The Goldman defenders

By Felix Salmon
May 4, 2010
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Is it just me, or are the defenders of Goldman Sachs becoming more vocal and more numerous these days? Andrew Ross Sorkin today seems to come down squarely on the side of Warren Buffett and Bill Ackman, defending Buffett from accusations that his stance on Goldman is self-serving (“his stake in Goldman is more a loan than an investment, so he’ll no doubt be paid no matter what happens with the Abacus suit”) and agreeing with Buffett that there seems to be something of a witch-hunt going on:

With so many easy targets of the financial crisis — Fannie Mae, Freddie Mac, A.I.G., Bear Stearns, Lehman Brothers — it does seem odd that the government, and the public, has chosen to vilify one of only a couple of firms that made fewer mistakes than the rest.

The problem is that this makes no sense. Does Sorkin really believe for one moment that the other firms on his list haven’t been vilified? After all, he himself wrote a column last year explaining that that the vilification at AIG was so bad that you wouldn’t want to work there for less than $3 million a year.

More invidiously, Sorkin twice plays the cunning game of stating the SEC case against Goldman in ways that makes it easy to criticize. “The S.E.C. has accused Goldman of not disclosing that the Abacus instrument was devised in part by a short-seller, John Paulson, who stood to gain by betting against it,” he writes, accurately enough, and then lays out the opposite case:

“For the life of me, I don’t see whether it makes any difference whether it was John Paulson on the other side of the deal, or whether it was Goldman Sachs on the other side of the deal, or whether it was Berkshire Hathaway on the other side of the deal,” Mr. Buffett said…

One Berkshire shareholder who has been a regular in Omaha is Bill Ackman…

In recent days, he has gone even further than Mr. Buffett in his defense of Goldman, suggesting it would have been unethical for the firm to disclose Mr. Paulson’s position in the Abacus deal. He says that Goldman, as the market maker, had a duty to protect the identity of both sides of the transaction.

He agrees with Mr. Buffett that as an investor, he would not have considered it necessary to know that Mr. Paulson had helped select the securities.

But this is a bit of a straw man, as Sorkin well knows. The heart of the SEC case is not that Goldman failed to disclose Paulson’s name. It’s that Goldman failed to disclose the fact that the sponsor of the deal, the fund which was paying Goldman $15 million to put it together, was going short the entire thing. The Magnetar disclosure, for instance, which the SEC presented to Goldman as an example of what the bank should have done, never actually reveals Magnetar’s name or identity. But it does make it clear that the Initial Preferred Securityholder might be shorting the deal and that its interests are not necessarily aligned with those of the investors.

What’s more, Buffett and Ackman have made their careers, and become extremely wealthy, by analyzing and picking individual securities. That’s what they’re especially good at. Neither of them in a million years would invest in a CDO managed by someone else, like ACA: they compete with the likes of ACA. IKB, by contrast, specifically asked for an independent CDO manager, and said that it would not be happy with Goldman itself selecting the contents of the CDO. That’s not the kind of action that you’d expect from someone who thinks that a simple list of reference securities comprises “all the relevant facts that any investor would need”, in Sorkin’s words.

ACA, here, is a bit like a mutual fund manager, and IKB was an investor in that fund. The argument from Buffett and Ackman is essentially that so long as fund investors know what their fund manager is investing in, they shouldn’t really care who that manager is. It’s silly, especially coming as it does from two men who have made a fortune by setting themselves up as great stewards of other people’s money.

John Gapper is much more sensible on the whole affair, throwing prior Buffett statements back at him, especially the one from 2002 where he complains that derivatives are nearly always mispriced until it’s far too late. He says that “the shareholders of Berkshire Hathaway were disappointed by Warren Buffett’s defence of Goldman Sachs”, while Sorkin prefers to say that “by the end of Berkshire’s annual meeting, at least some of the 40,000 shareholders in attendance who had been skeptical of Goldman” had come around to Buffett’s way of thinking. I suspect that Gapper’s characterization is the more accurate.

But it seems that Goldman is drumming up a certain amount of what it likes to think of as “third-party validators” these days, including this astonishing statement from law professor Richard Epstein:

At the time of the ill-fated Goldman transaction, no one in the CDO market thought they were governed by any full disclosure regime. It was everyone for himself, and for good reason.

Hm. I wonder, in that case, why there was a 196-page prospectus for the deal, full of dense, disclosure-filled legalese.

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