You may have seen the news reports over the weekend. As the US Securities and Exchange Commission puts it on its own website:
“SEC Charges Goldman Sachs With Fraud.”This comes as no surprise to your editor. In our opinion the entire banking system – including the central bankers – should be up before the beak on fraud charges.
According to the SEC charge:
“Undisclosed in the marketing materials and unbeknownst to investors, a large hedge fund, Paulson & Co. Inc. (’Paulson’), with economic interests directly adverse to investors in the ABACUS 2007-AC1 CDO, played a significant role in the portfolio selection process. After participating in the selection of the reference portfolio, Paulson effectively shorted the RMBS portfolio it helped select by entering into credit default swaps (’CDS’) with GS&Co to buy protection on specific layers of the ABACUS 2007-AC1 capital structure.”In other words, Goldman’s structured a product to sell to investors. The firm Goldman’s relied upon to structure the CDO – Paulson & Co – shorted the fund by buying a CDS.
Buying the CDS means Paulson & Co was betting that the CDOs in the portfolio would fail. It was betting against the performance of the investment product it had designed!
The architect of the deal was Fabrice Toure, who worked for Goldman Sachs in Paris. But before I go on, you shouldn’t think this is some kind of rogue trader, acting alone. There’s little doubt in my mind that this is how the majority of investment banking deals are structured.
And furthermore, you shouldn’t think Australian banks are any different. It’s just that they use different products – the property market. But more on that later…
After spending the weekend reading over the news and watching clips from the so-called financial news channels, three points about this story stand out:
- The blasé reaction from fund managers – fund managers who are either customers of or suppliers to Goldman Sachs
- The ‘assets’ on the US Federal Reserve balance sheet
- And, how are Goldman’s actions any different to other banks and the central banks?
We were stunned when we watched this video. The reaction of the fund managers left us speechless.
In a nutshell their general response is, “So what? Goldman Sachs will survive, they’ll pay a fine and move on. This looks like a good time to buy Goldman Sachs stock.”
In one sense they could be right. The litigation will go on for ages and eventually when everyone has almost forgotten about it they’ll settle out of court with Goldman’s neither admitting nor denying any wrong doing but paying a fine of $X million.
But the fund manager reaction goes to show what we’ve being saying all along. You can’t trust anyone else to look after your money for you. Let me just make something clear, Goldman Sachs is being charged with fraud.
Fraud. Er, last time we checked the legal dictionary that was a pretty serious charge.
Although it’s only a civil action and not a criminal action, in our mind there’s little difference. Fraud is fraud. The fact that these fund managers couldn’t care less, and see the 12% price drop of Goldman’s as a buying opportunity shows you they know which side their bread is buttered on.
Clearly they’re more concerned about maintaining their relationship with Goldman Sachs than they are with speaking out about the disgraceful business practices of the former investment bank.
These fund managers are more interested in making sure they get access to Goldman research, Goldman investment deals, and invites to the next Goldman cocktail party than they are about how client money is being invested.
But it also brings us back to something we wrote a couple of weeks ago on April Fool’s Day, “Deals Lovingly Crafted by a Caring and Responsible Investment Banker.”
In the article we wrote how the US Federal Reserve had finally published details of the assets and liabilities it held on its balance sheet following the collapse of Bear Stearns. There are thousands of them. As far as we can see, they’re all crap.
They’re assets which the Fed paid par value despite the market pricing them at mere cents on the dollar. A great deal for the US taxpayer, not!
As we pointed out:
“But the way we see it, much of the cause of the excesses in financial markets is due to financial engineers having too much access to investor’s cash, too much access to bank-created credit, and too much of an incentive to get create new products and investments for the sake of earning a fee rather than because it’s a good investment for the punters.”And then we read the following extract from the SEC charge sheet. The SEC is quoting from an email sent by Goldman Sachs employee and financial engineer extraordinaire, Fabrice Toure:
“More and more leverage in the system, The whole building is about to collapse anytime now…Only potential survivor, the fabulous Fab[rice Tourre]…standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all of the implications of those monstrosities!!!”In another email he wrote:
“[T]he cdo biz is dead we don’t have a lot of time left.”He’s telling the truth. These guys don’t have any idea what they’re doing. They’ve got no idea about the implications of the investments or even what they are. All they know is how to package something up and sell it off to suckers.
Then it’s in the hands of the traders. And they know even less.
There’s a general misconception in the financial markets that these trader dudes at the big banks and broking firms are the brightest sparks ever to walk the earth. The reality is they aren’t. Despite all the fancy screens and expensive software they use, the facts are they may just as well have two big buy and sell buttons in front of them which they can bash alternatively like a two year old playing with a Fisher Price toy.
Again, as we’ve pointed out before, the guys that were trading CDOs and CDSs were the same guys trading energy contracts for Enron and before that they were trading tech stocks during the tech boom, and before that they were trading interest rates for Long Term Capital Management.
Broker: “Buy, Sell, Buy, Buy, Sell, Buy, Sell, Sell, Sell, Oops! What’s next? Box Office Futures? I’m in Mr. DeMille. Which is my best side? Buy or Sell?”
Mr. DeMille: “The opposite of what you tell your client to do. Ha, ha… more champagne?”
If the market and the fund managers really think this is an isolated case then they’re living in a dream world. Every single investment product crafted by the investment bankers, whether it’s Goldman Sachs, JPMorgan or Macquarie Group, is crafted for the benefit of a select group of people…
The firm that created them and their buddies in the business. Not their clients.
Bankers don’t earn millions of dollars by sitting on their thumbs. They’ve got to come up with the next great investment product that the brokers (salespeople) can flog to the clients.
And each product has to be better than the last. The salespeople don’t care what’s in the product because they wouldn’t understand it even if they did know.
And as Fabrice Toure admits in his emails, he didn’t “necessarily understanding all of the implications of those monstrosities!!!”
Finally, there’s the third aspect of this. Let’s refresh your memory. Goldman Sachs invited hedge fund manager John Paulson (no relation to ex-Treasury Secretary Hank “Hank” Paulson) to select a bunch of CDOs that it could stick into a fund and then market to Goldman Sachs’ clients.
Not surprisingly, Paulson chose the CDOs he thought were most likely to collapse considering that he was already short selling the CDO market and would also short sell these particular CDOs as well using a CDS contract.
The thing that gets us is, how is this any different to the actions of central bankers? OK, you may think we’re drawing a long bow here, but in our opinion the comparison is valid.
In the case of Paulson and Goldman it was selling to investors assets that would lose value – knowingly if we go by what we’ve seen so far.
It seems to us that this is exactly the same charge that could be levelled against the central bank and retail banks. It issues money which it knows will lose value. Not that it openly tells you that.
The bankers talk up the strong economy and increasing asset values and how Australians’ wealth has improved. Yet all the while the banks reside over an ever devalued currency. A currency which has lost around 90% of its value in the last forty years.
Isn’t that fraud? Telling you one thing while the opposite is actually the case. Sounds like fraud to me.
But whatever, the fact is, the banking system is broke and this is further proof of it. But also remember that the ultimate fault for this fraud doesn’t lie with Goldman’s. The ultimate crime is committed by the central bankers and governments who allow the initial fraud to take place.
The initial fraud being the creation of money from thin air. Money that is then given to the banks which they then use to weave their magic on unsuspecting investors and clients.
Even so, we’re sure the shills in the mainstream Australian media and analysts will spruik that the Australian banks are different and that they wouldn’t dream of doing the same sort of thing as Goldman’s.
Oh yeah? No one could accuse the banks of encouraging individuals to buy into a sky-high asset class – housing – when anyone with an ounce of grey-matter could tell you it’s massively over-valued and on the verge of collapse.
Goldman’s are being charged with fraud for misleading clients. The Australian banks should be charged with fraud for misleading property buyers into thinking the Australian housing house of cards will never crash.
The important point to remember is that the mainstream press and commentators only ever warn about asset bubbles after they’ve burst. Until then they spruik and cheer about rising prices and increased wealth. And if they do mention bubbles they’re quick to call on anti-bubble ‘experts’ who tell them not to worry.
Only when the stinking and putrid building collapses do they take note about the dangers of boom and bust economies. But that doesn’t last long, because as we’ve seen over the last year or so, everything is forgotten and they’re out there cheering on the next bubble.
Make no mistake, the Australian banking system and Australia’s banks stink just as much as Goldman Sachs. You shouldn’t for a moment believe that the actions of our banks are any nobler than those in the US.
The only difference – if there is one – is the US banks were shafting individuals using CDOs and subprime loans, whereas the Aussie banks are shafting individuals by baiting them with cheap money to buy overpriced real estate…
Same proverbial, different shovel.
UPDATE 1: The estimable Doug Reich at The Rational Capitalist disagrees vehemently with the the claim that this was fraud.
"[T]his case is not about fraud. This case is a publicity stunt engineered by the Democrats to bolster their case for the upcoming financial "reform" bill being written by Sen. Dodd and others. To a public ignorant of the details of the fraud case and mired in altruism, such a case relies on a knee-jerk contempt for the 'fat cats' on Wall Street and wariness of any profit seeking business.Read Goldman!! "Two Minutes Hate"
UPDATE 2: From The Cody Word: What Goldman's accused of, in plain English:
"Today’s WSJ has a fantastic, plain English explanation of what this whole John Paulson, Goldman fraud fiasco is about. Here’s my even more plain-er English explanation of their explanation:
- Paulson and Goldman team up with ACA to create worthless mortgage securities to sell to other investors.
- Paulson buys worthless insurance from Goldman.
- Goldman buys worthless insurance from ACA.
- ACA buys worthless insurance from RBS.
- RBS got $45 billion from UK taxpayer in bailouts of which about $1BB apparently went to ACA to give to GS to give to Paulson.
"This is the exact same scenario that I’ve long been railing about- the US taxpayer gave AIG $160 billion of which it gave $13 billion to Goldman...."