Goldman Sachs Trading Against Their Clients and the Moral Hazard
April 28th, 2010 Posted in In-Depth Analysis
There are more than a few moral questions raised from the mortgage back securities (MBS) that were packaged by Goldman Sachs, sold to clients, and then later shorted by Goldman. Is it unethical? Yes. It is profitable? Yes. Is it illegal? That’s for the courts to decide.
Many of the MBS and specifically the Atticus deal that is the center of the SEC lawsuit against Goldman were put together by Goldman Sachs and were assembled with the help of people like John Paulson, who did not hide the fact that he was shorting these securities.
Input as to what tranches of mortgages that would be used was also given by the large, sophisticated asset management firms who ultatmely would buy the securities. These firms had faulty risk models and were on the wrong side of the market when the bottom fell out of the U.S. housing market. Their ability to find recourse could be slim.
As with most over the counter securities, these asset management firms also knew there was a good chance someone taking the opposite side of their trade. Much like there are people who short stocks, take the second side of a swap, or even selling the euro and buying the dollar, there is typically a counterparty taking the opposing view. In this instance, it happens to be the same investment bank that makes a market for these securities.
Goldman Sachs, who acted as a market maker and as a trader on their own account made a healthy profit. They made this profit by putting their profits in conflict with their client’s interest. This was approved by the upper echelons of Goldman’s management who did not hide this in yesterday’s congressional testimony. Unfortunately, the firm advertises itself by putting their client’s interests first. Any company that aligns their firm’s goals in opposition to their client’s best interest clearly poses a moral hazard and should be avoided.
An act of hypocrisy appeared in November of 2007 when a run on U.S. financial stocks almost brought down Goldman Sachs. Goldman CEO Lloyd Blankfein, along with other financial CEOs cried bloody murder as traders targeted their firms that held large amounts of subprime MBS on their balance sheets. Traders could have brought down the firm had new short limits not been imposed by the SEC.
It’s interesting to note how Blankfein changed his tune from only a year prior once the screws were being turned on Goldman. Suddenly shorting a bad asset didn’t seem right at the time, or at least when it wasn’t profitable for Goldman Sachs.
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Tags: Forex Trading, Goldman Sachs Trading, MBS, Moral Hazard
