This hearing has now been going for more than eight hours, and for better or for worse, I need to head over to do an interview with Al Jazeera English. It goes on at 7:00. I'll be talking about financial reform, in addition to the Goldman fraud case.
For those who don't know, Goldman took $10 billion in TARP funds, received at least $11.9 billion through the AIG bailout, and issued $21 billion in government-guaranteed debt under the Temporary Liquidity Guarantee Program, debt which is still outstanding, and which the government is still liable for losses (though is unlikely to take any losses any time soon).
Blankfein's 2009 bonus was $9 million. Goldman's profits would have been impossible without government backing.
John McCain is keeping it simple and going for the jugular. He just asked Blankfein how much TARP money Goldman received and how big his bonus was for 2009.
Lots of disagreement between Levin and Blankfein over market-making. Blankfein is insisting that it does not need to tell its clients who buy the long side of a deal when Goldman is taking the short side. Blankfein says that since somebody takes the opposite side of a deal, it's irrelevant whether Goldman takes it or not.
Levin is pressing him on other cases, when there is no baked-in short side to a deal, cases where Goldman just sells a security to an investor, and then goes and bets against it without telling the investor. Levin wants to know whether Goldman had an obligation to tell these investors that Goldman was betting against what it was selling. Blankfein says no.
This is hard to square with most understandings of ethical conduct. Goldman has a sales force that goes out and pushes products to investors. When Goldman bets against those same products, and doesn't tell the people it's selling them to, that is not good.
"I don't beileve so."
That's Viniar's response to Sen. Tom Coburn (R-OK), asking whether an unbiased person could look at what Goldman did in its Abacus synthetic CDO deal. Viniar is the only person in the room who believes that.
"I don't believe it's unethical."
That's Viniar's response to releasing many emails from Fabrice "Fabulous Fab" Tourre that paint him in a very undignified light. Coburn has suggested throughout the hearing that Goldman is throwing Tourre under the bus, and has made a very convincing case. It is, in fact, the smart thing for executives to do, and they do it all the time-- chalk a problem up to a few bad apples, say there's no bigger problem at the firm, and wash their hands of the incident.
To clarify, I don't have an objection to Goldman shorting the housing market, in principle. As I said earlier, shorting as such can be a useful economic activity. But while Goldman was shorting the market, it was simultaneously packaging securities based on that market and selling them to investors, believing all the while those securities were doomed.
That's pretty horrible, even if Goldman's net long/short position adds up to zero. They're still fueling a fire for assets that they think are no good, and in the process, making the subprime mortgage mess worse. It is not important whether Goldman's total contribution to this disaster is large or small relative to other firms. It's clear that Goldman's subprime mortgage activities added up to billions of dollars, and that it hurt actual people in the real economy. That's terrible.
It's also clear from the testimony of everyone on the panel today that none of those people think they have any responsibility to the broader economy. If Goldman Sachs makes money ruining the economy, that's fine with them.
A week or so ago, Goldman put out an official statement insisting that they did not short the housing market. Levin is making a strong push to show that the statement Goldman issued was misleading.
After starting out with straightforward answers, Viniar appears to be dodging.
The best stab Levin has made so far is the point that Goldman was, in fact, net short by billions of dollars in 2007. The company's "we didn't short the housing market" claim is only makes mathematical sense if you combine both 2007 and 2008.
This actually hurts Goldman more than it sounds like it does, because for much of 2007, investors were still clamoring for mortgage-backed securities and CDOs, and Goldman was packaging them and selling them, despite taking an overall stance against those securities.
Viniar says it was all a strategy to reduce risk. But reducing risk would have meant simply offsetting the long positions. "You blew right by zero," Levin says, and that's true. Even Viniar acknowledges that they made $500 million through their net short position.
Goldman CFO Viniar says Goldman's total net revenues from mortgages in 2007 were less that $500 million-- less than 1 percent of its total revenues. He also says Goldman lost money on the mortgage market in 2007 and 2008 combined.
There are a lot of ways to account for revenues, and a lot of ways to define the "mortgage business." I'd like to hear more detail on this.
Goldman's strategy so far today has been to stall, stall, stall. They're doing their best to not answer questions, and take as long as possible not answering questions. This started at 10:00 and has been going on now for five hours.
The Goldman execs are coming off as very unpleasant and dishonest people. There is clearly a lot of documentation to sort through here, but these guys are doing their best to just say nothing and stay as unrepentant as possible.
Here's what happened. These guys sold people stuff that Goldman was betting against, without telling them that Goldman was betting against it. By stalling and evading, the Goldman execs may have dodged criminal charges against themselves. But nothing they have presented today has convinced anyone watching that the basic activity under question-- betting against your clients without telling them-- is wrong.
I'm ready to see Viniar and Blankfein.
Probably worth doing a break-down of what "market-making" is. Clients come to Goldman saying they want to place a bet on something. Goldman arranges a transaction, which people can bet for or against. The defense offered by everybody at Goldman is that they weren't betting against their clients, they were simply arranging a transaction, which people could be long or short (bet for or against). In some of these transactions, Goldman took the short side of the deal.
This is a decent defense, up to a point, provided you haven't been deceiving investors in arranging the deal. That's what the SEC says Goldman did. That's also what the emails Levin dug up imply.
But it's only a good defense up to a point. When Goldman is knowingly creating assets that are economically destructive-- assets that set up foreclosures and fuel a subprime frenzy-- they've done something wrong. When a client comes to you and says he wants to bet against subprime mortgages issued in California, and you know that allowing him to do so will cause more economically destructive subprime mortgages to be issued in California, you do have a responsibility to say no.
Imagine if Goldman Sachs were an auto manufacturer. One of its suppliers comes to the company and says it is going to cut a lot of costs by legally dumping tons of toxic chemicals on poor people in Central Michigan. In that case, Goldman would have a responsibility to find another supplier-- regardless of the effect on its bottom line. Even though it's legal, it's wrong, and a good corporate citizen wouldn't do it. It's just as wrong to knowingly wreak economic havoc, which Goldman was obviously doing.
Now, of course, major corporations in the United States do not behave ethically, and many people reading that last paragraph probably think it sounds a little quaint. And I agree, we are going to be disappointed if we expect corporations to behave in the public interest if they don't have to. I think that says something really horrible about American business. But it also underscores the role of government in a market economy. If pervasive practices are both legal and destructive, they have to be countered through regulation, or outlawed. To talk about the free market in this context is nonsensical.
Sen. Ted Kaufman (D-DE) is having a field day with stated-income mortgages. A stated-income loan (also known as a no-doc loan) involves no documentation of the borrower's income. Stated-income loans are completely stupid. Even Ben Bernanke thinks they ought to be outlawed. There are "prime" stated-income loans and "subprime" state-income loans, but in every case, their risk is impossible to determine-- there is no way to tell whether the information in them is accurate or not, and they're a huge invitation to fraud (80% of which is committed by lenders, according to the FBI).
This is Sparks' defense of Goldman's participation in the stated-income loan business: "There were people in my business unit who actually wanted to be long that risk."
This relates to a lot of points Goldman has been making about sophisticated investors. It really is true that a lot of sophisticated investors did incredibly stupid things, sincerely believing that housing prices would never drop. It is also true that these people were paid a lot of money to do this, even though it cost their company tons of money.
It is also true that a lot of sophisticated investors bought stuff they thought was going to tank at some point, but believed they'd be able to sell it off before those assets dropped in value. Think of it as subprime hot-potato. Many of these investors were wrong, mistimed their trades, and got paid a lot of money to make decisions that ultimately wrecked their firms.
It is also true that a lot of sophisticated investors bought assets because they were systematically defrauded by other sophisticated players.
But in all of these cases, the major trouble could have been prevented by straightforward, boring consumer protection regulations in the mortgage market. Regulation matters. If Ben Bernanke, Alan Greenspan or John Dugan had cracked down on garbage mortgages, Wall Street would not have been able to run wild with our neighborhoods. These people completely failed us over the past five years, and there is no reason to believe they will not completely fail us again. What we need is a new Consumer Financial Protection Agency with the authority to both write and enforce consumer protection rules for anybody extending credit to consumers.
Nice work again from Collins. "If Goldman's position was truly . . . to remain as neutral as possible, how do you account for all of these references [from company executives] to 'the big short'?"
Sparks is really a marvel. He just says he wouldn't "speculate" about what those words mean.
Goldman shouldn't have to retreat from shorting the housing market. That's how it made a lot of money, and shorting can be a totally responsible strategy for both its investors and the economy.
responsible in any
business is withholding crucial, financially important information from your clients. And that's how it appears that Goldman went about shorting the housing market, which is why nobody from Goldman wants to talk about how it made money betting against the housing market-- the way it placed its bets was totally dishonest.
It's also worth emphasizing that shorting stocks is an economically useful function because it's a transparent operation (excluding naked shorts, which are illegal). Stocks are traded on an exchange, so shorting helps move stocks in rational directions and notify the market when a company is in trouble.
But Goldman's shorts were not transparent, because they were conducted in the totally opaque market for credit default swaps, which are not traded on exchanges. The kind of behavior Goldman is being accused of here would have been impossible-- repeat, impossible-- if the derivatives bets they made were open to the investing public. There would be no way for Goldman to exploit its information asymmetries if we had market systems that eliminated them.
That's why Goldman Sachs spends a lot of money on lobbying. Derivatives reform, in particular, would make it a lot harder for the company to screw over its clients for money. A strong Volcker Rule would make it even harder for Goldman to do that.
In case you forgot, yesterday every Senate Republican and Sen. Ben Nelson (D-NE) voted against even opening debate on financial reform.
Collins is off to a good start with the witnesses. She asked Sparks whether he believes he had a responsibility to act in the best interest of his clients. Market makers do not have legal obligations to do this in the sense that investment advisers do-- that is to say, they can't be sued for failing to do so-- but it's still really ugly for them to be arranging transactions that hurt their clients.
Sparks dodged the question, so did The Fabulous Fab.
Collins: "Your clients are not paying you big fees just to efficiently conduct transactions . . . they're paying you for judgment as well."
And now Collins is asking whether companies like Goldman Sachs should be subject to a clear "fiduciary duty"-- ability to be sued-- to act in their clients' best interest.
I do not want to get on Carl Levin's bad side.
Ha! Levin just asked Sparks whether he was aware that subprime lender Fremont had a bad reputation in 2007. Sparks said he couldn't recall.
Apparently I was working in the wrong business in 2007, because as a lowly financial journalist, I was aware, along with everyone in the newsroom I worked in, that Fremont had a terrible reputation. What's more, I can remember the fact! Apparently we all could have been making a lot more money by being out of the loop at Goldman Sachs.
There's another point here that Levin isn't really going after, because it only involves indirect unethical behavior. Goldman packaged $700 million in Fremont loans into securities and pushed them to investors. Fremont, a terrible, terrible lender, never would have been able to make its subprime loans if Wall Street had not been itching to securitize them. Fremont's business model only worked when it could sell off its bad loans to Wall Street to be sold in securitized form to investors. When it stopped being able to sell off those loans, the company collapsed.
That means that while Goldman didn't issue many mortgages directly, it was clearly fueling the subprime fire. Fremont depended on Goldman for its very existence. And neighborhoods paid the price with a tidal wave of foreclosures.
Levin is detailing a $20 million CDO deal composed of subprime mortgages issued by New Century. Goldman built CDOs out of mortgages issued by New Century so that it could take the short side of the deal. But investors didn't want to buy the CDO, because it was filled with garbage. So Goldman's sales team kept going out and pushing the CDO to other investors without telling them that Goldman was shorting the same CDO.
The defense offered by Goldman's top mortgage man, Daniel Sparks, is that anybody who bought the CDO should have examined the underlying assets. Fine. But Goldman also has a responsibility to tell their clients that it's selling them something they believe is no good. These clients directly asked Goldman's salespeople how Goldman could be "comfortable" with the deal, and Goldman coached its salespeople to dodge the question.
More categorical denials from Goldman, this from Abacus engineer Fabrice Tourre.
Tourre just said Paulson didn't select the mortgages that went into the Abacus deal, and that Goldman didn't bet against it, but lost $100 million on the deal.
Good luck with that, Fab.
So it looks like Goldman's strategy here is to insist that they did nothing wrong and that everybody who works at the company has the highest ethical standards.
Right now former Goldman managing director Jeffrey Birnbaum is going on at great length about how Goldman just became naturally long or short on the housing market based on client-driven trading, and had nothing to do with a strategy from senior management. Market-makers have to take the other side in their transactions, that's the nature of the game, or so this argument going.
This defense is ridiculous in light of the Goldman emails Levin has produced, and the allegations levied by the SEC. Goldman CFO David Viniar boasted about the company taking "the big short" on the housing market in an email. And the very nature of Goldman's synthetic CDO deal with John Paulson is grotesque-- nobody buying that security would have believed that the security had been designed to fail, and nobody buying that security would have reasonably believed Goldman was going to bet against it. Goldman wasn't helping its clients invest the way they wanted to, they made money by kneecapping their clients. Back in January, Blankfein even told the Financial Crisis Inquiry Commission he believed the Abacus deal was improper.
Hypocrisy Alert from Sen. Susan Collins (R-ME).
"Clearly this system must be reformed," Collins says.
Correct, it must be reformed. Which is why there is no excuse for anybody from any political party standing in the way of that reform. But last night, Collins joined every single Senate Republican in filibustering not only reform, but the mere procedural move to begin debate
on reform. If you go out in public and talk the talk on reform, you have to walk the walk when it's time to vote.
Levin is drawing a nice parallel with the financial practices the preceded the Great Depression. He dug up a nice quote from Senators investigating the banking collapse in the 1930s:
"Investors must believe that their investment banker would not offer them the bonds unless the banker believes them to be safe. This throws a heavy responsibility on the banker. He may and does make mistakes . . . But while the banker may make mistakes, he must never make the mistake of offering investments to his clients which he does not believe to be good."
Obviously, this is exactly what Goldman Sachs did. It's also what loan officers at Washington Mutual did to their mortgage borrowers, and it's also what credit rating agencies did to investors. The activity isn't unique to WaMu and Goldman-- it's how American banking works.
Levin: "Instead of doing well when its clients did well, Goldman Sachs did well when its clients lost money."
I think we're going to hear a lot today from Goldman execs about how it's just trying to serve its clients and make money in the process. But that's not really true. Goldman, like every other Wall Street firm, is trying to make money any way it can. And one of the surest ways to make money from trading is to exploit "information asymmetries": knowing something that your trading partners don't know. We now know that Goldman withheld very important information from its investors in order to create
that information asymmetry and profit from it. That's why their ability to short the very synthetic CDOs they sold to investors was such a good play.
Levin's basic point here is right. Criminal or not, one of the surest ways to make money in our current financial system is to engage in economically destructive behavior. No financial system can function effectively when the laws and incentives simply encourage bankers and investors to kneecap each other. Nothing productive happens under those circumstances, regardless of what Goldman's executives will say today about the benefits of "providing liquidity." A financial system is supposed to do much more than just move money around-- it's supposed to effectively and efficiently allocate resources. If it doesn't do that, it's not working, and it has to be restructured.
Goldman Sachs CEO Lloyd Blankfein won't appear before Levin's committee until this afternoon, but his written testimony is here:
So is that of Goldman CFO David Viniar:
And this is Fabrice "Fabulous Fab" Tourre: