Debunking Goldman’s FCIC Testimony on AIG and Real Estate Shorts

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The Financial Crisis Inquiry Commission grilled Goldman chief operating officer Jonathan Cohn and CFO David Viniar this week, with today’s session focusing on AIG, and in particular, whether Goldman’s collateral calls were abusive and damaged the insurer.

Readers know that I have perilous little sympathy for Goldman. However, it is important that investigations focus on matters likely to hit pay dirt. And despite the sabre rattling at the New York Times and various websites on the matter of Goldman’s collateral marks, we think the ire is misguided, and this is one of the few cases where Goldman’s defense is sound. By contrast, the Commission missed other smoking guns.

To recap: Goldman, like other major dealers, had bought credit default swaps from AIG to hedge against some CDO exposures. The case against Goldman, in simple terms, is:

1. Goldman was overly aggressive in marking down the CDOs it had insured with AIG. Remember, the bigger the losses reported on the CDOs, the more cash AIG would have to pony up to Goldman

2. Goldman’s actions contributed to AIG’s demise.

Tom Adams, a former monoline executive, and I have performed considerable, in-depth examination of the AIG CDS on CDOs that were bought out by the Fed at par (the CDOs wound up in a vehicle called Maiden Lane III). We debunked this thesis, presented in a New York Times article, in February:

There is a wee problem with this account. Goldman’s marks were proven correct. With the benefit of hindsight, most players, particularly AIG, were in denial….

In late 2007 and early 2008, the monolines were facing similar issues to AIG….The rating agencies not long afterwards started downgrading AAA asset backed securities CDOs, verifying the “aggressive” position [monoline short Bill] Ackman and Goldman were taking.

The story also repeats the AIG/Fed flattering claim that these CDOs have “rebounded.” We’ve discussed long form in other posts that given the continued, serious deterioration in the underlying mortgages, this notion is simply not credible. The decay in credit quality across the portfolio is severe, and there has been no “rebound” in prices of severely distressed CDOs….

The jig was up for AIG by January of 2008 and the debate was only one of timing, not of what the actual outcome would be. Coincidentally, Ambac, FGIC and XLCA were downgraded in January 2008 directly as a result of high expected losses in their CDO portfolios. Any case against Goldman for aggressive marks against AIG by the SEC or other parties would have take the market environment into consideration. Across the board, CDOs were causing losses and downgrades for the people who insured them. It therefore makes plenty of sense that Goldman would be requesting more collateral for their exposure with AIG.

Yves here. So why were the other AIG counterparties more generous in their marks than Goldman? They held considerable CDO inventory. If they were the packager and had marked down their AIG positions, they’d have to provide similar prices to any customer who had bought a long position in the same CDO from them. And more important, they might be required by auditors or regulators to reduce the prices of similar CDOs, which would result in losses.

While this line of inquiry looks illadvised, others have been neglected. Why has no one questioned any of the banks of the absurdity of relying on guarantees from the monolines and AIG? Insurance on subprime was rife with what traders call “wrong way risk”: if you needed to collect on your insurance policy, the very events that would lead you to put in a claim would be likely to damage the guarantor. (Goldman would assert it did recognize the risk and had bought CDS on AIG, but that is also flawed: as we saw, an AIG default was a probable systemic event. Those contracts suffered from wrong way risk too). Put more bluntly, the idea that you could hedge subprime risk, particularly on the scale Goldman could likely have inferred was taking place, was almost certain to result in non-performance on the insurance. Did this occur to Goldman’s vaunted risk management operation? It might be revealing to follow that thread.

The Independent highlighted another missed opportunity:

As well as diffusing the spat with the FCIC, Mr Cohn provided new numbers that he said proved the bank did not “bet against its clients” in the market for mortgage derivatives as the credit crisis unfolded, as has been alleged…..

He said Goldman had reviewed all the mortgage securities and derivatives it had created since December 2006, following fraud charges levelled by US regulators earlier this year. It underwrote $47bn (£31bn) of residential mortgage-backed securities and $14.5bn of collateralised debt obligations, and took short positions on the products – which would rise in value if the products fell – of less than 1 per cent of their value.

“During the two years of the financial crisis. Goldman Sachs lost $1.2bn in its residential mortgage-related business,” Mr Cohn told the panel. “We did not ‘bet against our clients’, and the numbers underscore this fact.”

Yves here. This smacks of being the sort of artwork that is technically accurate in its detail, but misleading in the picture it presents.

The role of a financial firm is to facilitate commerce, by helping companies raise money, by allowing investors and savers to deploy funds. But they have lost sight of their role, and many of their activites at best have no social utility and at worst are extractive and destructive. For instance, short sellers have a useful role to correct the pricing of instruments that were created for legitimate uses. But no one until recently would have considered creating positions anew to serve the interests of short sellers was a good idea. It is pouring talent and capital into purely speculative activities. Bear Stearns, far from a vestal virgin, refused to work with subprime short John Paulson to create synthetic CDOs that would enable him to bet against subprime bonds cheaply.

Now let’s look at Cohn’s remarks. They aren’t just a little misleading, they are a lot misleading.

1. Cohn isolates Goldman’s shorting in 2007 and 2008. But Goldman’s Abacus program, which was designed for the firm to establish short positions, started in 2004. Goldman had insured 5 2004 and 2005 Abacus trades with AIG, along with 22 2004 and 2005 CDOs structured by Merrill, 9 2004 and 2005 CDOs structured by other banks, and 2 of its own 2005 cash CDOs. So the roughly $15 billion that Goldman made from AIG is expressly excluded from Cohn’s presentation.

2. The comparison is further misleading by comparing its activity over a period of time (underwriting over a two year period) versus its short position that was presumably measured at a single point in time

3. What does “short positions on the products” mean, exactly? Technically, if you take down the short sided of a synthetic CDO, you have short positions in tranches of subprime bonds and other assets. If you only kept the short side on particular RMBS in that CDO, not all, you are arguably not short the CDO, but short some bonds. Similarly, Goldman may also have used the ABX or the TABX indices to establish short positions, so it could be taking a view against the market without being short the specific transactions it was pedalling.

4. Pray tell, how was this “less than 1%” arrived at? The dollar amount of the short position was CERTAIN to be small because Goldman used credit default swaps. The cost of establishing a short position was only 100-140 basis points until spreads started blowing out at the end of 2006 (and they tightened again in March 2007). The proper comparison would be the notional amount insured versus the cash position.

The FCIC also bears other signs of being badly unprepared, witness this exchange reported in the Huffington Post (hat tip reader Francois T):

The panel created to investigate the roots of the financial crisis escalated the government’s assault on Goldman Sachs on Thursday, criticizing the Wall Street firm for failing to turn over basic documents and accusing it nearly lying under oath.

For a second consecutive day, the bipartisan Financial Crisis Inquiry Commission reiterated its request for additional data from Goldman, namely figures regarding the firm’s derivatives activities. And for a second consecutive day, Goldman’s top executives demurred.

“We generally do not have a derivatives business,” David Viniar, Goldman’s chief financial officer, told the panel Thursday under oath.

Goldman Sachs holds more than $49 trillion in notional derivatives contracts, making it the third-largest derivatives dealer among U.S. banks, according to first quarter figures from national bank regulator the Office of the Comptroller of the Currency. The commission has found that Goldman is a party to more than 1 million different derivatives contracts, Commissioner Brooksley Born disclosed Thursday.

“We don’t separate out derivatives and cash businesses,” Viniar clarified under questioning. The derivatives units are “integrated” into the firm’s cash businesses, making it difficult for the firm to isolate its derivatives data, he said.

In January, the panel asked Goldman chairman and chief executive Lloyd C. Blankfein for a breakdown of the firm’s revenues and profits from its derivatives activities. He said the firm would comply. The commission reiterated that request Wednesday and Thursday.

Viniar said the firm doesn’t “keep” records outlining its revenues from its derivatives dealing.

“I am very skeptical that you can’t measure these revenues and profits,” Born told Viniar. “I urge you to provide us with this information. It’s been about six months we’ve been asking for it… and it makes one wonder also why Goldman has the incentive or impetus not to reveal this information.

“You’re suggesting you don’t give it to your regulators. You don’t put it in your financial reports… so you don’t give it to the market… [or to your counterparties],” Born continued. “And you’re refusing to give it to us. I hope very much that we will see this very shortly.”

Viniar took exception to that last comment.

“Commissioner, again, we’re not refusing anything,” Goldman’s chief financial officer said. “We don’t have a separate derivatives business.”

Viniar then said that Goldman isn’t alone in not breaking out its derivatives-specific revenues and profits.

Born quickly shot back.

“They don’t,” Born, the nation’s former top derivatives regulator, conceded. “But some other firms have provided us with that data when we’ve asked for it, and Goldman Sachs hasn’t.”

Phil Angelides, the panel’s chairman, could barely contain his incredulousness.

“Are you telling me you have no system at your company that tracks revenues or assets of contracts, and liabilities and payments under contracts?” Angelides asked. “You have no management reports, no financial reports that track these contracts?”

“I’ve never seen one,” Viniar responded. Pressed further, Viniar added that the firm doesn’t track these things because it’s “not meaningful.”

Viniar again was asked to provide the data.

Yves here. I have to tell you, this is a ridiculous line of questioning. What the hell is the FCIC trying to get at? There is NO SUCH THING as a “derivatives business”. This in fact illustrates how financial services lobbyists have managed to muddy policy debates, to the advantage of the industry, by lumping a lot of disparate activities under the derivatives banner.

Goldman no doubt has commodities futures businesses, FX and currency swaps, and corporate and asset backed credit default swaps activities. I’m sure it also engages in stock and bond index and futures trading in a number of markets. I’m a big believer in knowing what questions you are trying to answer when drilling into data, and I see no utility in having an aggregate figure across these activities.

And some firms do manage the cash and derivatives businesses of related businesses on an integrated basis. In particular, it appears from the voluminous Goldman documents released by the Senate that Goldman ran its cash and synthetic CDO packaging business from the same business unit. This would not be unusual.

Now the flip side is Goldman clearly does have transaction level information and could no doubt provide analyses to address specific FCIC questions . But it isn’t clear at all what the FCIC wants. This reminds me of the sort of exercise I’d fight tooth and nail as an associate at McKinsey, because it was a complete waste of client time and money, that of simply taking whatever data the client had and cutting it various ways to see if anything emerged. It would provide a lot of charts for a progress review, and if it produced any insight, it was completely random and could have been arrived at much more cheaply with a more deliberate approach.

So as much as Goldman is a deserving target, the FCIC appears to be quite overmastered by them, in part due to insufficient preparation (a function of insufficient budget, staffing, and unrealistic deadlines) and lack of well honed interviewing skills on behalf of its commissioners.

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  1. s

    Yesterday, the FCIC said Goldman was marking their prices down which could lead to lower price in the market.

    While the other dealers had higher prices. can’t it be said that these dealers probably held on to these securities so they wanted the prices to be higher so they were inflating their prices.

    Isn’t there a 3rd party that collects information and gives prices for these illiquid securities? what are your thoughts.

    1. Yves Smith Post author

      No, an OTC market means only the parties to a trade know where the trade took place. And these CDOs were bespoke, so how one traded might not have any implications for the broader market. So you go to dealers for prices. And prices do vary a lot, since it depends on the dealer’s view of the market and how much inventory he is already carrying.

      And most dealers were massively in denial in 2007 and 2008. There was more visibility of pricing in the CLO market, and there were widespread reports of unrealistic and phony pricing by dealers (including them making teeny trades among themselves to justify high marks) to avoid showing losses. It isn’t much of a stretch to imagine that was happening in the subprime bond and CDO markets.

      We had this in an earlier post:

      One monoline insurer, faced with a material discrepancy between what the “market” was saying the CDO bonds were worth and what “management” was saying, had two outside firms to evaluate its portfolio. Both valuations differed in approach, but both confirmed material losses from the CDOs. This was in November 2007, before the AIG/Goldman dispute.

  2. charles

    ‘We were gratified to hear that Brooksley Born left Viniar with the obligation to provide a P&L split. The second this document is public we will assist the FCIC in decoding it: we are certain that for Goldman, which derives the bulk of its profits by being the monopolist in wide bid/ask-spread OTC products, most notably CDS, about 80% of trading revenue will come precisely from unregulated derivatives trading.’

    1. Yves Smith Post author

      With all due respect, tell me a market in which Goldman is a “monopolist”. I’m sure they make a lot of money in OTC derivatives. So? We and others have also said that CDS in particular, which is certain to be a very profitable product for them, isn’t socially productive in the overwhelming majority of cases. That argument, unfortunately, is not getting any traction as far as our regulatory reform charade is concerned.

      Merely showing Goldman made a lot of money in derivatives would not be surprising, and would not establish that Goldman behaved badly. I’m not sure what this analysis gets you, and there are a lot more questions that would be much more likely to hit pay dirt.

      1. sgt_doom

        ‘.. tell me a market in which Goldman is a “monopolist”.’

        Well, if all those reports on their activities as one of the two principal oil/energy speculators on ICE Futures (the other being Morgan Stanley), I’d qualify that as monopolistic, with the resultant price spikes in oil futures.

        1. Yves Smith Post author

          A principal is an end user. That is not germane here. Anyone with sufficient money can attempt to corner a market, witness the Hunt Brothers, who tried cornering the silver market in the early 1980s. That might be worth investigating, but “monopolist” refers to an overwhelming market share in a line of enterprise such that they purveyor can set artificially high prices for his product, usually by withholding supply.

          To do this in the Zero Hedge context, Goldman would, as a TRADING FIRM MAKING MARKETS, have such a dominant position that it was the market.

          So again, tell me where Goldman is a “monopolist”.

  3. Bruce Krasting

    What’s a derivative? A call option on a common stock? A put on a currency? A swap? An ETF? Or is is just CDS?

    It is everything. So when you ask Goldie to break it out and they say we don’t have that info I am sympathetic. Every trading desk around the world uses derivatives as part of it’s activities.

    It’s all derivatives all the time. That is what we created.

    1. sgt_doom

      You are spot on, Bruce, and Yves is spot off, her McKinsey biases are showing….

      1. sgt_doom

        And a good definition of a credit derivative: a purposeful deception. A liability recorded as an asset, from whence layer upon layer of further assets — which should be declared liabilities — are generated.

      2. Yves Smith Post author


        You need to read more closely. Bruce is agreeing with my position.

  4. Dwight Baker

    By Dwight Baker
    July 2, 2010

    I know more about the BP OIL BLOW OUT than any other thus I took the stand and will defend my views.

    I will stand on the rig floor of the ship to carry the overshot down put it in place and kill the damn blown out well. So what does that really mean PLACE YOUR BETS ON ME?

    Now what I know about Wall Street and all the ins and outs it would be less than a thimble full.

    Krugman I thought might be a good guy but he is not he is just another voice for the Predator Beast. Not very long ago I got acquainted with Naked Capitalism and Yves Smith by her words matching up to her deeds done daily. Now what did that mean to me I put my money confidence and trust in Yves Smith.

    Thus lets us all do the same thing PLACE YOUR BETS ON YVES SMITH.

  5. Francine McKenna

    We’re getting closer to the question and maybe the answer of why AIG held onto high marks when others were writing things down. Davidowitz said it yesterday to Aaron Task on Yahoo’s Techticker and I have been saying it on my site for years: The auditors allowed it so the executives could further an illusion for their own interests. Fraud occurred. The case of AIG/GS is particularly interesting because it is the same firm, PwC, on both sides. I’ve written about it extensively and you have linked to these stories. The crime of the century is that PwC is still AIG’s auditor, earning 205 million from the engagement last year.

    1. MichaelC

      Excellent point.

      The ‘derivatives’ profits breakdown is fairly pointless, but if it yields a disclosure of valuation on specific deals it will be worth something.

      To your point, I’d love to see GS’s mark for P/L reporting vs the counterparty’s mark for their P/L reporting on CDS X.

      Of course they are different. For those counterparties that share auditors, the obvious question is “How can you sign off on both entities when their marks are not the same?”

      Disagreements about collateral requirements are one thing, publicly reporting different values for the same deal is something else entirely. They can’t both be right, so someone has mistated their published financials. That shouldn’t be a trivial matter. A properly functioning SEC (or a PCAOB for that matter) should be concerned enough to at least be curious about those variances, which were pretty significant during that period.

      Speaking of the PCAOB, this week’s SC ruling confirming its constitutionality was significant. Aside from removing a threat to the SOX legislation, there were some interesting unintended consequences from the ruling that bear watching.

      Per the NYT article,

      “The Sarbanes-Oxley Act remains ‘fully operative as a law’ with these tenure restrictions excised,” wrote Chief Justice John G. Roberts Jr. in the majority opinion.

      While the decision’s immediate effect may be limited, it touched off a furious debate among the justices about the limits of executive power. Justice Stephen G. Breyer read his dissent from the bench and warned that the majority had imperiled the positions of hundreds and perhaps thousands of government officials.


      In his written dissent, joined by Justice John Paul Stevens, Ruth Bader Ginsburg and Sonia Sotomayor, Justice Breyer said that supervision of the accounting board “violates no separation-of-powers principle.” But it does, he said, call into question the constitutional status of many government officials.

      “Reading the criteria as stringently as possible,” he wrote, “I still see no way to avoid sweeping hundreds, perhaps thousands of high level government officials within the scope of the court’s holding, putting their job security and their administrative actions and decisions constitutionally at risk.”

      At least potentially among them, he said, were the leadership of the Nuclear Regulatory Commission, the Social Security Administration, administrative law judges and military officers.

      And this bit was interesting:

      The decision in the case, Free Enterprise Fund v. Public Company Accounting Oversight Board, No. 08-861, was a defeat for Solicitor General Elena Kagan, who argued it in December and whose confirmation hearings for a seat on the Supreme Court began on Monday.

  6. Francois T

    We knew from the get go, that the FCIC didn’t have enough time, staff and money to do an exhaustive job. High finance is complex and it takes time and resources to sort out such a mess. Even I knew that.

    Both political parties seemed to be very careful not to have a Pecora Commission 2.0 while being perceived at “doing something”. Above all else, do not interrupt the flow of campaign contributions from the FIRE sector. It would hurt too much.

    BTW, for those who would be wondering why no one in the lamestream media did question the FCIC setup, have a look at this study:

    To quote Glennzilla, this study:

    provides the latest evidence of how thoroughly devoted the American establishment media is to amplifying and serving (rather than checking) government officials.

    What Yves’s post make absolutely clear is the lack of expertise too.

    I had to wonder: why did any of the members of the FCIC accepted this assignment?

    Now I think I know: they did accept precisely because of their lack of expertise. Otherwise, they would have known it was not possible to do a good job under such conditions.

    1. albrt

      I think we can be confident that the people assigned to manage the FCIC have sufficient expertise to make sure the commission will not pursue any line of questioning that could lead to indictment of any member of the Bushbama treasury department.

    2. Paul Repstock

      The Harvard study was excellent. Plain, easy to understand, and verifiable.
      I’m certain that similar studies about other areas of reporting on National Activities, would show a similar discrepancy. And, I do not think this would be confined to the US. I believe there has been a similar move to coercion (or suggestion) reguarding anti government reporting in most western countries. With the expansion of government’s involvement into broader fields, so too has there been increased oportunity to benifit from government advertising which is the lifeblood of many media outlets.

    3. sgt_doom

      Dood, as a derivatives attorney for many years at powerhouse law firm, Arnold Porter, Brooksley Born has to have considerable knowledge in these matters.

      And she was certainly proven right to the nth degree on those reservations she brought forth as chair of the Commodity Futures Trading Commission.

      (Screw Summers, Rubin and Levitt)

      1. Yves Smith Post author


        There is no Dodd among the Angeledies Commission commissioners, and if you mean Chris Dodd, he was never a “derivatives attorney” and never worked at Arnold & Porter:

        Brooksley Born has no experience in OTC derivative that would give her any insight into banks’ accounting of their businesses. I suspect she does not have much expertise in OTC derivatives to begin with. She worked as an attorney prosecuting the Hunt Brothers silver market manipulation. That involved collusion and circumvention of exchange rules. She was not head of the CFTC for very long and the CFTC again deals only with commodities and futures exchanges.

        You don’t hire Arnold & Porter to paper deals. You hire it for lobbying and regulatory matters.

        My point of view comes from having worked on multiple projects for leading derivatives firms. And I did get my nose into their economics.

        1. Skippy

          I smell something in the air, could be deluded, amygdala loss, DAI thingy.

          Skippy…Cheeky…Very Cheeky.

  7. Jackrabbit

    “We don’t have a derivatives business”

    This is typical Wall Street obfuscation and obstruction. They know what the FCIC is getting at but they force the discussion to technicalities and minutia that most outside Wall Street don’t understand and that will make the general public yawn.

  8. Siggy

    There isn’t nor does there need to be a separate line item for derivatives.

    The inquiries posed to GS were naive in that they carried the implicit but not directly asked question, when and how did you commit fraud? The responses were remarkably executed dissembly in that the response was with respect to an unconnected point in time. That is the response created a hole in the time line.

    The questions I have are:

    Is it a fraud to execute a contract that you have no hope of honoring?

    If Cassano’s representation that he could have liquidated the CDS contracts for less than what the Government did, what were the terms of the contracts that made that assertion possible? And, why didn’t the Fed and the Treasury exploit those terms?

    This is very important, when was GS acting acting as agent on behalf of a client? Does GS deem it possible to trade with a party wherein that party is deemed to be either or both of client and customer?

    Much of the heat that GS is taking comes out of envy. What is missing is that there is a probable malfeasance here that merits inquiry. The probable malfeasance is with respect to the fact that Fed and the Treasury bailed out GS, Deutsche Bank, MS, etal at 100 cents on the dollar. Why, when across the market these contract were being negotiated out at some degree of discount?

    What happened to December when GS went from fiscal to calendar? Nice trick and once learned worthy of repetition.

    1. Yves Smith Post author

      With all due respect, people on the Hill have made pretty critical comments about Tavakoli to me. She has apparently contacted Congressmen with incredibly vague allegations, too non-specific to do anything about them (I’ve seen the text, they are correct in their reaction). Then when something is remotely related to her unsubstantiated, sweeping, vague allegations happens, she claims credit when she has nothing to take credit for.

  9. Marshall Auerback

    As you say, Yves, the irony is that it turned out that GS was right to demand the collateral in the sense that they knew the real value of the crap. So it was really the monolines who were delinquent and the other investment banks who took their “guarantees” seriously.

    Goldman’s mistake was that in creating this horribly toxic financial mess, they failed to realise that they would ultimately be impacted via the counter-party risk, given that their actions helped to take down the whole system. They were like the people taking out protection against radiation risk despite living near a nuclear power plant, whilst creating engineering designs for the plant that ultimately caused a meltdown.

    But I have no sympathy for AIG. Cassano is an idiot for not realising what GS could do to them. AIG walked into a trap of their own making. “Welcome to my parlour”. The whole plan of GS had a Machiavellian genius about it (much like Magnetar’s actions in the subprime and CDS markets, which you highlighted brilliantly in Econned). You create these toxic products. You get people like John Paulson to help you select the worst ones, and then you sell it and go to AIG to get the “insurance”. Knowing how bad they are, you in effect have inside information on their true value (i.e. something close to zero), you can legitimately demand collateral.

    But it’s even better than that: GS could use AIG as a bank since they could set the marks where they wanted them. Need a little extra cash? Just mark down the position and send a margin call. So, if you’re having difficulties in other areas, you have this “funding” mechanism in place from your friendly “banker” at AIG.

    I clearly went into the wrong business.

    1. readerOfTeaLeaves

      Great explanation of how GS used AIG as a ‘bank’; the questions about AIG’s role as a holding company (Panel 3 of Day 2) didn’t really make that clear.

      But doesn’t it link to Yves’ earlier question: “Why has no one questioned any of the banks on the absurdity of relying on guarantees from the monolines and AIG?”

      Doesn’t asking that question make it quite obvious that the ‘guarantees’ from AIG were completely bogus, that GS knew they were bogus, that knowing the ‘guarantees’ were bogus was part of GS’s strategy — in keeping with using AIG as a ‘bank’.

      Or am I missing something….?

  10. Francine McKenna

    @Skeptical Accountant

    It’s not about the PCAOB. If you looked at the inspections you’d find they cited these issues numerous times. PwC and others are getting away with this charade because of the rest of the federal government, before and after Bush. They’re afraid of the future. They have no plan and the audit firms send a lot of money to Congress. “Too few to fail” when it comes to the audit firms is hurting the investor as much as “too big to fail”.

    1. Paul Repstock

      Back to Yves questioning this line of investigation as weak and unproductive. Is it possible that the investigation was tailored to meet a need, of exonerating Goldman??? Or atleast establishing a public perception of doubt early in the game.

      I don’t begin to understand most of this. But when someone draws a mustache on a creature that walks like a duck and sqwaks like a duck. Then I wonder what is being obscured??

  11. craazyman

    Yves writes: ” . . . the idea that you could hedge subprime risk, particularly on the scale Goldman could likely have inferred was taking place, was almost certain to result in non-performance on the insurance. Did this occur to Goldman’s vaunted risk management operation?”

    Doug Noland over at the Prudent Bear was on this theme as early as 2004 and 2005 in his weekly column “Credit Bulletin” — and in a timely, informed and articulate way that precludes the “permabear is eventually right” label.

    There were others, many others.

    Their is no way those traders and Goldman as a firm could NOT have known the whole shithouse would blow. No way. They gamed the system, they gamed the taxpayer, and they won the lottery, which was gamed thanks to all their DC political “employees” — lobbyists and senators and congressmen and regulators and political big shots.

    Was it illegal? I don’t know. But it is so unethical, so immoral, so outrageous, that it sure as hell has poisoned any of my residual innoncent belief in the “American Way”. ha ha ha.

    What a joke. Maybe it’s moral progress. But I feel increasingly disconnected from being American and more and more connected with being part of a conscious tribe, composed of people with minds and souls and hearts in every land everywhere. Invisible, unconnected, but real in some strange and profound way.

    And you know, it really feels like something equally important has been lost, naive as that sounds, when I see those shit-heads rake in millions and millions of our money — our spirit-money, our soul-craft-money — on the way up and on the way down, lubricated by all their deceit and sophist complexity, enabled by a political system so corrupt that it can only help them and not stop them.

  12. sgt_doom

    When Kohlhagen, former AIG guy and former finance prof at UC/Berkeley (I sure hope that fired that twit) claims that credit default swaps had nothing to do with the meltdown, and it was all brought about by a 4% default or foreclosure in the housing market (that is, the global economy went meltdown due to a 4% default rate in America), as opposed to that estimate $140 trillion leverage written on those mortgages, the FCIC really have to deal with some serious twit tools.

    1. Otto

      Why is he wrong? If that 4% default caused bankers to no longer obtain short term funding(all collateral suspect)such that the shadow banking system collapsed and that collapse caused the crisis then he may be correct.
      The bailout i believe was for the stability of the insurance business in our economy which touches everyone’s life.
      I have repeated ad nauseum at this site we have to really understand what caused this crisis before we “hang em”. Careful analysis instead of rage and mob mentality is what is needed.

      1. Yves Smith Post author


        We’ve had had this conversation before, and I am losing patience. You refuse to read (or more actually, pay for), my book, which discusses these issues at LENGTH and provides a detailed, extensively documented indictment of the practices of the financial services industry in the industry. The bottom line is the rage is warranted, and it IS supported by “careful analysis”.

        But is it much easier for you to take pot shots than bother to read the output of those who have done their homework.

  13. MichaelC

    Regarding the flip side and what the FCIC is after:

    It’s true that the traders and the firm view cash product/derivatives as interchangable. But in fact they’re not.

    Viniar’s ‘Piss off Brooksley’ is classic trader/controller standoff when this argument comes up.

    Roughly translated it means “Everything is cash, that argument has been settled decades ago, despite constant controller/risk mgt grumbling that, well they’re not really the same after all”. But those tiresome risk and controllers guys (and , oh yeah, CFOs) know that’s not the case at all.

    That the CFO of Goldman would undermine his own role in front of the FCIC to avoid having this tedious argument in public is kind of stunning, and to her credit Ms. Born is having none of it.

    For example, this statement is simply not true, as any Controller who’s worked in the industry in the last 25 years can confirm:

    “You have no management reports, no financial reports that track these contracts?”

    “I’ve never seen one,” Viniar responded. Pressed further, Viniar added that the firm doesn’t track these things because it’s “not meaningful.”

    The firm does indeed track these things, every day, for every desk, in many cases for every trader. It may be fact that Viniar has never seen one, but he is responsible for ensuring that ‘these things’ do exist and are tracked, otherwise he’d never be able to sign the financials.

    It’s done daily by the Controllers and is a basic control embedded in the Ops and risk functions. Aggregating the data is a trivial task. While Viniar’s statement that he’s not provided with this level of reporting may be fact, as CFO he is clearly aware, and responsible for ensuring, that the information is produced regularly. His statement to the contrary is outrageous and Born should be applauded for standing her ground.

    And this howler:

    Viniar said the firm doesn’t “keep” records outlining its revenues from its derivatives dealing.

    Complete BS.

    And although this statement is correct:

    Viniar then said that Goldman isn’t alone in not breaking out its derivatives-specific revenues and profits.

    Of course no one PUBLISHES the breakout in their financials, since they’re not required to, but every firm publishes this information internally.

    And apparently others provided this information to the FCIC.

    So the line of questioning was aimed at Viniar’s and Goldman’s contempt for the commission not so much about the usefulness of the cash/derivatives breakout to the committee..

    1. Yves Smith Post author

      I never know whether Viniar is in his job because he simply has his teflon act down so well. This is the man who made that notorious “25 sigman events, several days in a row” remark.

      But the FCIC made it remarkably easy for him to duck. The “derivatives business” line allowed him to object, correctly. What businesses is the FCIC interested in and why?

      And while Goldman could no doubt reaggregate transaction-level data to answer questions about the profits of specific derivatives activities, the desks most germane the analysis of the crisis, the CDO desk (not certain of the exact name at Goldman) was doing both cash and synthetic trades on the same desk. Some of my clients also ran cash and derivatives trading in some markets on the same P&L. You can’t price exotic derivatives unless you know how you will hedge the risk, and once you book the risk, a lot of the hedging is dynamic, meaning it involves frequent adjusting of the hedges, which typically involves cash market trades. But some firms book a “theoretical profit” when the trade is entered into, then the trade is moved over and managed across the entire product complex (cash and derivatives positions) on a aggregated basis.

      Risk typically would have position info, not P&L info.

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