NEW YORK—Investment banking giant Goldman Sachs Group Inc. knew it was making money betting against subprime mortgages as the market for the risky assets crumbled in front of its eyes, newly released e-mails from U.S. investigators show.
The Senate Permanent Subcommittee on Investigations, chaired by Sen. Carl Levin (D-Mich.), released e-mails it obtained from the investment bank over the weekend, showing how certain businesses and individuals of the bank profited off of the subprime mortgage crisis.
Last week, the U.S. Securities and Exchange Commission (SEC) charged Goldman with fraud for allegedly failing to disclose that a 2007 collateralized debt obligation (CDO), underwritten and subsequently sold by the bank, was partially picked by a hedge fund that was betting against the security.
The SEC claims that Goldman misled two investors in the security—ACA Management LLC and IKB Deutsche Industriebank AG, who lost millions in the transaction after the value of the CDO declined.
So far, Goldman has called the lawsuit without merit and claimed that it, too, lost money on the deal.
But deservedly or otherwise, Goldman is already subject to the public’s scorn. It was the only major Wall Street player not to lose a substantial amount of money during the recent financial crisis. When its competitors booked huge losses, Goldman was above the fray, and at the time, analysts touted its prescience in getting out of the subprime market early and hedging its bets.
A hearing about Wall Street, the financial crisis, and Goldman Sachs will occur on Tuesday in Washington, D.C. Goldman's CEO Lloyd Blankfein and Vice President Fabrice Tourre, an employee the SEC is suing regarding the said CDO, are both expected to testify.
Betting against the market
In an e-mail dated Nov. 18, 2007, Blankfein wrote, “Of course we didn't dodge the mortgage mess. We lost money, then made more than we lost because of shorts.”
The message suggests that Goldman profited off the market by shorting—betting against—certain subprime investments.
Overall, Goldman insists that it did not make money, as the rest of the country saw its housing values tumble. It had lost $1.2 billion related to subprime mortgages during 2007 and 2008, the company said.
But the e-mails released by the committee showed a different picture. When the subprime mortgage market turned sour in 2007, and many credit-rating agencies degraded their ratings, one Goldman executive was anything but worried.
“Sounds like we will make serious money,” trader Donald Mullen wrote in an e-mail in late 2007 to colleague Michael Swenson.
“Yes we are well positioned,” Swenson replied.
In another e-mail, a different Goldman trader compared the investments to “Frankenstein turning against his own inventor.”
Tourre himself knew of how lucrative it was to take short positions on the securities.
“In sum, I'm trading a product which a month ago was worth $100 and which today is only worth $93 and which on average is losing 25 cents a day. … That doesn't seem like a lot but when you take into account that we buy and sell these things that have nominal amounts that are worth billions, well it adds up to a lot of money,” Tourre wrote in an e-mail in early 2007.
In response, a Goldman spokesperson said that Sen. Levin’s team cherry-picked the e-mails to steer public opinion. The e-mails were part of a 20 million-document package delivered to the U.S. Senate.
But betting against the market or certain financial securities—which is called “bearish” in investing terms—is nothing new, nor is it illegal. Investors and traders do so on a daily basis—hoping to profit off a free-falling investment in an effort to outsmart other market participants.
Timing of lawsuit questioned
Tuesday’s hearing and Goldman’s woes are expected to serve as fresh ammo for Democratic lawmakers, who are hoping to push financial reform through Congress.
President Barack Obama was in New York late last week to gain support for his financial reform agenda, asking for Wall Street’s cooperation, pleading that the reform would be good for both the U.S. economy and the financial sector.
Republicans say that the bill will do more harm than good and could lead to more bailouts. The reform bill includes a controversial “Volcker rule,” which seeks to ban proprietary trading and could impose huge levies on major banks.
Others are questioning the timing of the SEC’s lawsuit. David Kotz, the SEC’s inspector general, said late Friday that he would commence an investigation into the timing of the SEC’s lawsuit against Goldman Sachs.
The investigation was reportedly spurred by comments made by Rep. Darrell Issa (R-Calif.), who questioned whether the SEC engaged in unauthorized disclosure of information to affect the debate over financial reform in Congress.
SEC officials voted 3–2 to go ahead with the case against Goldman, evidencing a split among top SEC officials regarding the timing or merit of the case.