Goldman Sachs Shares Drop After Goldman Sachs Accused of Fraud in Mortgage Deals

Goldman Sachs, which emerged relatively unscathed from the financial crisis, was accused of securities fraud in a civil suit filed Friday by the Securities and Exchange Commission, which claims the bank created and sold a mortgage investment that was secretly devised to fail.

The move marks the first time that regulators have taken action against a Wall Street deal that helped investors capitalize on the collapse of the housing market. Goldman itself profited by betting against the very mortgage investments that it sold to its customers.

The suit also named Fabrice Tourre, a vice president at Goldman who helped create and sell the investment.

The instrument in the S.E.C. case, called Abacus 2007-AC1, was one of 25 deals that Goldman created so the bank and select clients could bet against the housing market. As the Abacus deals plunged in value, Goldman and certain hedge funds made money on their negative bets, while the Goldman clients who bought the $10.9 billion in investments lost billions of dollars.

“The product was new and complex, but the deception and conflicts are old and simple,” Robert Khuzami, the director of the S.E.C.’s division of enforcement, said in a statement. “Goldman wrongly permitted a client that was betting against the mortgage market to heavily influence which mortgage securities to include in an investment portfolio, while telling other investors that the securities were selected by an independent, objective third party.”

In recent months, Goldman has repeatedly defended its actions in the mortgage market, including its own bets against it. “We certainly did not know the future of the residential housing market in the first half of 2007 anymore than we can predict the future of markets today,” Goldman wrote. “We also did not know whether the value of the instruments we sold would increase or decrease.”

No One “Knows” Anything

While Goldman can claim it did not “know” anything, the statement rings as hollow as saying we do not “know” if the sun will come up tomorrow.

Goldman is nothing more than a giant hedge fund that front runs trades and bets against advice it gives clients, with one important exception. Goldman is a bank holding company deemed “too big to fail” with the explicit backing of the Fed.

There is no fiduciary responsibility in any of the large corporations in my opinion.

I gave an example a while back where fund managers at two large broker dealers told me they do not collect fees if client positions are in cash.

Thus, whether or not those managers I spoke with thought that being invested was the correct thing to do, there was intense pressure to invest client money not only from the manager holding cash, but also from upper management at these firms.

That my friends is the origin of “you can’t time the market, so be 100% in 100% of the time, for the long haul.” Over the long haul, Wall Street wants you all in all the time so it can collect fees.

Worse yet, clients are steered to speculative products because those are the ones that make the broker dealers the most money.

Corruption, Greed, Lack of Ethics

The corruption, greed, and lack of ethics in the industry is appalling. I still want to know Where is The Indictment of Ex-CEO Dick Fuld? over fraudulent action Lehman made.

Here is a list of some of the things the SEC has ignored.

March 2, 2010: Geithner’s Illegal Money-Laundering Scheme Exposed; Harry Markopolos Says “Don’t Trust Your Government”

January 31, 2010: 77 Fraud, Money Laundering, Insider Trading, and Tax Evasion Investigations Underway Regarding TARP

January 28, 2010: Secret Deals Involving No One; AIG Coverup Conspiracy Unravels

January 26, 2010: Questions Geithner Cannot Escape

January 07, 2010: Time To Indict Geithner For Securities Fraud

October 20, 2009: Bernanke Guilty of Coercion and Market Manipulation

July 17, 2009: Paulson Admits Coercion; Where are the Indictments?

June 26, 2009: Bernanke Suffers From Selective Memory Loss; Paulson Calls Bank of America “Turd in the Punchbowl”

April 24, 2009: Let the Criminal Indictments Begin: Paulson, Bernanke, Lewis

Where is the Fiduciary Responsibility?

I am tired of ethics (or lack thereof) that allows front running and betting against clients whether legal or not. I am tired of corporations talking about “walls” between their proprietary trading units and their investment groups. In practice the walls are invisible, if they exist at all.

Moreover, I am tired of accounting rules that allow hundreds of billions of dollars of assets to be held off balance sheets (Citigroup had $1 trillion in off balance sheet assets at one point), and I am tired of mark-to-fantasy pricing (Goldman has more level 3 assets than anyone else).

In client relationships, the first and most important thing is to never do or advise a client in any way that is not in their best interest. Instead, we have ethics that allow (even encourage), making profits at client expense.

Don’t expect anything to come from this SEC investigation. If there is a fine it will be with a nudge and a wink and trivial to the amount of money Goldman Sachs clients lost.

Complete Ethics Overhaul Needed

We need a complete ethics overhaul but we will not see it until people are thrown into prison and corporations have to choose which business they want to be in as opposed to the current state of affairs where anything for a profit is acceptable.

  • Firms give advice based on how much profit the firms will make on it
  • Firms trade their own books to the detriment of clients
  • Firms make upgrades and downgrades after they take positions themselves
  • Firms front-run trades
  • Firms engage in dark pools
  • Firms deemed too big to fail take advantage by upping leverage
  • Firms like Goldman Sachs (which is nothing more than a giant hedge fund with no ethics) have access to Fed funds at low interest rates to do whatever the hell they please

Sadly, this business screws the client for a fee time and time again because there is no ethics, no sense of fiduciary responsibility, and no walls on separation of duty to prevent fraud.

Some misguided souls will blame the free market for this.

Nothing could be further from the truth. One of the legitimate roles of government is to protect property rights, prevent fraud, and level the playing field so that everyone has an equal chance and equal protection under the law.

Instead, we have rules, procedures, and taxpayer bailouts specifically designed to make sure the playing field is not level. This is not a free-market concept and desperately needs to change.

Mike “Mish” Shedlock
Click Here To Scroll Thru My Recent Post List