Did Goldman Traders Manipulate Bear, Lehman Stock?

Has Goldman gone over the line of permitted behavior, particularly now that the SEC has decided to go after firms who may have contributed a bit too actively to share price declines of troubled brokerage firms and banks? The Wall Street Journal, in “Goldman Is Queried About Bear’s Fall,” says that the CEOs of Bear and Lehman thought so.

From the Wall Street Journal:

Alan Schwartz, who headed Bear Stearns Cos. when it collapsed in March, has pointedly asked Goldman Chief Executive Officer Lloyd Blankfein whether there was any truth to talk that in the days preceding Bear Stearns’s fall, traders in Goldman’s London office manipulated the struggling firm’s stock, according to a person with knowledge of the conversation.

Lehman Brothers Holdings Inc. CEO Richard Fuld Jr., whose firm’s shares also have been battered, also has contacted Mr. Blankfein. “You’re not going to like this conversation,” Mr. Fuld told Mr. Blankfein, according to people familiar with their talk, but he was hearing “a lot of noise” about Goldman traders who allegedly spread negative rumors about Lehman. In recent months, Mr. Fuld has contacted traders he felt may have been bad-mouthing his stock, according to someone familiar with the matter. Spreading rumors one knows to be false with the intention of manipulating a public company’s price is illegal.

Mr. Blankfein was taken aback by the inquiry from Mr. Schwartz, according to a person with knowledge of the discussion, even though the former Bear Stearns CEO was quick to add that he didn’t believe Mr. Blankfein would ever knowingly tolerate misconduct. Mr. Blankfein responded that he had no knowledge of any alleged manipulation, this person said, adding that he told Mr. Schwartz he would respond severely if he ever discovered such behavior by Goldman traders. Through a spokesman, the Goldman CEO says he doesn’t recall the conversation with Mr. Schwartz.

Yves here. Ooh, this already smells bad. Blanfein saying that “he had no knowledge” is as weak a statement as you can make, and not the right one either. A responsible CEO would say, “No, I’m not aware of that, and I certainly hope what you are hearing isn’t true. I’ll get on top of it and get back to you.” You don’t get told the truth in that scenario. No one is going to incur that sort of liability. But the objective of the CEO-to-CEO call is to get the traders, if they are playing games, stopped.

And it is a bald-faced lie that Blankfein doesn’t remember that conversation. If it were accurate, Blankfein would need to be removed his post immediately and treated for early onset Alzheimers.

Back to the Journal:

Goldman strongly denies wrongdoing. “We went out of our way to be supportive of Bear and were rigorous about conducting business as usual,” spokesman Lucas van Praag said. He said Goldman never altered its terms for doing business with Bear, even as lenders pulled their financing and some trading partners retreated during the troubled securities firm’s struggles in early March.

Van Praag presumably said more, but his protestation as reported isn’t fully responsive to the issue. Remember, Goldman was trading and selling subprime dreck when the house was net short. It’s possible one hand didn’t know what the other was doing, or playing out the scenario above, some aggressive traders were reined in when the higher-ups realized what they were up to.

Or this could be flat out misrepresentation, which Goldman has been prone to do in the past. Institutional Risk Analytics reported earlier this year that Goldman CFO David Viniar maintained “we have 100 percent confidence in Lehman Brothers,” when the firm was refusing to trade with Lehman and take clients out of Lehman exposures.

The Journal again:

The SEC investigation into Bear’s collapse partly involves trading documents, which have been reviewed by The Wall Street Journal. The documents indicate that in the weeks before March 16, when Bear Stearns reached its initial agreement to sell itself to J.P. Morgan, Goldman Sachs International, which encompasses the firm’s European trading units, was one of the most-active parties in trading securities known as credit default swaps that it had bought from or sold to Bear Stearns — more than most other Bear trading partners.

Goldman Sachs Asset Management, the money-management division, exited a number of swaps on behalf of clients, the documents show. Mr. van Praag said it would be unwise “to make assumptions about this information without understanding the underlying transactions.” He said Goldman’s international unit handles trades “around the world, on behalf of clients” as well as for Goldman itself.

A vague and not persuasive response. The trades even if executed by clients, could have been as a result of chatter with the Goldman sales force, and it could well have been them conveying accurate if damaging information, or something less savory. The news that was the beginning of the end for Bear was the apparently accurate information that certain European banks had stopped trading with Bear.

The Journal again:

The documents show that a handful of other prominent firms cut their exposures to Bear Stearns, including Chicago hedge fund Citadel Investment Group and New York hedge fund Paulson & Co., which is run by a Bear Stearns alumnus.

Dozens of similar securities known as interest rate swaps, originally bought from or sold to Bear Stearns, were exited by Fairfax International Investments Ltd., a unit of Citadel, and transferred to another internal unit, Citadel Equity Fund Ltd., on March 3. An additional 40 or so credit default swaps were exited separately by Citadel Equity Fund; those contracts were taken on by a variety of other brokers. About 40 trades were exited by the hedge fund Paulson, primarily during the week of March 10, when Bear Stearns nearly ran out of cash.

In recent weeks, SEC investigators have questioned Citadel about its moves to unload complex securities contracts it had either bought or sold from Bear Stearns in early March, according to people familiar with the matter. Citadel executives have explained the moves as having been part of a long-planned restructuring in which certain holdings were transferred from Fairfax to another internal entity, these people say.

Senior people at Paulson & Co., run by former Bear Stearns executive John Paulson, have told associates that the swaps bought or sold from Bear during the March 10 week, most of which were transferred to Goldman, were part of the firm’s overall effort to curb exposure to financial-services firms.

I could be proven wrong here, but it would seem to be hard to make a case against hedge funds seeking to exit or limit CDS exposures with a firm that the SEC had been monitoring for weeks. The exodus of hedge fund customer assets played a direct role in Bear’s collapse. If customers are running, trying to similarly escape risk contained in credit default contracts is a prudent move; you’d be remiss as an investment manager if you didn’t act.

Consider another fact: if you are trying to exit a position, the last thing you are going to do is talk it down.

So I’d assume the reason for the SEC’s inquisitiveness is to learn what these hedge funds heard about Bear, when, and from whom.

Update 3:00 AM: Goldman isn’t the only one being scrutinized. Per Bloomberg:

The U.S. Securities and Exchange Commission subpoenaed Wall Street’s biggest firms and hedge-fund advisers in a widening effort to crack down on suspected manipulation of Lehman Brothers Holdings Inc. and Bear Stearns Cos. shares, three people familiar with the situation said.

The SEC’s enforcement unit demanded information from banks including Deutsche Bank AG, Goldman Sachs Group Inc. and Merrill Lynch & Co., according to two of the people, who declined to be identified because the inquiries aren’t public. The Washington- based regulator is seeking trading records and e-mails, one of them said….

Most of the subpoenas were sent last week, and some recipients are being asked for information relating only to Lehman or Bear Stearns, a person familiar with them said.

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  1. Eurobear

    Does this mean we’ll see Quid Pro Quo for Fuld after his ‘statesman’ like public declaration in March of saying Lehman were not in need of Capital and were fully in control of the situation…taking the stock from low 30’s to high 40’s in two weeks and now when it all turns out to be lies, he is looking to blame those who called his BS by taking alternate positions.

    Stocks are being manipulated on a daily if not minute by minute basis, that is what the market is. If you think its a clean room environment with no spin or propaganda then you have never read a Qtrly report.

    If Lehman were not weak and vulnerable due to a weak balance sheet they would not be in the current position of a stock price in the low teens. Surely this is the market in action in its purest form.

    Dick Fuld, you chose your career and your employment. Stop whining like a child and get on with it.

  2. Richard Kline

    So Yves, my reaction to Blankfein’s and van Praag’s statements is _exactly_ the same as yours: “Them’s lawyer’s words!” Of course if asked ‘Did you shiv me?’ the answer is going to be, ahh, less then direct. But neither of these statements amount to “I don’t know what you’re talking about but I’ll knock a few heads together and get a straight answer,” either. I would be more inclined to see the action as GS traders talking clients out of BSC and LEH on alleged ‘proprietary information.’ Hard to catch ’em out, but just as fatal as screaming “Fire!” in a crowded trading floor.

  3. Dave Raithel

    I quit giving my attention to Ben Stein since he’s got himself engaged with that surreal “Darwinism implies the holocaust” nonsense, but for a time many months ago I amused myself following his “cloth coat” old school Republican commentaries about what Wall Street Traders were doing to the country. I seem to recall that he said the kind of behavior suspected here was the behavior of people at … well, Goldman Sachs in particular. I don’t mean he was refering to this particular episode, but that he claimed that some specific minority of people can and do manipulate markets, and that, in turn, is some (or much?) of what’s got us to here. I also recall that he was well upbraided for making such assertions, both here and at Felix Salmon’s blog…. Maybe I should just skip Ben’s bad philosophy of science and follow his lead on what he does know: How people with money often really make it…

  4. Alleygator

    If Goldman Sachs spread negative rumors about Bear Stearns, they did people a favor. Bear Stearns is bankrupt! Is prescience the same as manipulation?

    A lot of people have been spreading negative rumors about the financial sector, which has taken huge and ever-mounting losses and has little hope of recovery. Perhaps the SEC should investigate the RGE Monitor?

  5. Anonymous

    Come on, Yves. BSC was run by a pot-smoking, disengaged CEO who would rather play bridge than take the time to understand the “assets” on his balance sheet. What a joke that GS now is being held to the fire. And I dislike GS as much as anybody else.

    So the Fed ponies up $29B to backstop JPM’s purchase of BSC, yet we now contend with a witch-hunt for those rumor-mongering traders who were keen on spreading lies and deceit about the lovely paper on BSC’s books. Riiiight, that makes sense.

    Other than that I love your blog! So there. :)

  6. arplayer2k

    Thank you for a very interesting read. I am trying to find as much information on this matter for some kind of writing I will be doing later on this year. Either an article, or an expose on the matter. I find the events surrounding the recent BK of Lehman even more strange and screaming to be looked into.

    Do you have any further information on any possible Paulsen / GS connection to the collapse of Lehman? Whether it is naked short selling, manipulating stock pricing, insider trading, Paulsen & the stake of GS in all of this, I would be enlightened to look at it.

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