Senate Panel: Goldman Inflated Housing Bubble

Tuesday, 27 Apr 2010 11:39 AM

 

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The conduct of Goldman Sachs Group Inc. during the financial meltdown was assailed on Tuesday by a U.S. Senate panel, which accused the Wall Street powerhouse of inflating the housing bubble earlier this decade and then profiting from its collapse in 2007.

Goldman Sachs officials — facing accusations that they had hurt clients, lenders and the overall economy — sought to defend themselves in the firm's biggest showdown with the government since it became a public company a decade ago.

Fabrice Tourre, the sole Goldman employee charged in a government fraud lawsuit against the firm, said in testimony that he did not hide material information from clients.

Senior managers also said they were not prescient about the housing market, just diligent about limiting its risk.

The subcommittee, examining the causes of the financial crisis, launched a broad fusillade against investment banks.

Goldman helped to package toxic mortgages into bonds for fees from 2004 to 2007, and then repackaged those bonds into complex securities known as collateralized debt obligations, magnifying the risk from the mortgages, the subcommittee said.

Goldman Sachs then shorted the mortgage market, betting on its decline throughout 2007. It did not disclose its position to clients, the subcommittee said, and sold securities it wanted to get off its books to clients.

The subcommittee also pointed to a particular trade in which Goldman failed to disclose key information to a ratings analyst and investors. The Securities and Exchange Commission charged Goldman with civil fraud for the same transaction, known as "Abacus 2007-AC1."

"Goldman's actions demonstrate that it often saw its clients not as valuable customers but as objects for profits," said Senator Carl Levin, chairman of the Permanent Subcommittee on Investigations. "Its conduct brings into question the whole function of Wall Street," Levin said.

In a packed hearing room, the Goldman officials looked impassively as politicians vilified them.

When Senator Claire McCaskill accused Goldman officials of gambling with little oversight, three of the four witnesses briefly looked down into their laps.

Goldman shares were up 1.05 percent in morning trading.

Goldman for its part said it was not prescient about the housing market, it just managed its risk. The bank's residential mortgage bond positions were losing money daily in December 2006, it said.

There was a vigorous internal debate about the future of the housing market that came to no firm conclusions, but Goldman decided to reduce its exposure given the risk in the market, Chief Financial Officer David Viniar said.

As Goldman reduced its exposure, it sold positions to investors that saw them as attractive.

"As with our own views, their views sometimes proved to be correct and sometimes incorrect," Viniar said.

Goldman Sachs eked out only a small profit from residential mortgages in 2007, and lost money on them in 2008, he said.

The SEC sued Goldman and Tourre on April 16.

It contended that Goldman had failed to tell investors that it had allowed the hedge fund firm Paulson & Co to choose securities for the Abacus 2007-AC1 transaction.

Paulson was betting that the securities would fall in value, and thus wanted the Abacus deal to generally founder.

Paulson & Co is believed to have made $1 billion from the transaction, roughly the same amount lost by investors including bond insurer ACA and German bank IKB. The firm and its principal, John Paulson, have not been charged.

ACA also selected securities that were packaged into the transaction, but gave Paulson considerable say over what it included, the SEC said.

In his testimony, Tourre said he never told ACA that Paulson & Co would invest in the riskiest part of the Abacus deal and was "surprised" ACA could have thought otherwise.

He also said the transaction "was not designed to fail," that Goldman had no economic motive for it to fail, and that he did not mislead ACA or IKB, two major investors in the transaction.

"While Paulson, Goldman Sachs and IKB all had input" into the portfolio, "ACA ultimately analyzed and approved every security in the deal," he said.

"When Goldman Sachs represented to investors that ACA selected the referenced securities, that statement was absolutely correct," Tourre added.

Other Goldman officials were expected to testify before the Senate subcommittee later in the day, including Chief Executive Lloyd Blankfein.

In prior sessions, the subcommittee has looked at the role of rating agencies and Washington Mutual in the financial crisis.

Goldman shares were up 1.05 percent at $153.45 in late-morning trading.

© 2014 Thomson/Reuters. All rights reserved.

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