Look Out For The Cockroaches!
A: The fraud charge news today is really not a surprise. What is surprising is whom it came out against and from what I am reading, the blatant nature of it. In a nutshell, Goldman is charged with misrepresenting to clients who picked the quality of the 'stuff' that was bundled into a CDO called Abacus 2007-AC1. This is the kind of news that can change things quickly. Lets see if the cockroach theory goes into effect here now that the King Goldman cockroach is already out and about.
I explained in layman terms how Mortgage Backed Securities work (MBS), the stuff the fed ended up buying with $1.25Trln of printed money, back in August of 2007. The charges against GS today have to do with Collateralized Debt Obligations, a.k.a. CDOs. The CDO was a compilation of the bottom tranches (BBB rated levels of the tower) of other subprime mortgage backed securities, put together to make a new tower of structured debt. This new tower of BBB junk was then sliced and diced further so that the top levels got AAA ratings - therefore gaming the ratings agencies to place a AAA stamp built entirely from BBB crap. Now the BBB crap can be sold to institutional investors. And there is your profit system.
Synthetic CDOs got there cash flow by selling credit default swaps against other CDOs, sending the insurance premiums to the investors. The buyers of the CDS's that made up the synthetic CDOs were basically shorting the subprime mortgage market. This is where the issues come into play.
In this case against GS, it is believed that Goldman created these synthetic CDOs and used Paulson & Co. to hand pick the 'stuff' that went into the security: likely the CDS on the worst CDOs out there. Then Paulson bet against the thing and profited handsomely. That is when you see this in the SEC's Fraud Filing today:
"GS&Co marketing materials for ABACUS 2007-AC1 – including the term sheet, flip book and offering memorandum for the CDO – all represented that the reference portfolio of RMBS underlying the CDO was selected by ACA Management LLC (“ACA”), a third-party with experience analyzing credit risk in RMBS.Paulson asked for it, and Goldman set the deal up for a $15,000,000 fee from Paulson; so the SEC says. Since Paulson bought the CDS on the lowest levels of the CDO, the investors loss of $1,000,000,000 became his gain. One of the internal emails the SEC caught stated this: “One thing that we need to make sure ACA understands is that we want their name on this transaction. This is a transaction for which they are acting as portfolio selection agent, this will be important that we can use ACA’s branding to help distribute the bonds.”
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.
Given its financial short interest, Paulson had an economic incentive to choose RMBS that it expected to experience credit events in the near future. GS&Co did not disclose Paulson’s adverse economic interests or its role in the portfolio selection process in the term sheet, flip book, offering memorandum or other marketing materials provided to investors."
Shady? Clearly. Clear? Not so much. And so went the engine of subprime mortgage backed securties and its derivative offspring, the CDO. Americans who should never had bought a home in the first place, became ground zero for the entire scheme. And now, the chickens are coming home to roost for the gamers. Expect more charges in the months to come as the inner workings of the core of The Great Recession come to light.
Posted by paul.b
Fri Apr 16th, 2010 07:52 PM
They deserve it!
Do you see this leading into anything big enough to hit the real estate market Noah?
Posted by Noah
Fri Apr 16th, 2010 08:34 PM
this is nothing but a possible trigger at the moment to a sustained selloff..considering where we came from, the chances are higher of it ending up that way. If you read my twitter messages last few days, the vix was so low it seemed any news might trigger a selloff and higher volatility. This news actually is a bit scary. Put it this way, Ill be shocked if the market shrugs this off and it proves that no other firms get these charges against them too.
For Manhattan, it will ONLY mean something if it sustains itself. Period. If it doesnt, it wont mean shit. If it does and stocks fall 15-20%, buyers may take a step back and in this market, its all about the buyers...so way too early to predict anything from todays events
but traders love vol so this is nice to see...gets me more interested in markets, which Im sure some people will take offense to
Posted by MeekSheep
Fri Apr 16th, 2010 10:12 PM
Actually the SEC's charges are pretty weak at best against Goldman. First of all, the primary investor in the CDO was ACA. Secondly, they were the only one who had any legal say in what securities actually wound up in the CDO, Paulson's initial list of securities was only a suggestion. Being the primary investor, ACA shot a good majority of Paulson's suggestions down and came up with it's own list. Paulson requested a few be removed from last list but couldn't force any to be removed, he had no say. Once ACA agreed to the structure Goldman created the security.
So let's recap. Paulson sent a list of recommended securities to ACA. ACA used it's own analysts to determine what it felt were a good investment and then sent that list to Goldman. Goldman created a CDO. ACA then bought the majority stake in the CDO.
The charge is weak, weak, weak. Paulson had no legal authority to pick and chose what went where. It's nothing but posturing and a media "see we can do a good job, we swear!"
Posted by Noah
Fri Apr 16th, 2010 11:00 PM
Meek - where are you getting this from? source? you have intimate knowledge of this? friend of a friend inside thing? Im wondering how the SEC will go against GS with a weak case. The public is outraged in general and we knew this was coming in some way, shape or form. Goldman seemed untouchable until today. Im confused if it will simply go away. Not sure about the legal authority, but if they have docs to show Paulson selected the cds to go into the synthetic cdo, then the offering was misleading if ACA was the third party, no?
granted, Ill give you its early and this could take years to settle and by then it will prob be a big fine. Its the jail time I wonder about.
Posted by Sechel
Sat Apr 17th, 2010 06:15 AM
Paulson, made the first round of portfolio selection. The fact that ACA accepted them, just means they didn't smell a rat. Feels like a material omission. Goldman highlighted ACA. Sure the investors knew there was a short position, but that is not sufficient(in my opinion). One has to wonder how the portfolio selection process worked in the ABACUS deals where Goldman was the CDS writer. It seems incredible to believe that Fabulous Fab guy brain stormed the idea of letting Paulson pick the reference bonds. I think this was more widespread.
Posted by jeff
Sat Apr 17th, 2010 09:15 AM
Fraud charge is very serious....it put EF Hutton out of business when they pleaded guilty to fraud (check kiting which was not a crime against customers)...many institutional investors cannot do business with an organization that has admitted to or been convicted of fraud. Goldman's got some splainin to do.
Posted by MeekSheep
Sat Apr 17th, 2010 09:35 AM
Fabrice Torre is probably in trouble. Maybe he shouldn't have misled ACA about Paulson's intentions. He'll get buried. Here is the SEC filing:
http://www.docstoc.com/docs/34445916/SEC-GOLDMAN
The thing about Goldman is that with ACA working as the portfolio selection agent they, not Goldman, had final say on what went into the security. So it's weak at best and probably to quell unease about that report which just came out saying how poor the SEC has performed.
Posted by MeekSheep
Sat Apr 17th, 2010 09:58 AM
I forgot you already linked that filing oh the post. My apologies.
Posted by kt
Sat Apr 17th, 2010 11:15 AM
GS was helping Greece hide its debt and betting against the debt they were helping to hide.
JPM was bribing officials in Alabama to aprove financial derivative contracts that brought the price of a sewage plan from $250 M to 2 B.
JPM and HSBC are actively manipulating the Silver and Gold market in complete impunity with protection from the CFTC whose chair is from...GS
SEC covered Maddoff for 12 years.
Need more?
Wall street/Washington are in bed to maintain what's left viable: Ponzi finance and Fraud.the cracks are getting larger.
Hard assets AWAY from wall street fraud is a necessary step to protect your wealth.
Posted by john
Sat Apr 17th, 2010 11:32 AM
Cockroaches?no.
The DEVIL runs wall street. I have yet to meet a wall streeter with a decent sense of ethics.
Massage the numbers, fleece your customers...that's wall street. A receptacle of feces.
Posted by In Debt We Trust
Sat Apr 17th, 2010 12:20 PM
Don't forget the "timely" mention of the news.
On Options Expiration day when GS puts went from 1 cent to $4 overnight. Put sellers got hammered while those who bought penny options could have made as much as 40000%.
Posted by anon
Sat Apr 17th, 2010 04:30 PM
Timing auspicious for the financial reform bill. Who's going to resist it now? Republicans may be forced to get in line.
Posted by Noah
Sat Apr 17th, 2010 04:54 PM
yea the timing is a bit interesting for that anon
Posted by Fred
Sun Apr 18th, 2010 08:12 PM
They're going to spin the fact that GS et. al. all gave HUGE to Obama and that Geithner, Summers etc. are all Wall Street patsies. The Admin will back off on reform as it relates to derivatives, otherwise why would Corzine have taken the top job at MF Global?
Posted by anonymous
Mon Apr 19th, 2010 09:20 AM
MeekSheep,
Thanks for linking that document. However, I still think that Goldman may still have difficulties defending itself. Authority to choose the investments is not necessarily relevant. The crux of the suit is not that Paulson participated, but that he did so without the conflict being disclosed to investors. Also, the complaint states that Goldman misled ACA by representing that Paulson had a long equity position. If Goldman had knowledge of all these conflicts, and omitted or misrepresented them to investors and/or ACA, a fraud charge could stick. Also, ACA used over 40% of Paulsons picks. That in my mind is significant enough to show that there is influence. While a criminal verdict may be difficult to nail down, there seems to be pretty good ammo for a civil case.
Posted by anonymous
Mon Apr 19th, 2010 11:23 AM
An interesting side note: Goldman received a Wells Notice potentially as early as last July, but failed to disclose it. The question remains as to whether it is material enough for disclosure, but I think most investors agree that a notification from the SEC that an investigation of a firm for anything with the intent of uncovering some type of wrongdoing is material. The movement in the stock price last week is an indirect indication that many investors do agree. Looks like there may be more lawsuits from the stockholders although I think these will matter much less than the government's.
http://www.footnoted.org/sec-stuff/on-goldman-and-disclosure/
Posted by coach handbags
Thu Aug 12th, 2010 10:08 PM
the chances are higher of it ending up that way. If you read my twitter messages last few days, the vix was so low it seemed any news might trigger a selloff and higher volatility. This news actually is a bit scary. Put it this way, Ill be shocked if the market shrugs this off and it proves that no other firms get these charges against them too.