higher returns than other investments with the same rating. Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt (which is probably nil or close to it).
    Here's what Goldman thinks is the clincher, in that it's the first line in its defence: Goldman itself lost money on Abacus; although it took a fee of $15m on the transaction, it too was an investor in Abacus - alongside IKB and ACA - and ended up losing more than $90m…AND MAKING 10 times that amount, if not 100 times that amount.
    A point for the anti-Goldman side, would the SEC dare to bring a case against this mighty company if the facts and figures were not more solid than rock?
    After all, as you say, if Goldman were to lose the case, there could be collateral and expensive damage to the way that it constructs and sells other deals, and thus to the inner workings of one of the most formidable moneymaking machines the world has ever seen…and Goldman would surely be charged with at least some restitution, which would leave it literally bankrupt...Oh sorry, “too big to fail”.

  • Comment number 15.

    The hysterical condemnations of short-selling in this case are a perfect case of shooting the messenger.

    Back in the sub-prime boom some smart hedge funds figured that many CDOs were worth far less than their market value. So they used synthetic CDOs such as this to short sell CDOs. Eventually the banks realised that if smart hedge fund managers were short selling CDOs, then there might be something wrong and so the sub-prime crisis materialised.

    Without the market signals provided by hedge funds, sub-prime lending could have continued for another 6-12 months, adding 100's of billions to the cost of the eventual crash.

    Likewise, RBS, Bradford and Bingley and HBOS shareholders could have saved themselves a few pennies if they had listened to the hedge funds shorting those companies shares prior to their rights issues.

  • Comment number 16.

    'The implications of Goldman's Defence'?

    The best lawyers your pension fund can employ?

  • Comment number 17.

    I am not a fan of hedge funds or investment banks, but Goldman seem to have a more robust defence than is being credited. So two groups of expert investors went head to head betting against each other and one lost? Happens every day on millions of bets all over the world.

    Would the SEC have gone into battle to defend Paulson if they had lost and RBS and AKA had won?

    I think not.

  • Comment number 18.

    I would like to give my two sense on the facts and in some ways the law, as I understand it.

    1. Those folks in the US who sell securities in a primary issuance, be it private issuance or public, are subject to US securities laws. Here, seller(s) are ACA and GS.

    2. Securities laws ("SL") say that, as a seller of [CDO] securities, you don't have a classic "fiduciary duty" to the prospective investor (although ACA may have a fiduciary duty as a US registered investment adviser), but you certainly do have certain "duties" under the SL. It does NOT matter under the SL in this disclosure duty regard if the prospect is mom/pop, or an accredited investor or even a whopping Qualified Institutional Buyer/Investor (a QIB). The duty simply is.

    3. My understanding of the duty is that (and here you probably can take into account the sophistication of the prospective investor)you must not be misleading in your offering materials, and part of not being misleading is you can't OMIT to state a material fact that a reasonable hypothetical investor (taking into account your actual prospective investor(s)) would consider important in the mix of his/her/its decision to purchase the CDO securities being issued.

    4. Of course, there may be some important market-wide known facts that are material, but if it is generally known by all in the market, then you don't have to disclose it all the time. For example, I would say the following, while material and important, obviously has to be known to a bank like IKB "Certain other entities/investors may go short on certain of the debt tranches of the CDO". This was rather obvious.

    5. My guess is that, if I was the judge, the issue will come down to whether it was market standard (and therefore, generally known in the market for CDO securities and thus, in theory, no duty to disclose) for one of those short investors to actually come to the Sponsor(seller of CDO securities, here GS) and offer to set up the whole deal (choose the underlying collateral (even if then "vetted" by ACA)), with the express intention to the seller of the CDO securities (GS) that the short investor would then go short.

    6. I think that the court will have to survey the CDO world 06 and 07 and try to determine if the market participants (QIBs in private CDO transactions) were aware that short investors were doing this type of thing. If so, no duty to disclose. If NOT, then I do believe GS is in trouble, since they had a duty to disclose a material fact in order to not make the offering misleading. (Clearly, the fact that Paulson was heavily involved in choosing the underlying collateral and then basically shorted the whole pool immediately would be incredibly important).

    7. My sense is that it was NOT at all standard for a short investor like Paulson to come to an investment bank with an offer like this and that, while sophisticated, etc., IKB and others had no idea Paulson was choosing collateral and then going huge on short side. GS had a duty to disclose this material fact in my opinion and they should be held liable.

    My two cents. Thanks.

  • Comment number 19.

    Dear Mr Peston and team.
    Any chance of an analysis on the likely business effects to the UK, European and Asian economies if this rather inconvenient volcano keeps spewing debris into the sky? I understand SAS and Finnair are looking at layoffs - what of BA? and if 25% of UK medicine supply is disrupted this must have some effect on the economy surely? Strikethrough economy and read share markets.

  • Comment number 20.

    On a separate note, the actions of the regulators in this matter could not be more of a contrast to the actions they took on LLoyds of London in the late 1980s. In that case, tens of thousands of inexpert investors were induced to put all their worldly wealth into insurance syndicates, when senior market makers knew that substantial past year losses were coming down the pipe.
    When the losses engulfed the market and bankrupted thousands, the goverments and regulators on both sides of the Atlantic sat on their hands and told them it was their own stupid faults for investing in regulated financial businesses.

    Justice and morality do not matter as much popular votes, obviously.

  • Comment number 21.

    I don't know why this old Douglas Adams's "The Hitchhiker's Guide to the Galaxy" (1978) springs to mind.

    Here is a fragment to cheer you up on a sunny weekend.

    "Originally the bird people were ground dwellers, but gradually the planet was taken over by the shoe shops of the Dolmansaxlil Shoe Corporation, apparently thanks to the shoe shop intensifier ray deployed by the corporation in order to keep the populace buying more and more poorly made and ill-fitting shoes. The guide later reveals that the shoe shop intensifier ray "is, in actuality, a phony, designed to make Dolmansaxlil executives feel they are doing something excitingly aggressive, when in fact all they need to do is wait". Rather than falling to the predation of the corporation, the planet had instead succumbed to the natural state of decay known as the Shoe Event Horizon."

    (look for Brontitall)

  • Comment number 22.

    But what may be of some concern to Goldman's owners, its shareholders, is that in denying that Abacus was a rogue deal, Goldman has in a way raised the stakes for the firm.

    Still at the green table chucking dice then?
    Once a gambler, always a gambler.

  • Comment number 23.

    12. At 12:57pm on 17 Apr 2010, John_from_Hendon

    Good comment.

  • Comment number 24.

    This is crazy. Investors lose and make money all the time. Nothing more has happened here.

  • Comment number 25.

    The case against Goldman Sachs Group Inc could be just the top of the iceberg.
    The SEC charged Goldman with fraud for failing to disclose to buyers of a collaterlised debt obligations (CDOs) under the “ABACUS” umbrella the fact that hedge fund manager, John Paulson helped select mortgage derivatives he was betting against.
    The practice of creating bundled CDOs was not uncommon in 2006 and 2007. At the tail end of the real estate bubble, some “smart” operators began to look for more ways to profit from the coming derivative disaster.
    Goldman shares fell 13% on Friday AND the shares of other financial firms that created CDOs also fell - Deutsche Bank AG 9%, Morgan Stanley 6% and Bank of America, which owns Merrill Lynch, and Citigroup 5% each.
    The SEC's charges against Goldman have already heated up investors who lost big on the CDOs.
    Zamansky & Associates have reported being contacted by Goldman customers to bring lawsuits to recover their losses. Zamansky feels this is going to go way beyond ABACUS.
    Regulators at the SEC have stated that they will be investigating other deals beyond ABACUS.
    In my opinion the Goldman case is not isolated. It was part of a pattern of investment banks colluding with hedge funds to purposely bet against securities they created and sold to sucker investors. From 1994 to 2005, the subprime mortgage market grew from $35 billion to
    $665 billion. When the housing market peaked and began to decline in 2005 - 2006, mortgage lenders and Wall Street firms who packaged and resold the mortgage loans into bonds and mortgage backed securities knew or should have known that the implosion of the housing market would lead directly and quickly to a collapse in the subprime mortgage collateralized debt obligations (CDOs), causing a rippling effect which would be felt by major Wall Street firms, investors, homeowners and other market participants, including foreign market firms.
    Banks worldwide have announced more than $135B in credit losses and write-downs since the turmoil in the US housing market.
    Major firms have had to take multi billion dollar write-downs. Municipalities such as the state of Alaska, have brought lawsuits against Wall Street firms who sold them risky CDOs without disclosing the risk and, in any event, claiming that the sales of such risky securities were “unsuitable” for such investors.
    On January 30, 2008, the FBI reported that it had opened criminal inquiries into 14 companies as part of a wide-ranging investigation of the troubled mortgage industry. The FBI was looking into possible accounting fraud, insider trading and other violations in connection with loans made to borrowers with weak or subprime credit. The FBI investigation involves companies across the financial industry, including mortgage lenders, loan brokers and Wall Street banks who packaged home loans into securities. The FBI is cooperating with the SEC which is conducting about three dozen civil investigations into how subprime loans were made and packaged and how securities backed by them were valued.
    New York Attorney General (NYAG) Andrew Cuomo is investigating whether Wall Street banks withheld damaging information about the loans they were packaging.
    So, this is BIG - TOO BIG TO FAIL!

  • Comment number 26.

    #18 at least someone is trying to provide sensible analysis rather than name calling.

    Seems to me that this is a very difficult case for both SEC and GS.

    If I understand it correctly, GS did in fact provide all relevant details about the underlying assets but what they did not say was that they knew someone would be betting big time on the price falling. The issue as to who selected the assets is I suspect a complete red herring. Either securities law requires disclosure by GS as issuer of the bond of any knowledge it has about another market participants intentions or it does not. I do not recall that ever being argued before.

    Based on what we have been told so far, I would bet on GS winning this case. After all for every buyer there must be a seller. And in many (most?) cases the seller is selling because the price being offered is a bit too good to say no to. Do we really need investment documents to say, as a disclosure, "guys there are people out there who thing you are overpaying" - which is effectively what the case is saying GS failed to disclose

  • Comment number 27.

    In fraud cases, the victim is usually entitled to treble damages. I was sure the US govt. would wait until the statute of limitations had run, prior to opening this can of worms. In some cases, such as environmental ones, the finding of the US govt. agencies are not available to plaintiff's to prove their claim. The RICO act offers a good cause of action against the banking cartel. Unfortunately, (for the British taxpayer), the GB banking system most likely would be implicated at some level.

  • Comment number 28.

    Will Geithner lose his job over this?

  • Comment number 29.

    When Franklin D Roosevelt was pressed for new reforms by various groups he would often say "I agree. Now I want you to go out and make me do it". Then they would organise and protest and he could then respond.
    So perhaps Obama is more subtly doing the same thing. So the FSC thinks what can we do to help our president.I know ,pick a few really dubious cases of what was normal and lets air them in public. At the end will the American public see them as honest even if they turn out to be legal. But also will they recognise much of the business of modern investment banking as part of their own beloved Free enterprise system. If not Mr Obama may be forced to send Goldman Sachs the way of Standard Oil.

  • Comment number 30.

    Aaron Sorkin. if your reading this, there has got to be in this lot either another series of the West Wing or its own mini series

  • Comment number 31.

    I no longer ponder upon such events, I simply enjoy the sight of the monetary system collapsing in front of our eyes and I feel lucky to witness it.

    Imagine a world without money!

  • Comment number 32.

    15. At 2:08pm on 17 Apr 2010, osborne_reynolds wrote:
    The hysterical condemnations of short-selling in this case are a perfect case of shooting the messenger.

    Back in the sub-prime boom some smart hedge funds figured that many CDOs were worth far less than their market value. So they used synthetic CDOs such as this to short sell CDOs. Eventually the banks realised that if smart hedge fund managers were short selling CDOs, then there might be something wrong and so the sub-prime crisis materialised.

    Without the market signals provided by hedge funds, sub-prime lending could have continued for another 6-12 months, adding 100's of billions to the cost of the eventual crash.

    Likewise, RBS, Bradford and Bingley and HBOS shareholders could have saved themselves a few pennies if they had listened to the hedge funds shorting those companies shares prior to their rights issues.
    But as an HBOS Shareholder I listened to the man in charge at HBOS, Mr Hornby , who assured me and the rest of us shareholders, that the £4 Billion rights issue did NOT indicate that HBOS were in trouble, but that he was being cautious and building the capital base. So are you telling me he lied!!!???

  • Comment number 33.

    Robert, it's not chance that let to Goldman being an advisor on the £12b rights issue and at the same time selling this particular "weapon of mass destruction" to RBS.

    This is a symptom of the malidy to end all malidies in the financial system which is that there are far too few insitutions - and they are far too big. If there were 20 banks instead of Goldman Sachs (I mean consuming the capitalisation of the bank with 20 banks rather than one) then this would not happen.

    Also there would be 20 cashiers, CFO's and disinterested experts to look over deals.

    Also bonuses would be 1/20th of their current scale.

  • Comment number 34.

    I think I'm right in that Canada avoided the worst of the 'banking crisis because the law prohibited their companies getting involved with certain trading. I also note that they dealt with their deficit and are in one of the best positions to come out of the recession.

    Perhaps we should sit up and take notice, being one of the 'Financial Centres' of the world may be isn't all its cracked up to be

  • Comment number 35.

    Comment 12 is a good one.....

    Goldman's 'We were only following orders' defence (or aka-- "everyone else we knew was doing it") won't carry the argument.

    Their each way bet defence or 'costly alibi'... is pretty hopeless as well--- one sets up a crime and then later points to a cost to oneself as the alibi----these are seen in Courts every week of the year.

    The bankers need to understand that when revolutions happen the ordinary way of doing things goes out of the window...Barclays blew a big chance when they chunked up Bob Diamond's remuneration...and the Wall Street Bankers performance, including Goldman's Blankfein, before the Senate Committee was an example of just plain stupid hubris, and another missed opportunity--

    It's taking longer than it should have but slowly the Will of the People is being heard--and felt.

  • Comment number 36.

    This has to run higher. It can't be right that a lowly VP is carrying the can. As per previous comment, one has to understand that GS is the largest hedge fund in the world. In that context, all makes sense, but we'll see. They are now part of the Establishment, via the other Paulson.
    btw, post 35. why shouldn't Diamond get paid? explain.

  • Comment number 37.

    # 26. Not sure I agree. The exact law in the US that is most on point is that an issuer or its agents must not "omit material facts necessary in order to make the statements made [in offering material], in the light of the circumstances under which they were made, not misleading."

    Saying that ACA was an independent decision maker on choosing the securities, when Paulson was clearly involved and going short and when you read all the other facts(....see the complaint here: 2010/comp21489.pdf), I find it hard to come to any conclusion other than GS had a legal duty to its prospective investors to disclose that Paulson was involved in picking the underlying debt AND, at same time going short. This is not "you must dislose the other side of every transaciton", as some seem to argue. This is, based on these facts, did the obligation arise. I think yes.

    I think the whole issue, in my opinion, is that Paulson was choosing the underlying securities, and then getting ACA to either say yes or no. Is that enough to "wash" the transaciton so that no need to mention to Paulson? Maybe so if 1. Paulson was only going long and 2. It was fairly standard in the CDO industry to have a non disclosed interested party initially pick the collateral and then "wash" it through the collateral manager. On the second point, I don't think that was at all standard.

    Obviously, IKB knows people short debt tranches of CDO and that need not be disclosed. However, they did not know the fox was guarding the hen house and in my opinion, that was not normal. What the disclosure document needed to say was "By the way, Paulson Hedge Fund helped initially pick the underlying collateral (but it was then vetted independently by GS), and Paulson is going short in huge way on the BBB's". How could this fact not be material to an investor in deciding to invest?

  • Comment number 38.

    And, not to beat a dead horse, but I also point out that the SEC folk who submitted the complaint have alot of CDO background and know the industry and would know if this type of arrangement was typical. I can tell you, first hand, that investors expected (and in some ways US law demanded, since most collateral managers in the US are registered investment advisers with heightened duty to their clients/investors) that the CDO Manager was solely picking debt to favor the CDO investor. Had a CDO investor known that a very sophisticated hedge fund was basically negotiating with the Collateral Manager as to what MBS to put in the CDO AND that such hedge fund was then going to Short the CDO debt, that prospective investor (IKB) would have freaked. The fact that they would have freaked (an assumption granted, but not far fetched) is one strong indication that the omitted fact was indeed material.

    Listen, all I am saying is that we should not confuse the noise for the facts and law. Facts: 1. not at all standard (at least in the 30 deals I am familiar with) or a third party hedge fund who was going to short the CDO debt to, in ANY way, be involved in picking the underlying MBS. [I note as an aside had Paulson just asked to see the collateral picked by ACA and then decided to short the CDO tranches, that would be very different (and I think this DID happen, where a short investor would ask to see the underlying MBS going into a deal and make an analysis to short), however, the collateral manager (who had a duty to the prospective investors to put in best Long securities) was taking advice and putting in securities at advice of third party AND that third party was shorting).

    2. Law: in my opinion, the failure to disclose Paulson, its role in the CDO, and its prospective short position, was a failure to state a material fact which allowed the other disclosures to be misleading.

  • Comment number 39.

    Stop all of the selling of Debt £££ ❯ by owners of loan notes such as Credit Firms like Egg to ❯ £££+ debt buying firms like MaxRecovery and ❯ £££++ Legal firms like Shoosmiths et al because everyone of them is greedy and ruthlessly manipulative and calculating about forecasting making more & mo' money. Mortgage Backed Securities are not very good ☾ Tower of Power – Credit ☽ .

  • Comment number 40.

    # RBS executives consider Goldman action April 16, 2010
    The bank examines whether it has grounds for legal action against Goldman Sachs after it emerged that it lost more than $800m in an allegedly fraudulent transaction
    # Goldman accusations shake markets April 16, 2010
    Overview: Stocks fall sharply after the US securities regulator charged Goldman Sachs with fraud relating to its dealing of subprime related products, with financials hit hard
    fraudulent transaction
    * Goldman accused of subprime fraud April 16, 2010
    US authorities accused Goldman Sachs of securities fraud that caused investor losses of more than $1bn, in the toughest regulatory crackdown so far on the excesses of the credit-bubble era
    __________________________________________________________________________ – Global Economy articles are only available to registered users and subscribers.
    Register FREE now for increased access or don't bother if you're poor.

  • Comment number 41.

    "Goldman itself lost money on Abacus; although it took a fee of $15m on the transaction, it too was an investor in Abacus - alongside IKB and ACA - and ended up losing more than $90m."

    If this is the first line of their defence, it is what Goldman wants you to think. We do not not what other arrangements might have been in place that could change how a $90m loss looks.

    That $90m loss might be there deliberately since they were so quick to pull it out their hat for the sole purpose of defending Goldman if ever the deal came under close scrutiny. There may be other side deals we do not know about related to this transaction showing the company made double $90m in profit, in other words no loss at all.

  • Comment number 42.

    According to the Goldman Sach's presentation at the time, Abacus 2007-ACI was rated Baa2 whose definition is given as:

    "Obligations rated Baa are subject to moderate credit risk. They are considered medium grade and as such may possess certain speculative characteristics."

    I think it fair to assume that people bought this toxic debt because it was miss-classified as a moderate credit risk. Poulson presumably knew/guessed that other banks would still buy the debt - so his motivation could be to wrap up the CDO with the highest investment grade possible with the lowest quality of debt that he could get away with.

    Andrew (41) is close to an argument - RBS lost alot of money on ABACUS but this was because its insurer (hedge) failed to pay out - I assume it went under - the same may be true in explaining Goldman Sachs's losses - either way their arguments need to be much stronger if they are going to win.

    The facts seem to be that Poulson went to Goldman Sachs in order to set up a CDO that Poulson wanted to collapse. As a maker of markets, Goldman set it up and sold it - no doubt putting as much gloss and spin on the product as was possible.

    But we all now know what Goldman's role was/is: what mug would buy from Goldman in the future?

  • Comment number 43.

    As the overpaid Goldman Sachs teams of legal trainees, etc have nothing much to do at the moment, they could "vigorously defend themselves" by not disclosing and burying all pertinent facts and manipulating all laws like they always do, or they could break away from traditional banking business culture and show some integrity, transparency and accountability.
    Retreat Wicked Man of Babylon Surrender
    Practising evil for so long
    Thinking you succeeded
    But know your own
    Your wicked devices will break your neck
    The cry of the people will stop your breath

  • Comment number 44.

    #37 This is a tricky issue but I think GS will argue that ACA was independent - the point being that it was independent of the issuer, GS.

    The fact that ACA was taking advice from an experienced market participant is unlikely to be a material fact that requires disclosure.

    We seem to agree that no disclosure is required if GS knows that a market participant intents to short the whole thing.

    But does the fact that the market participant advising ACA and the market participant intending to short the issue are the same person change two things which do not need disclosure into one thing that does need to be disclosed?

    Ultimately I suspect no disclosure is required because the long term actual value of the CDO depends on the quality of the underlying assets and there was no failure to disclose about the assets. In the short term market sentiment can impact on value but Paulson was not such a big market participant that it could have changed the market sentiment all by itself

  • Comment number 45.

    Erm... why isn't John Paulson "in the dock" - so to speak - with Fabrice Tourre, of Goldman Sachs? The SEC explicitly refers to the role Paulson & Co. played in the fraud:

    "The SEC alleges that Goldman Sachs structured and marketed a synthetic collateralized debt obligation (CDO) that hinged on the performance of subprime residential mortgage-backed securities (RMBS). Goldman Sachs failed to disclose to investors vital information about the CDO, in particular the role that ***a major hedge fund played in the portfolio selection process*** and the fact that the hedge fund had taken a short position against the CDO."

    Yet the concluding paragraph equally explicitly excluded Poulson & Co. from the indictment:


    "The SEC alleges that one of the world's largest hedge funds, Paulson & Co., paid Goldman Sachs to structure a transaction in which Paulson & Co. could take short positions against mortgage securities chosen by Paulson & Co. based on a belief that the securities would experience credit events."

    [ For full text visit: ]

    It enrages me that Paulson & Co. do not view their involvement worthy of comment, either in their website's News & Events section:

    ...or in their Press Releases section:

    Although I have no sympathy with Golman Sachs and rejoice at the SEC's complaint, nor do I think they should let "a major hedge fund" get away with this kind of fraud.

    When can we expect to see the SEC go after Paulson & Co.?

  • Comment number 46.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • Comment number 47.

    implications of the Goldman's legalistic defences
    the proceedings will be so very painful and slow
    ❮❮ Proverbs 29:16 ❯❯
    New American Standard Bible (©1995)
    When the wicked increase, transgression increases; But the righteous will see
    their fall.

    Jump to Previous Occurrence
    Authority Downfall Evil Fall Gaze Increase Increased Increases Increaseth
    Multiplied Multiplieth Multiplying Power Righteous Sin Thrive Transgression
    Upright Wicked Wrongdoing

    Matthew Henry's Whole Bible Commentary

    Verse 16

    Note, 1. The more sinners there are the more sin there is: When the wicked,
    being countenanced by authority, grow numerous, and walk on every side, no
    marvel if transgression increases, as a plague in the country is said to
    increase when still more and more are infected with it. Transgression grows more
    impudent and bold, more imperious and threatening, when there are many to keep
    it in countenance. In the old world, when men began to multiply, they began to
    degenerate and corrupt themselves and one another. 2. The more sin there is the
    nearer is the ruin threatened. Let not the righteous have their faith and hope
    shocked by the increase of sin and sinners. Let them not say that they have
    cleansed their hands in vain, or that God has forsaken the earth, but wait with
    patience; the transgressors shall fall, the measure of their iniquity will be
    full, and then they shall fall from their dignity and power, and fall into
    disgrace and destruction, and the righteous shall have the satisfaction of
    seeing their fall (Ps. 37:34), perhaps in this world, certainly in the judgment
    of the great day, when the fall of God's implacable enemies will be the joy and
    triumph of glorified saints. See Isa. 66:24; Gen. 19:28.

  • Comment number 48.

    Golden Rules for you and me the 'average/middle/low income earner' working and saving and contributing to pension schemes?

    Some governments offer 'tax relief' for employees contributing their money to employers' pensions schemes? Yet, bizarrely, when these pensions schemes 'fail' your employee money contributions are totally lost, or curiously 'disappear?

    In the UK, it is now clear and evident, that even if you will have paid decades of contributions of your earned income into your Employer pension fund over decades - that money is 'lost' during 'take-overs' 'sell-offs' etc.

    The only winners from fair to minimum wage employees'
    pension contributions will be 'management pensions schemes' full and fat and paid by minimum wage workers?

  • Comment number 49.

    #42. keith95 wrote:
    "[...] RBS lost alot of money on ABACUS but this was because its insurer (hedge) failed to pay out"

    Keith, can you explain this: is it possible that a huge bank like RBS (well ABN, still big enough) find insurance in a (unknown? and volatile) hedge fund?!

    Maybe the law should be patched to avoid this loophole in the future?

  • Comment number 50.

    Gordon will take Goldmans axe to Goldmans sacks until they can no longer wriggle arround the wreckovary offloadig the yoke and have to join carstarta queue for a jump start at the end of a Brown ministry of truth defibulater.... BZZZT BZZZZZZT.

  • Comment number 51.

    It seems that

    "Merrill Lynch & Co. engaged in the "same type of fraudulent conduct" that Goldman Sachs Group Inc. was accused of committing by the U.S. Securities & Exchange Commission in a lawsuit on Friday, a Dutch bank said Friday."

    The CDO was known Norma CDO Ltd

    Curiously, Paulson is cited in dealing with this product too, I assume by taking a short position.

    So Paulson is linked with setting up CDO's full of sub-prime toxic waste which end up at RBS and I assume HBOS - presumably by a good salesman's pitch - and Paulson made 100's of millions going short on UK banks - little wonder on reflection.

    How many lives has this type of shorting ruined I wonder - and to cap it all, the shorter's would have us believe that they perform a service to our society?

    We need a major overhaul of this type of trading behavior - the usual argument is that allowing people to go short adds to liquidity. Were is the liquidity now? Our money seems to be sitting in the pockets of the Hedge funds!

  • Comment number 52.

    Check out this article on propublica. It's about magnetar which was the biggest player in constructing CDOs in 2006/7.

    I think goldman's is stuffed in court because they disclosed the role of ACA but withheld the more important role in initiating the vehicle and chose tranches with the intent of creating a vehicle that would fail.

    You'll notice in the article above that magnetar were very careful not to request specific tranches were included nor to state an intent to create a vehicle that would fail.

    Bye bye GS and all those who invested in it. Too stupid to connect high income multiples on mortgages and falling house prices, too greedy to be honest with regular customers.

    And if you are wondering why UK house prices are sticky, it's the multiples. So don't buy now. Wait for the unemployment and higher interest rates to force out all those millions only just hanging on today. Want a sure bet, 50% fall over the next 4 years.

  • Comment number 53.

    Oh Sinnerman*, where you gonna run to?
    Sinnerman, where you gonna run to?
    Where you gonna run to?
    All on that day
    *=(Nina Simone – Felix Da Housecat)

  • Comment number 54.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • Comment number 55.

    Re #36 Hootsmon--- It's difficult to correctly describe my own particular take on this ongoing financial mess---- It isn't that I don't think each particular revelation and the intricate technical issues surrounding each ---from Northern Rock, to MP's expneses, to AIG, Lehman Bros, HBOS, RBS...and so on---are not important and worthy of scrutiny.

    However I don't think these aspects are as important as the general loss of authority by the institutions at the heart of it---Banks, Accountants, Government Regulators and so forth.

    The last time this level of deference cracked was in the First World war when across Europe (and the world) ordinary people looked at their 'betters' and realised they weren't ...better....or worthy of the deference they had previously enjoyed.

    I suppose that this kind of deference has been paid by the 'ordinary public'of today to the gilded aristocracy of our own age, and it's the smashing of this sense that I feel is the keynote of this ongoing crisis---and the blindness to it that Bob Diamond's remuneration exemplifies amongst that former aristocracy.

    AS well as looking at the Post First World war as a comparator---and because I think the cracking of the moral and ethical authority that underpins everything else (contract Law, legal guidelines and so on)is the single most important aspect of all this; I feel it is also similar to the falling apart of the old USSR dominated system across Eastern Europe and Central asia in the 1980's and 90's, in the snoballing effects of the single, central loss of authority.

    But in History at any given moment while trends are established and large forces move, things are capable of being changed if the major players can change their views and actions.

    'What if' history is fun... but in the case of Bob Diamond, he is now a poster boy for the 'how much pay does any one person need?'question.... and grabbing this £25 to £60 Million reward with a basic 'because I'm worth it statement' does smack a little of the justification used by the Bourbon Kings on the eve of the revolution in France---and we all know what happened there (not that I think for one minute tumbrils will clatter down Wall street and Poultry!).

    Instead of 'fronting up' quite so unashemedly, for Barclay's remuneration, as with that painful appearance before the senate by Dimon and Blankfield and others---- some sort of demonstration that they do get it MIGHT head off history--- be a sign that they are getting it.

    Instead they plough on so now Obama and his people make a gesture to THEM, to show that he and the administration are getting it; that there are votes to be had in main Street cutting down Wall street, and votes are the currency of the democracy.

    With the investigation of the Paulson/Goldman cut and shunt car deal moving from the rhetorical to the civil Law...and if that is lost, I agree with other contributors here, it may very well go to class action compensation and then to criminal Law.

    The Diamond remuneration isn't the only example, there are many others---- and I agree he should be paid for the work he does..but the heart of the issue has been that, in effect, Bankers have been Bomb proofed by just one or two years salary---so they are insulated in their own lives, from downside effects of even any worldwide meltdown,let alone a meltdown in just their company.

    Their own decision making can in this way be skewed perversely and even accelerate a collapse in the cause of chasing one 'last' big payday---as seems to have happened in this Abacus case.

    It isn't 'the pay' anyone gets's the level of pay....and it isn't the politics of envy, for me it's the politics of self preservation.

  • Comment number 56.

    Maybe Jewish hegemony in the Western liberal democracies is finally being exposed!



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