Goldman’s hubris

By Felix Salmon
April 15, 2009

Any interest in buying shares in a highly-opaque financial institution which has been receiving billions of dollars from the US government but doesn’t want to do that any more; which is happily diluting itself in the midst of a hugely volatile and nervous market; and which generally acts in the imperious we-know-best, don’t-ask-questions tradition of all the best Ponzi artists? No? Well, you’re in good company: after the bank sold $5 billion of stock at $123 a share yesterday, the shares promptly plunged to close at $115 apiece, making everybody who participated in the offering feel like something of a schmuck.

Indeed, Goldman’s share offering yesterday is particularly distasteful in that in came fresh on the heels of Goldman’s first-quarter earnings report — a report which, according to no less an authority than BlackRock’s Peter Fisher, was mostly made up of one-off AIG-related earnings.

The AIG tale is important to keep in mind here, because the money flowing from the US government, through AIG, and ultimately to Goldman in January and February is possibly only half the story. The other half is Goldman’s famous counterparty hedging. Goldman is well known for having a more sophisticated counterparty hedging operation than any other bank; it claims — and I believe it — that all its AIG exposure was hedged. But what exactly did these famous counterparty hedges consist in? We can speculate endlessly about CCDS and the like, but there’s a rumor going around that a significant part of the hedge was a simple old-fashioned short position in AIG stock. And if that’s the case, Goldman ended up getting paid out both on the default protection it bought from AIG and on the hedges it took out against AIG being unable to make those payments. Talk about non-recurring earnings.

In the absence of much real-world primary-markets activity, Goldman’s prop desks are working hard to keep the firm’s profits up: according to my colleague Jonathan Ford, the value of Goldman’s principal equity trades in the first quarter principal equity program trades in the latest weekly data was an impressive 4.2 times the business it did for customers. In other words, Goldman is reverting to being the overgrown hedge fund which we thought was being quietly wound down when it became a bank holding company.

So yes, on the one hand the government has no business supporting a systemically-highly-risky hedge fund like Goldman Sachs with TARP money and bank charters. At the same time, Goldman has no business saying “thank you very much” for the financial-system bailout, but politely trying to decline participation in it by handing back the TARP funds. Like it or not, Goldman is a central part of the financial system, which means that it’s a central part of any bailout strategy. It can’t unilaterally say no to that, and I hope that it gets slapped down by Treasury as definitively as it was slapped down by the stock market yesterday.

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