Goldman Ex-Prop Traders Flopping on Their Own

John Whitehead is being proven right.

The former Goldman co-chairman took the unheard of step of excoriating Lloyd Blankfein for Goldman’s “shocking” pay levels of 2006. As anyone who has been following Wall Street knows, compensation levels were even higher in 2007, 2009, 2010 and last year. Per an interview with Bloomberg:

“I’m appalled at the salaries,” the retired co-chairman of the securities industry’s most profitable firm said in an interview this week. At Goldman, which paid Chairman and Chief Executive Officer Lloyd Blankfein $54 million last year, compensation levels are “shocking,” Whitehead said. “They’re the leaders in this outrageous increase.”

Whitehead went even further, recommending the unthinkable, that Goldman cut pay:

Whitehead, who left the firm in 1984 and now chairs its charitable foundation, said Goldman should be courageous enough to curb bonuses, even if the effort to return a sense of restraint to Wall Street costs it some valued employees. No securities firm can match the pay available in a good year at the top hedge funds.

“I would take the chance of losing a lot of them and let them see what happens when the hedge fund bubble, as I see it, ends,” Whitehead, 85, said….

The Galtian traders who carry on as if they are solely responsible for their profits are being shown to be more dependent on the franchise, in particular, the concentrated information flows from dealing with lots of customers and counterparties, than they had persuaded themselves and management. Bloomberg today tells us that the prop traders who have decamped from Goldman, convinced that they’d be able to rack up stellar returns, are floundering. It isn’t just that they aren’t racking up huge wins; they are losing money and falling short of hitting the average for their trading strategy. As the report notes:

Ex-Goldman Sachs (GS) Group Inc. traders led by Pierre-Henri Flamand and Morgan Sze raised more than $4.5 billion for their own hedge funds..

So far, none of them has made money for clients.

The two are among at least six traders who have left Goldman Sachs’s biggest proprietary-trading group in the past two years, which the New York-based bank shuttered in response to new U.S. regulations. All, including Daniele Benatoff and Ariel Roskis, trailed this year’s stock market rally after losing money in 2011, investors said…

Flamand, 41, who was the global chief of Goldman Sachs’s principal strategies group before he quit two years ago to start Edoma Capital Partners LLP in London, has lost about 2.4 percent through February since his $1.8 billion hedge fund started in November 2010, according to investors.

Edoma is an event-driven fund, which invests in companies undergoing events such as mergers, spinoffs and bankruptcies. Such funds returned an average 3.9 percent in the same 16-month period…

Sze, 46, who ran Goldman Sachs’s principal strategies team in Asia before briefly replacing Flamand as global head, left the bank in 2010 to start Azentus Capital Management Ltd. in Hong Kong, hiring 13 former Goldman Sachs traders. His event- driven fund lost about 4.8 percent through February since its April 2011 inception, said a person with knowledge of its returns.

Event-driven funds declined 2.4 percent in the same period…

We’ve long been skeptical of the idea that big firm traders are worth their outsized pay packages. Of course, it nevertheless make sense for management to play along, since higher pay levels for traders justify robust pay for everyone senior to them in the hierarchy (yes, a top trader will often be paid more than the top brass, but it’s an anchoring issue. And pay in banks at the senior levels has become more hierarchical than it was in the 1980s and 1990s).

Long standing readers may recall the 2009 row over the pay level of Andrew Hall, the head of a Citigroup oil trading unit. He had made $100 million in 2008 on a long-standing pay arrangement that gave him a pay deal for his team that was just below 30% of profits, a level unheard of since Mike Milken at Drexel (and we all know how well that turned out). Kenneth Feinberg, Obama’s pay czar, refused to back down, leading to the predictable hue and cry as to how terrible it would be to break Hall’s contract (we pointed out that there were likely ways to do just that, that big producers like Hall were often guilty of expense abuses that would allow for termination for cause).

Consistent with the notion that Hall needed Citi more than he’d pretended earlier, he started negotiating with the bank (if he really was such a hot item, one would think he’d be able to decamp and raise money). As we pointed out at the time:

A LOT of Hall’s performance was due to cheap funding from Citi, and probably massive leverage too, conditions he could not replicate anywhere else. A risky, highly geared operation should pay an interest rate appropriate to the hazards it is taking, not the borrowing costs of its parent (this basic premise is widespread in financial firms, embodied in approaches like RAROC (Risk Adjusted Return on Capital), the Basel I and II rules, and Economic Value Added models.

And the denouement, from ECONNED:

Phibro, along with its richly paid chief, Andrew Hall, is leaving Citigroup for Occidental Petroleum. The price Oxy paid for Phibro was only the current value of its trading positions–liquidation value and not a brass razoo more. There was NO premium for the earning potential of Hall and his supposed money machine. It’s not hard to see why. Hall’s returns were heavily dependent on high leverage, cheap funding, and market intelligence from other trading desks, all huge subsidies from Citigroup. In turn, these concentrated capital and information flows do not come about naturally, but are the product of industry-favoring policies.

His example illustrates that the widely proclaimed view that highly profitable traders are worth their exorbitant pay is often a fiction. The fact that no other buyers, not a financial firm, commodities trader, or consortium, stepped forward when Citi was looking for a graceful exit shows that the business was worth very little on a stand-alone basis.

Instead of seeing the Hall episode as further evidence that industry pay practices are extractive, the media focused instead on “government interference” or how Citi would be harmed by losing the revenues from taxpayer-supported commodities speculation.

The problem, of course is that given how much traders and investors who appear to generate outsized returns (query at what risk and with what information advantages) are celebrated in their circles almost as much as sports stars. Their allure is fading bit by bit, but it will be quite a while before the ascendancy of traders is reversed.

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  1. Holden Pattern

    Two thoughts spring to mind:

    1) Who is this Whitehead guy, and why does he hate America?

    2) The financial industry elites should be in the dictionary under “rentier”. It’s pretty clear that just (as noted in the excerpt from ECONNED) they’re just extracting rents from a revenue flow based on the place where they sit, not anything they actually do to add value.

    1. Bill Jones

      An astonishing percentage of GDP in the US is zero-sum paper shuffling that concentrates but does not add value. Add to that the negative GDP of most government activities, the MIC’s the obvious no-brainer and drugs war for example: fancy paying money to prevent production? Explains the impoverishment of the Country.

      1. tawal

        Sounds like he’s sloughing his crappy bets onto unwitting investors. How did his Phibro accounts do?

    1. vlade

      There’s really no way to tell (with 100% certainity) luck from skill. Given a large population of investment vehicles, one would expect this or even longer winning streaks. In fact, if they wouldn’t be there, it would be suspicious.

      That said, most humans, for deeply psychological reasons, prefer to pretend they have at least some degree of control (thus skill).

      1. Procopius

        “That said, most humans, for deeply psychological reasons, prefer to pretend they have at least some degree of control (thus skill).” I can’t remember where I read this story. Probably John Kenneth Galbraith. Oh, how that man could write, and his son Jamie is pretty good too, but… Imagine a population of 100 million, each member has $1,000. Once a day they all flip a coin. Those who get heads double their money; those who get tails lose everything and stop playing. After a while, the writer said, some of those who still had money would be looked up to as supremely skillful. They would write books telling people how they did it. Professors at universities would study ways to improve your chances of succeeding. People would come up to them in the street and beg for advice. I don’t know how the story would end, he stopped while there were still aa substantial number of winners. Of course this game would inevitably end up with one winner. At some point before that would part of the players, who had been successful over a long time and gotten immensely rich, decide to change the rules so they wouldn’t lose everything? Anyway, the image has stayed with me, like the title of a book I’ve always wanted to read, but haven’t yet gotten around to: “Whare Are The Customers’ Yachts?”

  2. Z

    Why did these traders do so well at goldman fasachists and then falter on their own? Becoz goldman pushes the markets around per their advantage.


      1. Jsn

        Major share holders ov the gov, that is: let’s b clear who says “jump” & who says “how high”!

  3. Conscience of a conservative

    I once heard someone opine that average people come to Goldman and do brilliant things, while brilliant people leave Goldman and do average things. So the question begs, what occurs only @ goldman to promote such success that leaves when you exit the door.

    1. Conscience of a conservative

      Greg Smith might argue that Goldman makes money from asymetric information flow and the ability to bet against clients with information learned from watching its clents and not so tight chinese walls…

      1. Damian


        the core of GS has always been: your bunnie has a good nose!

        in 1987….. as well as today – these guys know the trade end to end -the chinese wall never existed

    2. twolegsnotail

      It’s so obvious – you’ve answered your
      own question. Apply some lipstick to a
      pig and you have: big bonuses. Nowhere
      else in the world can one “churn” and
      make so much money but one must be
      willing to churn. NOT nice work if you
      can get it.

  4. jiminy

    Precisely. As the old investment banker said in inside job, all the traders that waltzed onto 1980’s deregulated wall street making big money all believed it was due solely to their own brilliance.

    Sure it was.

  5. scraping_by

    As a general thing, the mythology of the elite centers on taking outside rewards for group accomplishments. Whether it’s the software billionaire who got rich when other, smarter people write or steal code down to the small holding farmer who considers himself an rugged individual while working his wife and children dawn to dusk.

    Yet another case where the star can’t see the stage.

    1. Rotter

      “down to the small holding farmer who considers himself an rugged individual while working his wife and children dawn to dusk.”

      and who relies entirely on Govt agricultural policy and subsidies, assistance from USDA, etc.,etc.,

      1. Ms G

        Re the rugged “small holding farmer”:

        … and who may own “his” land simply by virtue of a fedearl handout under the 40 acres + a mule land grant …

        Rugged and independent indeed.

          1. james hanbury

            Both outcomes are correct. The Homestead Act of 1862, passed during the Civil War, gave 160 acres to homesteaders who had to improve the land with a building and farm it for five years to get the grant. This was a huge incentive for the middle and western US to get settled. Unfortunately, the same government promised ex slaves “40 acres and a mule” to assure that they could make an independent living. Anyone who reads about the post civil war era knows how this ended.

        1. different clue

          I had thought the “40 Acres and a Mule” landgrant was a suggestion made but never a promise kept. Am I wrong about that?

          1. james hanbury

            See the answer that I mistakenly sent to ms g. Both of your outcomes are correct. The Homestead Act of 1862 gave 160 acres of land to anyone who worked it for five years and improved it. This led to massive settlements in the midwest and west. Unfortunately, the same government at the end of the Civil War promised ex slaves “40 acres and a mule” so that they could make an independent living. Anyone who knows about the post civil war period in the US knows how that ended.

  6. craazyman

    my hedge fund is BIG — Backyard Investment Group.

    What I do is take your money and bury it in the backyard so you can’t do something stupid with it. You even get to dig the hole yourself, choosing your customized location in the yard, but we supply the shovel, and then we bury it for you, 6 feet deep.

    You only pay the 2% management fee. No incentive fee and no highwater mark. Lockups of 1, 3 and 5 years are offered to you.

    If you think you’re a tough guy — maybe with some paramilitary training and night vision goggles — you may think you can get at your money at a time of your choosing. You’re the kind of client we are here to serve. Our burial site is under continual armed guard, generally with special forces background and dedicated to capital protection under all circumstances. If you come within 100 feet of your burial site, we will apply lethal force to neutralize you, assuring that you don’t retrieve your money and do something unbelievably stupid with it. We know how you think.

    For more information and to see our offering memorandum, please contact me:

    Captain John E. Cash, Esquire
    BIG Capital Partners
    PO Box 8
    Grinich Conneticut

  7. Ishmael

    Yves aren’t you really saying in a kind way that without insider information these guys can’t beat the market!!!!

  8. Hugh

    Great post, great comments. It is important to remember that Goldman faced collapse twice in the period of September 13-21, 2008. It was only their connections which saved them first when their former CEO and chairman Hank Paulson had Lloyd Blankfein sit in on the takeover of AIG making sure that Goldman’s interests were looked after and then after Lehman went splat getting Bernanke via Paulson to grant them bank status allowing them access to Fed and Treasury programs.

    The simple truth is that Goldman people aren’t that good. I mean sure they do OK when they can rig the game with insider information and finance the action with cheap government money, but any company that was set to fail twice in one week is not run by the best and brightest. Goldman survived and thrived because it was the best connected.

  9. different clue

    I am a $34,000/year biweekly-wage hospital technician. I read these things and struggle to understand. It is my awareness of my own lack of deep background on these subjects which leads me to make as few comments as I do. My apologies to anyone who thinks my few comments are a few too many. Including this one.

    But I read something a couple years ago which somehow seems relevant to all this. It had to do with the relatively tiny amounts of our money going to TARP-covered bailoutees compared to the huge amounts of our money going offstage to hedge-funders and other such; using these “banks” as visible blame-diverting conduits. I think that thing I read is worth considering in its own terms and I wonder whether it is too late to apply the cure the author recommended if government could still be tortured into applying it. The webpost is called Washington Bunraku Theater and here is the link.

  10. eclecticskeptic

    “Where Are The Customers Yachts?” and “Fooled By Randomness”… two of the greatest books written… about markets and life in general.

  11. james hanbury

    This is a very good article. Not only do firms like Goldman and other big banks provide a huge advantage to the traders, they also benefit the bankers. How many so called rainmakers from the great firms parlayed their good years into spectacular deals with small firms, then failed to deliver?
    Nonetheless, it is clear that some traders and bankers are great no matter where they work: look at the returns from the boutique investment banks and hedge funds.

  12. wc

    not a big fan of goldman and agree prop trader pay packages are obscene. just wonder is it because it is goldman that these guys are getting piled on. ex-prop guys from any other banks getting same coverage?

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