On Goldman
fivethirtyeight.com
fivethirtyeight.com
Sixth -- how will Goldman defend themselves? The standard defense when two parties to securities litigation are "sophisticated investors" is to argue the parties were essentially big boys and knew the risks. That defense isn't possible in this case, largely because of the statute employed. This case comes down to whether or not Goldman lied -- period. Either they did or didn't misrepresent facts. The financial standing of the purchaser of the security is irrelevant. Goldman's only defense is to somehow demonstrate they did not lie about the transaction. Given the complaint filed, I don't see how that argument is possible.
Since the "big boys" argument has been frequently cited -- it's basically the "caveat emptor" defense running through most threads about the case including this one -- it's worth noting that if this guy is right, it's irrelevant.
This is an example of committing the same crime Goldman has allegedly committed. You'll notice that if you're an accredited investor, you can call your broker up right now and do this. In act, if you do much options trading, you may have already more or less done it.
The abacus fund was the name of the Fund that John Paulson setup.
Let me get the facts out of the way:
1) It is not possible to have a long and short position in the same instrument on the same account simultaneously. ... unless of course it was calls vs puts. but while they are both options they are separate instruments as you can go long/short/offset on calls or puts for a complete trade without using the other. i.e. sell call and buy them back to offset.
2) Of course they could have used another instrument to do this. that is going Long on the futures while buying puts. and that would be illegal. oh wait! thats called hedging. thats not illegal.
3) Of course again if the fund was hedging there is no fraud possible since the money would be with the fund, hence with the investors.
4) If the opposite position was in another account, another fund, or whatever that is also not illegal. Though NOW since these were not hedges they had to be naked shorts. But wait thats not possible, aren't there hundreds of articles that say Goldman, Paulson, Lehman, MS etc etc etc lost tons of money by buying into CDOs...
5) But that would mean, that these were in fact hedged trades!
6) Of course there is also the fact that banks, investment advisors, etc are obligated to tell all their clients what their other clients are doing, now in cases like this that would include internal propitiatory trading desks. OH WAIT! thats illegal too...
Whats the effing case again?
That they sold mortgages that the investors wanted to buy (unless they were forced to do so under pressure/on gun point... without a choice.... that would definitely be illegal)?
That they hedged?
That the investors who had the money and sensibility to invest in these risky exotic securities, did not know that they should have hedged against their trades?
That its common knowledge that every transaction needs to have a sound exit strategy, and factor in the worst case scenario (hence the hedge), in this case it would be that the investors and consumers could default?
Since, if this case has any base, can we expect Full disclosure of Speculation, Investment activities of citizens to get included with emails to the Patriot Act? Oh wait... where did I get that idea from!
Since banks can now be taken to court for not disclosing this information, can we add this requirement to lawyers too?
Ok back to the topic.. what I think of this case is:
For every vague law GS has been blamed to break there is at least one not at all vague law that clears them, the fact of the matter is that this case is not at all about lawful merits, but rather political gain by creating an emotional and moralizing case that will be won even without wining the real case. By using word like literally betting against homeowners etc.
enough said.
Of course, the problem with this attitude is that it actively works against the establishment of a Pareto efficient system, and I think we're seeing the results of that with the most recent economic downturn. I don't know enough about the laws to say whether your assertion that no laws were broken is true or not. All I can say is that I hope some laws were broken. If not, then this does not speak well of the US's ability to regulate itself in such a way that benefits the nation, rather than benefitting a select few.
How does that not constitute fraud?
BUT. ACA as an independent portfolio selection agent only selected 55 of those. And only those 55 were used.
But since the first 123 were selected by Paulson we should ignore this fact.
Since we have already dismissed that ACA independently selected the portfolio, we shopuld also dismiss the fact that ACA's parent company invested $900 million in the CDO, because they believed in the validity of their choices.
But then again how is that in any way saying that they approved of the contents of the CDO.
Since we have established this,let me try and convince some law firms to start a class action against all colleges, universities, b-schools etc for giving students multiple choice questions, to try and influence their judgement that the answer can be something other than the right one.
Not exactly the same case as Paulson, ACA and Goldman, but its soooo close!
Paulson had a list of securities they wanted to short. ACA selected what was (in their opinion) the best set of long positions from this set. Goldman then sold a synthetic CDO based on the long positions. The exact positions were disclosed, in explicit detail, to every buyer.
This is how nearly every synthetic CDO is constructed.
So it's clear that ACA sucks. I've never argued that wasn't the case. But ACA's suckage in no way bears on the fact that Goldman plainly lied about the selection process to longside investors (who clearly suck, as well).
In summary: everyone involved sucks, except maybe Paulson. Goldman's the only party that criminally sucks, though, at least that we know of right now.
The direct shorts that everyone knew about were the people selling the underlying mortgages up the chain, and the reasons they were short were well understood by everyone involved (cash now vs. over 30 years, etc.).
ABACUS was a synthetic CDO. The short side wanted to buy CDS on a set of underlying bonds. The long side wanted to issue the CDS.
The only relation it has to bonds is that ACA structured the transaction to behave similarly to a set of bonds. The synthetic CDO could not have existed if someone was not explicitly trying to short the underlying bonds.
As for ACA working with Paulson, yet somehow not knowing they were short, I'm having a hard time believing it. If it is true, how come the SEC isn't charging Paulson with fraud?
Regarding the mechanics of it, it also seems extremely unlikely. The purpose of their meeting is to negotiate with Paulson - to build the best CDO possible (to increase the changes of finding buyers) while still allowing Paulson to get the short they desire. I find it extremely unlikely that somehow, they didn't figure out that Paulson was short during this process.
I assume Paulson's not being charged because it wasn't Paulson who told ACA he was long, it was Goldman. As for why ACA couldn't figure out he was short on their own, I don't know. Maybe they'd already had a lot of experience with people doing this kind of thing and walking out the other end okay? Maybe they thought Paulson was smarter than they were, and if he were long on these things, than there must be something to it? Maybe they're just happy to keep cashing the 'trusted independent 3rd party' checks Goldman keeps sending their way?
In synthetic CDO's, precisely zero. Consumption goods are purchased for other reasons, however.
I assume Paulson's not being charged because it wasn't Paulson who told ACA he was long, it was Goldman. As for why ACA couldn't figure out he was short on their own, I don't know.
Paulson and ACA were in direct collaboration on the creation of the CDO. They talked to each other directly on many occasions. If Paulson deliberately pretended to be the long side, when they were really the short side, that sounds like clear cut fraud on their part. So why isn't the SEC going after Paulson?
In any case, I obviously don't have the ability to prove Paulson never said they were the long side. On the other hand, it's the job of the SEC to prove that a) ACA asked who the longside was and b) Goldman/Paulson lied about it. I see virtually no evidence of this.
In a subprime CDO it's far more important to know who is holding the mortgages. I'm assuming they are subprime CDOs as that was Paulson's bread and butter.
What special position does Paulson have that he can effectively convince people to stop paying their mortgages?
ACA made a bet that people would pay their mortgages, Paulson made a bet that they wouldn't. If the CDO market didn't collapse there would be no case brought.
If knowing who was on the other side was so important, why did ACA decline to ask?
If the SEC wants to find the responsible parties for the collapse why don't they look towards the Dept. of Treasury and the Federal Reserve?
And the ACA that ended up long was the parent company, "ACA Capital Holdings, Inc", not the management company, "ACA Management LLC", that worked with Paulson to put together the portfolio. I won't claim to know what the exact relationship between the two companies was, but the former didn't actually enter it's long position until 3 months after the latter signed off on the portfolio.
Alternatively, did the people selling insurance know what kind of insurance they were selling? By saying that ACA was constructing the portfolio and omitting Paulson's role, GS implies some kind of standard for portfolio construction. Was that standard different than what Paulson helped construct? My assumption is absolutely. Paulson was not creating a diversified portfolio, Paulson was creating a concentrated portfolio. Does the average bank/institution ever want to have a concentrated portfolio? Probably not.
There's always somebody on the other side of the trade. Is that person misrepresenting what the goods are is the question.
Nevertheless, the following are facts:
- Paulson was involved in creating Abacus
- Paulson would gain nothing if Abacus succeeded
- Paulson would make a billion dollars if Abacus failed
-- Anonymous counterparty was involved in creating Synthetic CDO.
-- Anonymous counterparty gains nothing if the CDO succeeds.
-- Anonymous counterparty makes money if it fails.Yes, somebody is taking the other side of the bet. The fact that he got to pick the portfolio isn't obvious. Goldman brought in ACA precisely because having an independent third party pick the portfolio would make it more attractive to investors. Goldman's lie was omitting the detail that ACA didn't actually operate independently.
That's exactly what happened in this case. Paulson wanted to short a certain profile. They selected a set of securities meeting this profile, and ACA took the best possible longsides from that set of shorts.
Well, perhaps most investors out there really are that sophisticated. But Bear Sterns decided the deal Paulson proposed didn't meet their ethical standards. It couldn't have been completely uncontroversial.
It's like a real estate agent knowingly selling you a house with a mold problem. Or maybe more like a developer selling houses that had been constructed with substandard materials.
The big news here is that ACA looks really pathetic. They're saying "We had all the fundamental information we needed to judge the merits of this transaction. We could investigate every bond in the reference portfolio, and even every underlying mortgage. Our quants could build a model that would tell you exactly what would happen for any given default rate, interest rate, home price fluctuation, war, natural disaster, or act of god. But we didn't know that some know-name merger arb who liked to dabble in real estate derivatives was on the other side of the trade. If we'd known that, we would have been terrified." I mean, come on.
It would be like a professional baseball team whose entire model for winning was that they'd only play games against Little League teams, but they'd sue the other team if they turned out to be good.
A synthetic CDO can not even exist unless some party believes the securities it is comprised of will go bad.
Your analogy to people selling consumption goods is ridiculous. A synthetic CDO is a bet and only has value for speculative and hedging purposes.
It's like me making a bet with my friend that the yankees will win. What a jerk! He took my bet, all the while thinking the yankees would lose!
Not true at all, you don't necessarily have to think it will go bad, you just have to be afraid enough that it might to pay an insurance premium.
The Goldman case isn't about whether or not they should have disclosed that the short had speculative motives. It's that they actively lied about who put the reference portfolio together and why.
Edit: I can't believe Goldman really said - here's a basket of triple A's, when in fact they were junk. Expressing an opinion on whether they were likely to go up/down is a different matter. Of course a salesdesk is going to promote the investment in positive terms.
The lie was that the package of underlying mortgage bonds was selected solely and independently by a 3rd party who had an interest in putting together a quality instrument, when in fact Paulson played the major role in the selection.
Caveat Emptor is a fine thing and one should always be cautions when buying investment instruments,but outright fraud and deception through material omission strike at the credibility of the market itself.
You're acting as if Goldman, by virtue of being lucratively evil, had predicted the whole subprime mess. But they lost money initially, made it back on hedges, then lost other money elsewhere. If they were as well-informed as they should have been to commit this crime, they would have made far more money in 2007-9.
You're right that the buyer should have taken a closer look at the underlying mortgages themselves, but that's the other part of the story, that the ratings agencies that everyone trusted to do that work for them were either on the take, stupid, or both.