Goldman “Partner” Hedging Circumvents Intent of Pay Reforms

While I don’t want to overdo the criticism of Wall Street pay practices (on second thought, I am not sure such a thing is possible), I’d be remiss if I neglected to highlight a very good job of analysis and reporting by Eric Dash of the New York Times (and on this topic.

The Times has been picking apart a partnership that Goldman preserved after it went public in 1999 and is the vehicle that holds stock options and shares allotted to the top producers of the firm, a 475 member group. It already holds 11.2% of the firm and its share is likely to increase as options vest.

The report published tonight reveals that members of the Goldman partnership would routinely hedge their Goldman exposures. That defeats the purpose of share grants and equity linked pay. The recipients are supposed to have their fates rise and fall with those of the outside shareholders. After all, the idea is they have a vested interest to do what is right for public owners. If they can truncate their downside, it simply reinforces the the tendency to take undue risks since the management group received the bennies of price appreciation and can shed the loss of failures.

As the Times points out, for that very reason this practice is restricted at most corporations, but there is a key difference between Wall Street and Main Street: at most major companies, only very top executives get large grants of equity linked compensation. By contrast, at major capital markets firms, a large cohort of “producers” gets most of its pay in bonuses, and those bonuses are increasingly paid in stock, particularly in the wake of the crisis. But typically only the top executives, whose compensation is subject to greater disclosure, are forbidden from engaging in hedging:

Institutional hedging policies vary across Wall Street. Bank of America bans all employees from hedging their company stock, although management can make exceptions for “legitimate, nonspeculative purposes.”

But most big banks — including JPMorgan Chase, Morgan Stanley and Goldman Sachs — prohibit only their highest-ranking executives from such transactions. At Goldman, the chief executive, Lloyd C. Blankfein, and nine other top officers are not permitted to hedge their holdings.

Independent observers reacted negatively to this practice:

“Many of these hedging activities can create situations when the executives’ interests run counter to the company,” said Patrick McGurn, a governance adviser at RiskMetrics, which advises investors. “I think a lot of people feel this doesn’t have a place in a compensation structure.”….

“Wall Street is saying it is reforming itself by granting stock to executives and exposing them to the long-term risk of that investment,” said Lynn E. Turner, a former chief accountant at the Securities and Exchange Commission. “Hedging the risk can substantially undo that reform.”….

Regulators are taking a hard look at the practices. The Financial Stability Board, a group of global banking supervisors, wants firms to restrict employees from using the strategies. The Federal Reserve is examining hedging in its review of bank compensation.

And the Federal Deposit Insurance Corporation is expected to propose on Monday a new rule requiring big banks to defer at least 50 percent of annual stock and cash bonuses. That compensation would be released over the course of three years, so that executives don’t reap big, short-term windfalls even if their bets don’t pan out.

When Goldman was still a private firm, vice presidents (who are actually are much like the producers in modern financial firms, in that they do not suffer the liability of loss) had a substantial portion of their annual bonus deferred one year and invested by the firm. The argument was that it helped smooth compensation in an inherently volatile business. I always suspected that reasons that served the partners were actually the driver: that it would be harder for the very top VPs to quit with a large chunk of dough tied up at the firm; that it would give the partners some ready recourse if they found someone had engaged in shady behavior.

It isn’t clear that a high level of share ownership really does lead to more prudent, long-term-value-maximizing behavior. Both Bear Stearns and Lehman had very high employee shareholdings. But consider what happened with the top brass at both concerns: even though their wealth took a large hit when their firms failed, they were still handsomely well off by any real world standard. But it seems pretty clear that letting firms pretend that they are improving incentives and then allowing them to be gutted behind the scenes is not a wise idea.

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  1. Deus-DJ


    While I’m inclined to agree with you, I would have to put this into the “not such a big deal” category. The reason is that it is completely obvious that these people care about the state of the company in their willingness to keep the shares. They merely wanted to shield themselves from volatility.

    If on the other hand they had sold their shares AND had shorted the stock, AND shorted(ie “hedged”) against any stock options that hadn’t vested yet, while still working for the company, then uh…yeah, that kind of action would be grounds for retribution, and should be banned.

    Just my opinion, is probably wrong but there you go.

    1. Yves Smith Post author


      You are not thinking enough moves ahead in the regulatory chess game.

      First, these banks are TBTF and very heavily subsidized in other ways. Let us not forget this.

      That means any discussion over pay should have as its starting point: “Tell me exactly why you deserve to be paid more than government employees.” Look at the Haldane paper, “The $100 Billion Question”. The cost of financial crises on the economy is so great that the industry can’t even being to pay back the costs. That says it is massively and inefficiently extractive.

      So that takes us to second, that the logical step would be to require producer types to have downside exposure. Serious liability would be best, but heavens no, the people who run the machinery would all abandon their posts if we tried that! So the next best thing would be to have bonus pay deferred enough years to be sure undue risks had not been taken, like five years in arrears, the time frame Warren Buffett uses in his reinsurance business.

      But no, we can’t have that either. Equity linked pay is seen as a legitimate alternative, even though any objective look at what has happened in Corporate America would show the reverse.

      So we are already starting with a very badly watered down alternative to what needs to happen to get the system on a sound footing. And then this move makes the idea of alignment pretty meaningless.

      Put it more simply, why should employees who get equity linked pay have the right to smooth out “volatility”? The objective is to have their interest aligned with shareholders. And don’t tell me shareholders can hedge, many don’t and they don’t have their hands on the dials of the profit centers. Letting producers hedge volatility leads them to be indifferent to business gambles with serious downside. That’s the concern, that they can cut off the adverse section of the risk distribution, which encourages them to put on more risk. This is just another way to construct a “heads I win, tails you lose” set of outcomes, which is what these pay arrangements were supposed to fix.

      And this vehicle is a partnership. I suspect it has been structured to achieve some sort of tax deferral. The article also makes it sound, like the old Goldman partnership, that partners that went limited had a very long time frame for withdrawing their capital. So you are assuming the shares held in the partnership on behalf of the partners are tradeable, when I would bet they aren’t per the partnership agreement.

      1. Deus-DJ


        The issue of deferred bonus pay, as legitimate as it has shown itself to be, is a separate issue from what we are discussing atm. “Fairness”(with respect to Wall Street pay compared to others, as well as Wall Street’s extractive nature) does not apply to this discussion, because we are not discussing this merely to agree with ourselves. Each issue has its own nuances that is only discussed within its own framework.

        The point of emphasis is not at all how their current pay structure works. It is to say, that if such and such person already owns the stock, does he have the right to hedge against it? We are both familiar with the eggs in one basket folly that ends up hurting the person working for the company. It is no doubt that these executives had the same thing on their mind. The point is that I simply don’t agree that hedging against risk you already own, as opposed to you will eventually own, is relevant to the discussion. The heads I win, tails you lose argument only works if they did not keep their stock or had no stock to begin with. Again, its nuance but I think it’s separate enough to hold its own water. Politically speaking its probably foolish for me to be arguing with you on such a narrow thing, but for the sake of argument its probably worth saying.

      2. jpe

        Two things: there’s no separate partnership; when the Times talks about “the partnership,” they’re just talking about Goldman. They keep referring to it as a partnership because the corporate structure that’s designed to mirror a partnership structure is the subject of the story (“The partnership system is a vestige of Goldman’s days as a private firm.”).

        Second: as a general matter, partnerships don’t achieve tax deferral. One achieves deferral through use of corporations (“blocker corporations”).

        1. jpe

          My 2011 new years resolution was to a little more modest on the internets, so let me add a caveat there: I don’t *think* the article is discussing a tax-deferring entity-within-an-entity. Maybe there is one, but I don’t see any evidence for it in the article.

      3. Cedric Regula

        Well, putting all good sense aside and thinking of practical applications for this info, should we be watching for very large naked short positions as a financial stress indicator that we are about to have another “black swan” financial crisis?

        Good point about about the need for limiting volatility in deferred compensation plans. Providing liquidity in your long term deferred compensation is a concept not addressed much in non-financial industry compensation plans. Could catch on like wildfire, especially if it’s tax advantaged in some way.

    2. jpe

      It seems that all this faux-rage is over selling covered calls. That’s not much of a downside hedge, though, so it’s a little silly that the Times would present it as such.

      1. jpe

        Looks like I read too quickly and missed the other option transactions. That stuff (short strangles?) is way above my pay grade.

      2. Teri Buhl

        Yevs – I had to laugh when I read the lede on Eric Dash story. It read like the ultra left wing Center for Responsible Lending wrote it for him or worse Maxine Waters.

        Eric knows he also left out the fact that the Goldman executives can only hedge on unrestriced shares and that a lot of their pay is in restricted shares. I see no reason why if you’ve earned your pay you shouldn’t be able to protect it via buying call or put options. You don’t make a lot off those options and actually could be wasting money if the stock doesn’t move in the direction of your bet. That story was nothing more than the NY Times new Sunday editor looking for a business trend story to pretend for its main street reader they are watch dog reporters.

          1. DA

            Buffet is a terrible hypocrite with respect to derivatives – yet he has convinced the American public otherwise with a fantastic PR machine having him drive around in a simulated wood station wagon slurping diet cherry coke.

            BRK makes a lot of money from owning insurance companies. These businesses are the business of selling options. Then the holding company comes into the market and sells even more options: long dated equity index puts, credit default swaps, etc. Look back at his letters. At one point, he says with respect to his long dated derivative risk at the holding company level:

            “Charlie and I aren’t worried about, and I hope you aren’t either”

            I’d like to see some hedge funds try that one in a monthly investor letter.

            I have no clue what he does with his personal compensation, but at the holding company level they use derivs TO GET BIGGER!

            Then he has the nerve to run around calling derivs financial weapons of mass destruction when he is one of the largest players in the long dated option space. What a joke.

            The man is a great investor, no doubt. But he’s a total deriv hypocrite.

        1. Skippy

          Please define *if you’ve earned your pay*, as in[?] I saved my collective bacon, at the cost of the worlds financial stability.

          Skippy…destruction as a premium…FMDD&B!

  2. Allen C

    I suspect no negative consequences even if hedging was disallowed. Just another shitty deal. I wonder how much Goldman is skimming off the POMOs. I suspect that they all have cushy bunkers to hide out during the big crisis. Perhaps Bubba will have his day.

  3. Paul Tioxon

    It seems that minutia counter factual argumentation and modal logic is in the service of legal mystification. Putting these shares totally beyond the reach of producers, in a blind, irrevocable trust with a minimum statutory time requirement, the 5 year mark sounds good for the sake of example, might begin to address the issue. The overwhelming factor is not this simple proposition by itself, abstracted from the entire industry, so that it is only a small, isolated topic. It is the continual push back, in every single instance, of any regulatory initiative in the face of galatically large political power, immeasurable wealth and a bottomless pit of privilege fueled by the single minded purpose to endlessly accumulate capital. The deck is already so stacked in favor of executive compensation, the rights of capital as property are so firmly fused to the economic structure of our society, that this token gesture to begin to reduce moral hazard has not only produced a work around by those intended for some regulation, but even the mealy mouthed mindset of “middle class propriety in all things” crops up to diffuse the alarm to yet more rear guard actions to set up business as usual by the banking cartels. Is it really possible to see the mote in God’s eye and miss the total annihilation going on all around you? Meet Mr. “I only pay attention to the excruciatingly irrelevant matters”, “so I don’t I have to think about the blood running down the sewer”.

    1. Deus-DJ

      “It seems that minutia counter factual argumentation and modal logic is in the service of legal mystification. Putting these shares totally beyond the reach of producers, in a blind, irrevocable trust with a minimum statutory time requirement, the 5 year mark sounds good for the sake of example, might begin to address the issue.”

      You are confusing shares they already own with executive compensation.

      As to the rest of what you said, I like to have arguments be logically consistent. In my humble opinion, if you were to bring up one issue that allows itself pushback, like the argument I was having above with Yves, then it invites the bastards in society to push back against everything else as well. If you leave them no wiggle room you can attack them vociferously and they can do nothing but hate you. It will suffice to say that this is my method of political engagement and a testament to the type of pragmatism I hold. In other words, I am not ignoring the blood.

      1. Yves Smith Post author


        I think you are missing the point. The “shares they own” are the result in shifting the mix of their bonus from all cash to shares WITH THE EXPRESS PURPOSE OF PUTTING THEIR EGGS IN ONE BASKET SO THEY’D TAKE BETTER CARE OF SAID BASKET.

        And you are forgetting how Wall Street firms work. Producers are paid on a P&L basis. They run mini franchises. They have more autonomy than comparable level staff in industrial companies. The MDs in a Wall Street firm are comparable in terms of their latitude and clout, to C level executives in most companies. I have a long form discussion of the power of “producers” and how they hold management hostage in ECONNED. So this “executive compensation” distinction you are trying to draw is wrongheaded. Those 475 top guys at Goldman are executives save for SEC comp reporting purposes.

        This is in no way comparable to, say, employees of Enron who were encouraged to put their 401 (k)s in company stock (or worse, those in defined benefit plans that were severely overweight company stock meaning the employee had no say in the matter).

        The SOLE reason for this move is to change the behavior of key actors in the company. Letting them hedge vitiates the incentive. It undermines the express purpose of the exercise.

        I find it hard to understand why you refuse to see this. The other arguments, which are basically about fairness to the people involved, are irrelevant. The duties that come with their role trump (or should trump) those other considerations.

        1. Deus-DJ

          When I mentioned “executive compensation” I was referring to cash or stock they are to receive, as opposed to stock they already have. I was not suggesting that these 475 individuals were not executives.

          Why they did put it all into one basket was an issue I thought about after the fact, but I thought about it more in terms of them having a say on the direction of Goldman. That doesn’t really make sense though given the inordinate power they already have.

          Still though, I have to disagree. There does come a point where these producers feel they have too much exposure. They are just a bunch of (rich) individuals who want to preserve what they have. Sometimes the actions you take cannot preserve the stock price and are out of your control. Let’s take for example 2008. Goldman was actually relatively well run(ignoring all the shady things they did to get there) compared to the other investment banks. They were however exposed to a run that would have destroyed them. That is out of these producers’ control. What if nobody had came in to save Goldman? Well these guys would have lost almost everything. Now you can argue that they probably should have, etc given how this class of people generally prey on the entire rung of society below them, but that is besides the point.

          Bottom line is I stand by the statements I made above. I do not believe hedging against shares you already own “vitiates” the incentive to do as the company does. The facts also do not bear out your argument; see quarterly results from 2009-present(and I’m aware this is also partly because there is nobody left to compete with them on the trading arena(ie larger spreads to play with)).

          I also just read DA’s comments: this is in line with what I’ve been saying. Not a big deal.

          1. Deus-DJ

            Oops, just realized the crucial error I made in pointing out Goldman’s SHORT TERM quarterly results. I guess we’ll find out in the next few years whether they made the same types of bets that got other banks into insolvency.

  4. IF

    At a semiconductor company (high stock volatility) I have worked for the rules for *all* employees after a small insider scandal a few years ago (2 or 3 low level employees involved) were pretty simple. No trading in options (=hedging) and even stock was only allowed to be traded by employees less than half of the year. Long periods were blacked out and blackouts could come completely unexpected for long periods (when shit hit the fan). A lot of people I know lost fortunes during such blackouts. I don’t know how other tech companies do it, but it seems the banks are getting off surprisingly softly again. I don’t see how anybody could defend the state Yves is describing.

  5. vlade

    I believe this is not an uncommon practice, and Times is a wee bit behind the curve. Reading European newspapers would help :) (maybe that’s why now 50% of Guardian’s online readership is in US?)

    The new european guidelines are trying to explicitly address this, and would make hedging of bonuses illegal. See for example:

    (10:58 section talks about this as (paraphrased)
    “individual cannot enter into any third party contract that negates the impact of any bonus intended to align risk to performance”)

    Now, whether the guidelines get implemented and in what form/shape, and what impact it would have, is an entirely different question.

  6. Conscience of a conservative

    When you are dealing with a class of people whose sole motivation is making a buck none of this should be surprising.
    Add this anecdotal story to the huge list of reasons that the gov’t should not be in the business of regulating compensation.

    A better idea here would be making the board of directors more responsive to shareholders in making sure compensation guidelines are in line with shareholder value. When I read the news stories about the percentage of revenue at Wall Street firms ear-marked for comp I have to scratch my head and wonder how any banking firm is ever able to build long term value.

    But wait, after seeing Citicorp’s and Bank America’s stock price action these past two decades, I know I can stop wondering.

  7. DA

    The article does a lot of hand waiving about “shares”, but lets be clear:

    1) RESTRICTED shares are those that have not yet vested or been delivered to the employees’ brokerage account. “Hedging” (we’ll get to that in a minute), of these shares is forbidden at GS and every bank I’ve ever heard of. You must retain economic exposure to the shares during this period, usually 3 years vesting in 6 month intervals. Which means you cannot sell stock short against, buy puts, sell calls, or do anything that creates a short economic exposure vs your unvested long exposure.

    2) VESTED shares are those which you now own because they’ve gone through the restriction period. At this point, you can sell them because you own them outright. Some firms don’t allow you to hedge these either. Some do. BUT WHO CARES? You’ve already held them through the vesting period – is retaining them but doing some trade to reduce the range of possible outcomes any worse than just selling them? I can tell you from a market impact point of view the answer is categorically no. The market impact of trading some collars may be around .7 delta (1 collar = 70% as sensitive as a share of stock), the market impact of selling shares is 1 delta. So they already vested and they are doing something that creates less downward pressure on the stock than simply selling it, which they would be permitted.

    Being outraged about this is just misinformed.

    Finally, its interesting only one of these transactions listed is really a “hedge”. Selling calls with strikes higher than the current stock price allows the investor to collect premium from the options and if the stock goes higher, you are obligated to sell the shares at the strike price. Selling strangles does the same as the calls, but now you are short a put as well and you must buy shares at the strike if the market falls. These are both yield generation strategies, not “hedges”.

    A “hedge” would be buying puts – a trade that increases in value as the stock falls. The collar described here does this while selling calls to help finance the put.

    Options are complex with nonlinear payouts. The NYT might consider talking to someone who knows about them prior to writing about them.

    1. Deus-DJ

      I was thinking the same thing with regards to their listing as some of those strategies as a “hedge”. They actually contradict themselves by pointing out how one executive was betting on Goldman’s stock going from 110-160…that isn’t hedging, that’s gambling.

      1. bmeisen

        Your restricted/vested point is well taken. From the individual bank executive’s standpoint, yield generation strategies like these seem to make sense. But from the external shareholder’s standpoint, from the ownership society standpoint, they raise questions.

        If we’re supposed to prepare for retirement by putting savings into the stock market, if we’re supposed to assume that what happened between 1945 and 2001 will happen again, if we’re supposed to be cagey investors and do some poor-man’s hedging by diversifying our investments, and if we’re supposed to get up and get back into the market when fate deals the market (and our nesteggs) a savage blow, then shouldn’t “we” really be all of us, especially those who manage one of the two industries that apparently can not be allowed to fail?

    2. nivedita

      Note (as you allude to) there is also a distinction between vested, delivered and restricted shares. Equity compensation generally vests over a multiple-year period. You can lose unvested shares if you leave the firm, for example.

      Once vested, you will usually receive the shares even if you leave, unless some term of the agreement is violated (maybe a non-compete clause or some fraud comes to light), or the firm just goes bankrupt (this is an unsecured promise, not actual stock). There is a further period before the shares are actually delivered to the employee, and a period of time beyond the delivery where a significant percentage (~50% usually) of shares are still subject to restrictions (no sales/hedging/pledging etc permitted). This applies generally to all employees receiving equity compensation.

      The partners are further restricted in that a certain portion (25-30%) of the equity compensation is restricted indefinitely (at least as long as they continue to be partners). The senior officers are restricted in this way on a higher proportion of their equity compensation.

  8. richfam

    Bear Stearns – perfect example of where pay needed no regulation. Not to big to fail, no depositors money, not a bailout in the truest sense except that JPM got a sweethart deal. And even though some people made plenty working there over the years most lost their jobs and their wealth. Think Drexel, Kidder and the rest..

    If someone working honestly (important) and a brokerage firm makes alot of dough this is not bad. You’ll never stop the desire for people to want to make money in finance just keep them away from the huge bank balance sheets and the things that create systemic risk.

    Maybe some prts of their business had systemic risk – counterparty risk and prime broker – but that was being cleaned up real fast in the days and weeks leading up to the sale to JPM. Diferent topic though.

  9. Conscience of a conservative

    I agree with the poster who raises the distinction between the restricted(vesting period) and the time after shares are fully vested. I see nothing wrong with hedging AFTER the shares are vested. If there’s an discussion to be had, it might be that the vesting period is too short. No allowing vested shares to hedge is a huge slippery slope since you already have the practice of borrowing against vested stock. That said, I was surprised there was no discussion on some of the more obscure strategies which allows stock holders(employees) to agree to a future sale of their stock while retaining full voting issues.

  10. john bougearel

    “First, these banks are TBTF and very heavily subsidized in other ways. Let us not forget this” ~ Hits the nail on the head.

    TBTF is just another word / euphemism for being a De facto GSE. (as an aside the financial industry is pushing to have that implicit guarantee become explicit.

    So Yves raises the only relevant issue regarding compensation of TBTF entities: “any discussion over pay should have as its starting point: “Tell me exactly why you deserve to be paid more than government employees.”

    The point everyone is missing is that these TBTF’s / GSE’s continue to be paid “as if” they are viable private enterprises within the structure of capitalist society.

    Nothing could be further from the truth. The business models of every single TBTF and GSE failed in 2008. The only thing keeping anyone of them alive is the US govt allowing them to suckle on the taxpayers’ teat.

    Rebranding these institutions as TBTF means they are public institutions. The entire capital structure of these firms should be wiped out. These firms should have no shares, no bonds for investors inside or out of these companies. Period. Then there would be no conflict of interest discussion about there deferred compensation programs.

    If GS or any other TBTF of GSE wants compensate their executives in any manner that entails ownership interest, they should take their company private and not be a publicly traded firm in any shape or matter whatsoever.

    As GSEs FNM and FRE never should have been allowed to have publicly traded debt and equity. Nor should TBTFs be allowed to have a capital structure composed of debt and equity to which executives tie their compensation.

    The definition of a TBTF is a government-owned enterprise engaged in privatizing profits (P) and socializing losses (L)

    where P is paid for through a myriad of taxpayer subsidies
    and where L is paid for through taxpayer bailouts.

    For the gov’t to compensate incompetent TBTF executives for both P and L is insanity.

    And we wonder how Rome fell?

    A long, long time ago…
    I can still remember
    How that music used to make me smile.

    But february made me shiver
    With every paper I’d deliver.
    Bad news on the doorstep;
    I couldn’t take one more step.

    something touched me deep inside
    The day the music died.

    Do you recall what was revealed
    The day the music died?

    My hands were clenched in fists of rage.
    No angel born in hell
    Could break that satan’s spell.
    And as the flames climbed high into the night
    To light the sacrificial rite,
    I saw satan laughing with delight
    The day the music died

    He was singing,
    “bye-bye, miss american pie.”
    Drove my chevy to the levee,
    But the levee was dry.
    Them good old boys were drinkin’ whiskey and rye
    And singin’, “this’ll be the day that I die.
    “this’ll be the day that I die.”

    I met a girl who sang the blues
    And I asked her for some happy news,
    But she just smiled and turned away.

    And in the streets: the children screamed,

    The church bells all were broken.
    And the three men I admire most:
    The father, son, and the holy ghost,
    They caught the last train for the coast
    The day the music died.

      1. john bougearel

        Whether insiders of capitalist firms should or shouldn’t be allowed to hedge their downside risk exposures isn’t what the “hue and cry” should be directed towards.

        TBTF entities have by
        The hue and cry should be to point to failure of the government to properly expropriate and nationalize these TBTF entities in the first place.

        To the extent that the government favors expropriating from its taxpayers for the sake of the TBTFs, God can no longer be said to “approve of” or “favoring the undertakings of the U.S. Government, and the U.S. Treasury” on the back of its currency

      2. Yves Smith Post author

        Look, I still disagree. As I said, this abuse is at the tail end of a set of steps as to how producer pay practices deviate from what would be optimal. Yes, there is stuff to get more upset about, that I will concede.

        But you are still missing the point re this one. I’m still pretty gobsmacked that readers keep saying “Oh, hedging their shares once they are not restricted is OK.” Then why is the firm making them hold only GS shares to begin with? You might as well let them diversify, sell the shares, and hold an index.

        Clearly there is an intent to preserve some elements the old partnership idea, of having the producers significantly at risk re the fate of the firm. I worked on Wall Street when the firms were partnerships, and it was the right model for a high risk, leverage-using, high profit potential business. It focused the minds of the partners and was Darwinian. Firms that were no good at risk management died.

        And you forget that parters had pretty much ALL their wealth tied up in Goldman. In the early 1980s, a top VP (on the cusp of making partner) would make $600,000 to $700,000. When they made partner, their cash take FELL to $100,000 (they got interest on their partnership stake but also had to borrow to fund it, so their income was the net of the two). The fall in current income was by design, to keep the new parters working hard and humble. You had to get your % of the partnership to a higher level to make a decent cash income.

        And when you “went limited” the withdrawal of capital was very attenuated, it took place over ten years. So you also had very big incentives to make sure the people brought into the partnership were conservative and would not blow your money after you were no longer in a position to have any say over how the firm was being run.

        The old line at Goldman was that partners lived poor and died rich.

        So the idea that vested shares are the employee’s free and clear is how it works at other firms (and I’m not keen re that either, per John Dizard, it can take 7 to 10 years for some risky strategies/businesses to blow up and leave huge losses), but the partnership structure is clearly intended to put further restrictions on Goldman producers, how and why is not exactly clear, but a structure like this is also used to argue against the need for alternative mechanisms, namely clawbacks.

        As I noted, there may be tax deferral here (this may circumvent recognizing the gain when the shares vest or when the options are cashed in, since the recognition event might be the sale of the partnership interest back to the other partners… types encouraged to opine). But the BIG issue is that there has been pressure for firms to implement clawbacks, which are a more effective way to make sure producers are not paid out on what are eventually found to be fictive profits, and the ability to hedge vitiates the incentives.

        1. nivedita

          Yves, the firm is NOT making them hold only GS stock. Where do you get that impression? The article clearly states that to the extend they are required to hold the stock, they are not permitted to hedge either.

          1. nivedita

            And at least the spokesman claims the awards are in fact subject to clawbacks, and the reporter doesn’t appear to disagree with that.

          2. Yves Smith Post author

            Was anything clawed back as the result of the global financial crisis? I guarantee not. “Subject to clawbacks” is a nice concept and a way to blow off insufficiently aggressive reporters. Maybe if a Goldman partner found a way to divert funds to a private account or made a Jerome Kerviel level trading loss, you’d see a clawback. But you already have the obvious case where pay should have been clawed back. And if it had been, I guarantee you Lloyd Blankfein would have made mentioned it, loudly, in every hearing he was required to attend.

          3. Yves Smith Post author

            I should have put this higher in the thread, this is the part of the article that has been ignored:

            To ensure they maintain a significant stake, the partnership typically asks members to hold on to 25 percent of the shares they receive after joining the group. The figure rises to 75 percent for senior officers. A three-person committee that represents the partnership shareholders (its members are Mr. Blankfein, Mr. Cohn and the chief financial officer, David A. Viniar) can decide to waive the limits for partners in certain circumstances.

            Goldman is a very conformist place. In addition, even though the language in the article is “ask”, the fact that you need to get approval suggests the restrictions are contractual in nature.

        2. john bougearel

          “Clearly there is an intent to preserve some elements the old partnership idea, of having the producers significantly at risk re the fate of the firm. I worked on Wall Street when the firms were partnerships, and it was the right model for a high risk, leverage-using, high profit potential business.”

          The structure of the old and staid partnership model for high risk businesses was and still is the appropriate models for investment banks and the like.

          But it has become impossible to return to, let alone “preserve elements of” the old partnership model once these entities went public, dismantled the chinese walls erected in 1933 between investment and commercial banks, then embarked upon self-regulation and strategies that cannibalized their own industry and failed.

          They are all zombies now, such that a new TBTF status had to be conferred upon them in 2008.

          The new TBTF zombie models should not be allowed to commingle with the partnership models of yesteryear.

          The TBTF zombie model should not be allowed by the govt to preserve the compensation structures of the old partnership model period.

          Of course the zombies won that battle to preserve the compensation structures of the old partnership a few years back. That was what they fought tooth and nail for in 2008-2010, and which the US Treasury and gov’t ought never had conceded. But the zombies, if you recall, had the ex CEO of Goldman Sachs Hank Paulson in their court working as the conflicted Secretary of the US Treasury. It was Hank, on behalf of all zombies, who with a bazooka in his pocket lobbied lawmakers hardest to bail out the financial industry, including Goldman Sachs.

          Under this new regime the back of the US currency out not read God but Goldman Sachs “approves of” or “favors” the undertakings of the U.S. Government, and the U.S. Treasury.”

          After all, Lloyd Blankfein and his ilk are God’s henchman, they are just doing God’s work. So, why shouldn’t they be able to tarry on privatizing the subsidized profits, hedging their downside risks when and as they come up, and ultimately fall back upon the taxpayer socialize the losses on the really big screw-ups as and when those occur too.

          Circumventing the intent of the so-called compensation reforms has been just another variant of the “heads I win-tails you lose game” within the financial industry

        3. DA


          re: “So the idea that vested shares are the employee’s free and clear is how it works at…”

          Let me be clearer: You are granted X restricted shares and over 3 years they vest. This amounts to 70%+ of your compensation. Once they vest, you may sell them.

          Its illogical to forbid hedging them when you have the option to sell them! Once I sell them, I have ZERO exposure to the stock. If I hedge them, maybe I have 1/3 or 1/4th as much if I trade a collar, but I still have some exposure.

          You would seriously have people eliminate all of their exposure rather than hedge? I realize the exception for the most senior folks required to hold onto 25%, but these are most certainly not your line level “producers” – these are folks that walk around with coffee and a blackberry spending all day in meetings.

          What would be enough time for you? What circumstances would be acceptable? If you’ve worn the economic exposure for up to 3 years of the stock, isn’t that enough?

          Listen, I’m a big fan of this blog, especially your coverage of the mortgage documentation, robo signing, etc. You were the only one in nearly any form of media to get that one right. But don’t descend into blind bank hatred because it just looks like the you are no smarter than the rest of the people that don’t carefully understand nuance. Don’t descend into pejorative jealousy.

          Bottom line: once vested, you’ve worn the exposure for up to three years. Its earned at this point. You can sell it. You should also be able to hedge, or speculate by selling strangles, spreads, for iron butterflies- doesn’t matter.

  11. nivedita

    Agreed with DJ. And this information is in the NEXT paragraph after the one quoted. More evidence of the decline of this blog, not much of anything else.

    But most big banks — including JPMorgan Chase, Morgan Stanley and Goldman Sachs — prohibit only their highest-ranking executives from such transactions. At Goldman, the chief executive, Lloyd C. Blankfein, and nine other top officers are not permitted to hedge their holdings, Mr. Duvally said.

    The rest of Goldman’s employees can hedge shares they own outright. But they can’t make such moves with restricted stock. The partners, some of whom shape the firm’s strategy as heads of major business units, are required to hold 25 percent of their equity awards and are not allowed to hedge that portion of their holdings.

    1. Deus-DJ

      Calling it a decline of this blog is harsh no matter how you cut it. The fact is that Yves writes more than anyone else out there, and on the specifics that many others skip. There may be a few posts where we disagree, but ask yourself who out there is better. That should be that.

    2. Yves Smith Post author

      You’ve failed to read this against the other NYT article on the Goldman partnership. The 25% holding is the minimum holding. It rises to 75% for senior partners. As the article reads, only the 25% portion is required not to be hedged, the rest can be. And that seems to be consistent with the reports of hedging in the article, as well as the regulatory scrutiny. If this were straightforward, there’d be nothing for them to look at.

      The partners can get permission to sell some of their GS stock, but it takes the approval of a three person committee.

      1. Deus-DJ

        Incorrect: Going before the 3 person committee is if you want to sell part of the 25% you have remaining…but I doubt it’s anything formal, probably people shooting e-mails back and forth for approval.

        The fact that these people are most likely holding on to much more than the 25%, and that they are not selling but hedging their holdings, hurts your overall assertion.

  12. cslaftery

    Funny how nobody would have any trouble seeing the issue if a ball player were to benefit by having his team fail.

    But converted to financial lingo and the obvious is somehow not.

    1. nivedita

      Your comment makes absolutely no sense.

      1) no employee of a bank is permitted to actually become short and benefit from his company failing
      2) ball playing is completely different — there’s no obvious need for equity or deferred compensation that the player might even be hedging in the first place.

      1. bmeisen

        Pharma may provide a better counterexample:

        Drug Corp finds the cure to the common cold. The cure can also kill and the probability of it killing is hard to calculate. Coincidentally Drug Corp also develops an antidote to the deadly side-effect. Selling the antidote would crash the cure. The social benefits of the cure seem convincing, and anyways, the chances of consumers actually dying from the cure are obscure. So Drug Corp sells it and gives its execs the antidote as a benny, arguing that they are indispensible talent.

  13. skippy

    Why must this all_be made out_as so complicated.

    A group of sophisticated financiers using an amalgam of vaporous mathematical theorem and PowerPoint like modeling, *CREATED* out of *thin air* a financial isotope, of which_they_*stock piled* to give it credence…cough value. Upon discovery that in sufficient amounts this isotope within the law of physics would archive a supercritical state, they exported it in smaller amounts_globally_to spread the risk in a vane attempt to subvert its gravity, its natural state of collapsing upon its self and the resulting aftermath, even to the point of creating counter party derivatives_smaller parts_easier to stretch apart…cough avoid contraction, even the employment of trillions / quadrillions of value added electrons in dilution, yet to no avail save a few seconds to the countdown clock.

    Yet those very same financial sophisticates with the wage enslavement of theoretical mathematics / quantum mechanics NOW proclaim that they are the *only hands on experience guys and gals* around to defuse their creations (FTW) and that the pay grade should be commensurate to the task…cough…saving the world, of which, they are directly responsible for putting in jeopardy in the first bloody place.

    With this spirituous logic…hell…why don’t we just employ pedophiles, murderers and rapists as *victim counselors*, as they are so familiar with the territory…eh.

    Doesn’t any one get it save Yves and a few others, risk is life, you cannot say 3, 5, or 10+ years is sufficient in of its self, to argue that one has payed their dues and is exempt from liability (liability is a dust to dust issue), suck it up! Legacy is a bitch see: industrial toxicity, financial extraction ahead of historical trend lines, asbestos et al related legacy’s, hell check every bloody society that under internal stresses (expansionism meets resource issues, not scarcity but natural events (weather , climate, short term-ism take now pay later, related down the road offsets ie negative multiples above on time profit realization, etc etc) and the resulting out comes…they are scattered to the winds, back down to smaller groups (after a bit of destruction). This last observation was the norm until the last few century’s after expansion by a *few* dominate actors, since it has become a case of absorption (no where to run). So rather than segments of social strata employing every piece of science and technology available today and the foreseeable future to retain privilege (I work harder, am smarter, have a bigger stick) maybe we better get on with the business of sharing whats still left of this world in consensus, rather than building consumerist castles and battlements too ward off the bogyman aka humanity’s fear of tomorrow, funnily enough which is the main tool the castle builders use to fan the flames of the masses, into heeding their verdict, as if it was the masses own idea in the first place (roll eyes).

    Skippy…the heads roll down the side of the temple, evoking the gods ear, too a gleeful mass below, rubbing themselves with its offerings…to be closer to god himself…they all give themselves up…social sacrifice twisted in a maniacal act…empathy as a killing tool…WE NEED MORE HEADS!…TOO SAVE US>!


    For the re-consecration of Great Pyramid of Tenochtitlan in 1487, the Aztecs reported that they sacrificed about 80,400 prisoners over the course of four days, though there were probably far fewer sacrifices. According to Ross Hassig, author of Aztec Warfare, “between 10,000 and 80,400 persons” were sacrificed in the ceremony.[40] The higher estimate would average 14 sacrifices per minute during the four-day consecration. (As a comparison, the Auschwitz concentration camp, working 24 hours a day with modern technology, approached but did not equal this pace: it executed about 19,200 a day at its peak. The limiting factor for the Nazis was not killing people, but efficient disposal, via cremation of the bodies.)[41] Four tables were arranged at the top so that the victims could be jettisoned down the sides of the temple.[42] Nonetheless, according to Codex Telleriano-Remensis, old Aztecs who talked with the missionaries told about a much lower figure for the reconsecration of the temple, approximately 4,000 victims in total.

    Michael Harner, in his 1977 article The Enigma of Aztec Sacrifice, estimates the number of persons sacrificed in central Mexico in the 15th century as high as 250,000 per year. Fernando de Alva Cortés Ixtlilxochitl, a Mexica descendant and the author of Codex Ixtlilxochitl, estimated that one in five children of the Mexica subjects was killed annually. Victor Davis Hanson argues that a claim by Don Carlos Zumárraga of 20,000 per annum is “more plausible.”[43] Other scholars believe that, since the Aztecs always tried to intimidate their enemies, it is more likely that they could have inflated the number as a propaganda tool.[44] The same can be said for Bernal Díaz’s inflated calculations when, in a state of visual shock, he grossly miscalculated the number of skulls at one of the seven Tenochtitlan tzompantlis. The counter argument is that both the Aztecs and Diaz were very precise in the recording of the many other details of Aztec life, and inflation or propaganda would be unlikely.


    PS. Wall St. et al should have a large sign made out of gold in plain view

    *The Temple Pyramid Starts Here*

    Please form a orderly Que, we will be with you as soon as humanly possible, we are sorry for the delay but we have a heck lot of body’s to dispose of and remember patience is a Virtue, obey your God given masters…have a nice day.

    This sign was generously donated with personal funds (cough extraction of national wealth by force) by the masters of Wall st. INC,CORP,LLC,PTY.LTD,SCOTUS and any other piece of parchment we can hide behind.

    Exit al la John Belushi’s “Luck of the Irish”

      1. skippy

        Please expand on “are you alright” as it is, as vaporous, in context as sophisticated financial instruments and the mountainous jargon used to parse it, whence unpacked and de-compartmentalized is shown to be the voodoo it is in really…out side the priests echo chamber.

        Skippy…it is noticeable the whispers of a few, with concerned tones, spreading in a 3rd party sense, too what ends. I smell fear.

      2. attempter

        I think he’s saying it’s absurd the way people are squabbling over how robbers are divvying up what they stole, and whether the division lets some robbers bet against the gang.

        For the sake of clarity:

        Every cent Goldman has was stolen.

        We should abolish Goldman and restitute every cent they stole (at least every cent which still exists). That includes all the take-home loot.

        Repeat for every FIRE sector gang.

        1. Skippy

          How do you condense 40 thousand odd years of human history and scientific observation into a couple of paragraphs, illuminating the overlapping time lines (repetitive reduction) we are always swimming in, to those that grasp so tentatively to the present…alone.

          Goldman et al are no better than the meso-american priests, the debt slaves are no different than the their ideological (born into) sacrificial lambs, all just one big self reinforcing delusion, and any one picking at its lies is moved to head of the line, soon to be head at the bottom of the pyramid ( see Julian Assange ).

          Skippy…ditto above your above ^^^^^.

  14. John Olagues

    Although the information is not complete as to what the 475 Goldman executives did, hedging their speculative risks involved in holding employee stock options or restricted stoc or unrestricted stock with sales of calls (or purchases of puts) is the only well thought out strategy to manage the positions. Anyone who thinks otherwise just does not understand the situation. The only drawback from doing so is that people who do not understand the issues involved will make a big deal about it as the author is doing here.

    Whether Goldman is TBTF or is a company on U.S. welfare and supps at the trough of middle class America is a matter that I do not want to argue for or against in this forum.

    However, the actions of hedging the risks of highly speculative grants of equity compensation is the wise thing to do. Advisors to any executive, who claim competence in the matter are liable for damages if they do not advise hedging, in my view.

    There is a book called “Getting Started in Employee Stock Options” published by Wiley & Sons 2010, which I co-authored, where you can find the explanation of the above conclusions. The book is endorsed by some of the foremost experts in the world.

    I will be happy to explain it all from A_Z if you wish.

    John Olagues

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