Levin vs Blankfein

By Felix Salmon
April 27, 2010
pretty benign emails from Goldman, they got splashed all over the front page of the NYT; and today's batch of emails is causing a whole new set of headlines, even after today's WSJ story along similar lines.

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I am awed by Carl Levin’s ability to orchestrate press coverage of Goldman Sachs of late. When he released some pretty benign emails from Goldman, they got splashed all over the front page of the NYT; and today’s batch of emails is causing a whole new set of headlines, even after today’s WSJ story along similar lines.

Levin isn’t accusing Goldman of doing anything illegal, per se, but he’s on the warpath when it comes to the fact that Goldman went short the mortgage market. His list of email quotes is all about shorting the market, and so are his conclusions:

The Subcommittee’s nearly 18-month investigation found evidence that Goldman Sachs, contrary to the repeated public statements of the firm’s executives, made and held significant bets against the mortgage market – “short positions” in Wall Street terms…

As high risk mortgage delinquencies increased, and RMBS and CDO securities began to lose value, Goldman Sachs took a net short position on the mortgage market, remaining net short throughout 2007, and cashed in very large short positions, generating billions of dollars in gain…

Goldman Sachs used credit default swaps (CDS) on assets it did not own to bet against the mortgage market through single name and index CDS transactions, generating substantial revenues in the process.

Well, yes. If you have a substantial position in mortgages — and pretty much all banks had a substantial long position in mortgages come 2007 — then prudent risk management dictates that you try to hedge that position by selling what you can and putting on shorts in order to hedge what you can’t sell. What’s more, if you’re Goldman Sachs and you see the market going down, you’re going to be aggressive when it comes to putting on those short positions. That’s Wall Street.

As for Goldman helping to securitize subprime mortgages, yes, they did, but so did everybody else with a mortgage desk, and Goldman wasn’t even close to being the biggest.

Levin is convinced that if Goldman thought that mortgages were going down in value, and it still sold those mortgages to its clients, then that creates “a conflict between the firm’s proprietary interests and the interests of its clients”. But it doesn’t. If Goldman wants to go short mortgages and its clients want to go long mortgages, then it makes perfect sense for Goldman to sell mortgages to its clients.

I daresay that Levin is right when he complains that Goldman didn’t disclose its proprietary position to its clients, although I also suspect that if they asked the right people they probably would have explained their worries. But the fact is that Goldman wasn’t really making a big macro bet on the mortgage market failing, it was just making a large change to its own risk book in order to get away from what looked like a very dangerous position. If the mortgage market hadn’t tanked, Goldman would almost certainly still have made money. And while Levin talks portentiously about the “substantial profit” that Goldman made from its mortgage shorts, he never quantifies it or explains how he’s doing his sums. If he’s just looking at the short positions without looking at the offsetting long positions, that’s just silly.

Clearly Levin’s theatrics haven’t done much to impress Senate Republicans — or even Ben Nelson (D-Buffett): they blocked the financial regulation bill today, happy to be seen as obstructionist on financial reform even with Goldman dominating the headlines. Levin has, on the other hand, managed to muddy the waters surrounding Goldman a great deal, with the serious allegations about lack of adequate disclosure now being mixed up with all manner of vaguely-choate ideas about shorting and profiting off other people’s misery. It’s as though Goldman’s real sin here was not to lose as much money as everybody else when the housing market collapsed. If it had done, Levin would have much less to complain about.

Where does this leave Goldman? In a pretty tough spot, I’d say. The SEC case has severely damaged its reputation among its clients, while Levin and the press are doing their bit to undermine Goldman’s public image more generally. Right now, no accusation is too outlandish to throw against Goldman: if Ben Stein were to start accusing Jan Hatzius of deliberately talking down the US economy in order that Goldman could make money from bearish bets, as he’s been known to do in the past, the chorus of disapproval — against Stein, not against Goldman — would be much quieter than it was back then.

To Blankfein, I’m sure all of this seems horribly unfair. But the FT’s 2009 Man of the Year can’t whine about persecution. Instead, he should take the apology he’s already proferred, and make it more explicit: explain exactly which “things” Goldman participated in which were “were clearly wrong” and which Goldman has “reason to regret”. I’ve never got a very straight answer out of Goldman’s PR team on that front, although CDOs were certainly mentioned. Blankfein should be more forthright about that, and try as best he can to put a line under this whole episode.

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