It does not rain but it pours when financial scandals are concerned. The bitter paradox is that the bad news about Goldman Sachs comes at a time when the global stock market is at a year’s high albeit the European market is hanging in the balance of the Greek debt crisis which may also spark a new credit contagion. Goldman is being criticised by European politicians including Germany’s ruling Christian Democrats, who have questioned whether the bank did help Greece conceal its deficit to comply with the EU’s currency membership criteria. Greece is also being faulted by fellow euro-region countries for failing to disclose the swaps to EU regulators. Last month we heard about the damning report issued by the examiner of Lehman‘s bankruptcy. This sad news is followed this month by the media of another scary story. Since Lehman Brothers was not bailed out it was forced to file for bankruptcy, whereas Goldman Sachs, along with Morgan Stanley, was allowed to convert itself into a bank holding company. This gave Goldman access to tens of billions of dollars of government lending yet by comparison to the Lehman’s demise which resulted in a number of redundancies and triggering the start of the world’s worst recession. Currently the international media witnessed a deluge of bad publicity on the Lehman’s demise and still the markets rallied. The negative publicity was the result of the publication of a 2,200-page report compiled by Anton Valukas the examiner appointed by a US court in the bankruptcy proceedings. The long-awaited report is a monumental task which gives a sober picture of the Lehman’s failure and some alleged misgivings from its top management.
According to Larry MacDonald a former Lehman bond trader “We’re shocked by how much they knew but disgusted that they did nothing with it.” In fact the examiner ‘s report has revealed how window dressing in financial terms was stretched to the full although prima facie that audit requirements were followed. In fact, the auditors Ernst & Young‘s rejected any responsibility for its fall in grace. In 2008, Lehman created a $600 billion black hole and started a landslide collapse in share prices. Hot on the heels of the Lehman story we now hear how another banking behemoth Goldman Sachs is facing charges by the America‘s Securities and Exchange Commission (SEC) of defrauding investors. SEC is alleging that Goldman Sachs misled investors by failing to disclose conflicts of interest in mortgage investments it sold as the housing market was faltering. This time the trouble seems to have hit the U.K branch such that the Prime Minister Gordon Brown called for a “special investigation” into its activities. Mr Brown is quoted to have said “This is probably one of the worst cases that we have seen” “In his opinion, there have been hundreds of millions of pounds that have been traded here and it looks as if people were misled about what happened. Mr Brown wants the Financial Services Authority [FSA] to investigate it immediately.” He added that “there is a moral bankruptcy reflected in what I am reading about and hearing about,”. The FSA is currently under pressure to investigate Goldman because Royal Bank of Scotland, (RBS) the taxpayer-backed bank, was the biggest victim of the alleged fraud, losing US$841m. But how significant is Goldman Sachs Group in the global banking industry. The Goldman Sachs Group, Inc. (Goldman Sachs) is a bank holding and a global investment banking, securities and investment management company. The Company provides a range of financial services to customers, including corporations, financial institutions, governments and high-net-worth individuals. It’s connections with people in high places was vividly noticed when one recalls that US financial secretary Mr Paulson appointed Neel Kashkari, a youthful former Goldman Sachs executive, to run the American government’s Troubled Asset Relief Programme, the equivalent of Britain’s Asset Protection Scheme. The move placed Neel in charge of hundreds of billions of dollars of American taxpayers’ money. Undoubtedly, Goldman Sachs was among the beneficiaries of the TARP. At this stage, let me explain what the alleged misgiving is all about. Goldman is alleged to having failed to disclose an irregular trade concerning sub-prime mortgages. The case involves Fabrice Tourre a Goldman ‘s employee who is alleged to have sold a debt product that he knew would fail to a group of investors, mainly large banks, including ABN Amro, now part of Royal Bank of Scotland. The SEC charged Mr Tourre of misleading investors by creating a sub-prime mortgage-backed CDO without informing investors that hedge fund Paulson & Co would be betting on its failure. The SEC further alleges that 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. Facts show that Mr Tourre was principally responsible for transaction styled ABACUS 2007-AC1.having prepared all the marketing materials. He allegedly knew of Paulson & Co.’s undisclosed short interest and role in the collateral selection process. In addition, he allegedly misled ACA into believing that Paulson & Co. invested approximately $200 million in the equity of ABACUS, indicating that Paulson & Co.’s interests in the collateral selection process were closely aligned with ACA’s interests when really and truly their interests were sharply conflicting. According to the SEC ‘s complaint, the deal closed on April 26, 2007, and Paulson & Co. paid Goldman Sachs approximately $15 million for structuring and marketing ABACUS. Investors in the liabilities of ABACUS in turn are alleged to have lost more than $1 billion. It is understood that SEC has made allegations that Goldman Sachs profited from the travails of its own customers. It is often criticised that the bank makes far more money from trading with its own money than it does from advising its clients. This so-called proprietary trading involves Goldman putting billions of dollars of its own capital at risk by buying stakes in diverse assets. It goes without saying that investors fear the S.E.C. complaint will seriously damage Goldman’s reputation who now face a dilemma in how to respond to the suit taken up against them. Investors suspect that Goldman and others are once again printing money while they heavily criticize that heavy bonuses are paid to its managers. The flip side of the coin is that if the going gets tough there is always the taxpayer’s fund available for a bail-out. Thus much loathed collaterised debt obligations (CDO) are at the core of the Goldman’s troubles.
To explain their use one can say that CDO ‘s are primarily a cluster of securities backed by mortgages or other debt securities which history shows us turned out to be the most toxic among the portfolio of investments . Accusations that Goldman defrauded customers who bought investments tied to risky sub-prime mortgages have begun to reverberate through the financial world. It is no surprise that Asian stocks slumped last week in their first reaction to that news, as well as to steps taken by China to calm down its property market. Japan’s Nikkei 225 Stock Average sank 1.8 percent and South Korea’s Kospi index dropped 1.5 percent. China’s Shanghai Composite Index slumped 2.4 percent and Hong Kong’s Hang Seng Index lost 1.7 percent after the government stepped up measures to curb gains in real-estate prices. To conclude on this rather lugubrious story one can remind readers that so far Goldman categorically denies any wrongdoing, pointing out that it lost more than $90m in Abacus, and that investors knew the risks. It claims in it’s defense that it did “not structure a portfolio that was designed to lose money.” Who knows which course the story will take? Analysts fear more serious repercussions may trigger a double dip recession killing the current rally .Hopefully such fears may be proved wrong and the must hyped green shoots will grow into stronger oaks in the not too distant future. Let us all pray for a robust recovery……..
