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More Kabuki theater for the gullible masses

The lawsuit will accomplish exactly nothing

Dateline: 19 April 2010

Goldman-Sachs' HQ in Lower Manhattan

By Patrick O’Connor and Barry Grey [print_link]

The Securities and Exchange Commission (SEC) filed a civil case Friday against giant investment bank Goldman Sachs charging “fraudulent misconduct” in relation to $1 billion of worthless sub-prime mortgage securities Goldman palmed off to its clients in 2007.

The SEC’s submission to New York’s Southern District Court provides a devastating glimpse into the criminal activities of a financial oligarchy that was not only indifferent to the destructive social consequences of its operations, but eager to profit from a crisis precipitated by its own speculative activities.

In April of 2007, just prior to the sub-prime mortgage collapse, Goldman Sachs received $15 million from hedge fund operator John Paulson to help put together a package of securitised home loans—a collateralised debt obligation (CDO)—and market it to Goldman’s clients. According to the SEC, Paulson and Goldman knew that the CDO, called ABACUS 2007-AC1, was comprised of junk assets, but they led the public to believe that a sound investment was being offered.  Paulson had staked the fortunes of his hedge fund betting on a market collapse. He therefore selected the worst sub-prime mortgage securities on the market for the Goldman CDO, mostly derived from mortgages in Arizona, Florida, Nevada and California—states which were subsequently among the hardest hit by the wave of foreclosures.

Goldman Sachs, the SEC alleges, covered up Paulson’s involvement in the CDO’s creation when it marketed the investment to its clients. Goldman hired collateral manager ACA and, according to the SEC, falsely told its clients that ACA had decided what mortgages were to be bundled into the CDO. Ratings agencies Moody’s and Standard & Poor’s rubber-stamped the operation, issuing the CDO a triple-A rating. Paulson then short-sold the CDO.  The Wall Street bank was paid by Paulson to package and market the toxic CDO, then paid by investors who bought into it. By January of 2008, 99 percent of the CDO’s loans had been downgraded. Paulson’s hedge fund, having bet on precisely this outcome, made approximately $1 billion—about the same amount lost by Goldman Sachs’ customers.

This particular Goldman Sachs shake-down operation was by no means an aberration. It was only a fairly flagrant example of the criminality that pervades the American financial and corporate elite. The fall in the market price of leading bank stocks triggered by Friday’s SEC announcement reflects the fear that any one of the major US banks and hedge funds could be next.

The public marketing and secret short-selling of junk assets was a common practice carried out by virtually every major Wall Street firm. It was part of a colossal fraud perpetrated on the American people.  The banks lured people into taking out mortgages they knew the purchasers could not afford. They then packaged these toxic loans into securities—collateralised debt obligations—and made billions in profits by selling them to investors around the world, including pension funds, 401(k) plans, insurance companies and private investors. Those involved knew very well they were running the equivalent of a giant Ponzi scheme—a fraud far more massive and destructive than the criminal operation headed by Bernard Madoff.

Before and during 2007, Goldman Sachs, conscious that the entire edifice of CDOs based on the sub-prime mortgage bubble was about to topple, deliberately sought to hasten the crisis. A New York Times investigative report published in February revealed that before the American International Group (AIG) bailout in September 2008, Goldman strove to undermine investor confidence in the insurance giant in order to drive down the market value of mortgage-backed securities. When the crash finally came, Goldman—bolstered by $10 billion in public bailout money received at the height of the financial free-fall—cashed in, reporting a record $13.4 billion profit last year.

CEO Lloyd Blankfein and other Goldman executives, as well as John Paulson—who was not named in the SEC indictment—are, in fact, criminals. They should be criminally prosecuted and held legally accountable for their violations of the law and their crimes against society.

Their actions—exhibiting an insatiable and manic drive for personal enrichment—have produced devastating consequences for tens of millions of ordinary people, not only in the United States, but around the world. Millions have lost their jobs, their homes and their life savings. Untold numbers of young people have lost their chance for a college education. Untold numbers of old people have been driven into poverty and an early death.

It is no exaggeration to say that senior executives at Goldman Sachs and other leading banks have blood on their hands. Many lives have been lost in the US and internationally as a result of the economic crisis precipitated by their fleecing operations—through poverty, disease, stress, malnutrition, house fires resulting from utility shutoffs, etc.

The SEC indictment, it can be safely predicted, will result either in a white-wash of Goldman and its executives or, at the most, a financial slap on the wrist.  The SEC’s civil case lets senior Goldman executives off the hook. The sole individual named as defendant, alongside the bank, is a 31-year-old who was a junior trader in 2007.  In 2007, Goldman CEO Blankfein, who is not named in the indictment, received, according to Reuters, $100 million in pay and stock. Paulson, exonerated by the SEC, pocketed $3.7 billion in 2007 and another $2 billion in 2008.

The worst Goldman will suffer is a multi-million-dollar fine, a drop in the bucket compared to the financial giant’s profits.  The Obama administration, loaded with executives from Goldman and other Wall Street firms, will do nothing to stop the banks and hedge funds from continuing their fleecing operations now and in the future, and none of those chiefly responsible will be held to account.

An independent political intervention of the working class is urgently required. The trillions in ill-gotten wealth of Wall Street operators must be re-appropriated and used to help fund public works programs to provide jobs for the unemployed and rebuild the social infrastructure. This money, stolen from the American people, must be used as well to provide relief for the millions victimized by the financial robber barons.

A full public disclosure of all the operations of the banks and hedge funds is required as the first step in launching criminal prosecutions, not just civil proceedings, against culpable individuals. The commanding heights of the banking and financial sector must be nationalised and placed under the democratic control of the working population as part of the socialist reorganisation of the US and world economies.

Patrick O’Connor and Barry Grey are senior political analysts with the World Socialist Web Site.

BONUS FEATURE: Update

Fallout from Goldman Sachs indictment spreads

By Barry Grey
20 April 2010

Britain and Germany announced their own investigations into the role of investment bank Goldman Sachs in losses incurred by UK and German banks, following Friday’s indictment of Goldman by the US Securities and Exchange Commission (SEC).  In calling for the British Financial Services Authority to begin an inquiry, Prime Minister Gordon Brown angrily accused Goldman of “moral bankruptcy.”  According to the civil complaint filed by the SEC, among the clients defrauded by Goldman was ACA Management LLC, the biggest investor in a subprime mortgage-backed collateralized debt obligation (CDO) marketed by Goldman in April of 2007.

ACA Management was subsequently absorbed by the Royal Bank of Scotland, which in 2008 paid Goldman $841 million to unwind ACA’s exposure to the Goldman CDO. The British government bailed out the Royal Bank of Scotland and currently holds an 82 percent stake in the firm.  The German government said its BaFin regulatory agency would look into the $150 million in losses suffered by IKB Deutsche Industriebank AG on its investment in the Goldman CDO, called Abacus 2007-AC1. IKB failed in late 2007 and was taken over by a state-owned bank.

The British and German announcements point to the financial havoc wreaked internationally as well as in the US by the machinations of Goldman, the most profitable company in Wall Street history. The complaint filed by the SEC describes a plot between Goldman and hedge fund manager John Paulson to sucker institutional investors into buying into the Abacus CDO so that Paulson could reap a huge profit by betting on the failure of the CDO’s underlying mortgage-backed securities.  In return for Goldman’s services in packaging the CDO and marketing it as a sound investment, Paulson paid the bank $15 million. Goldman made money as well from selling tranches of the CDO to unwitting investors.

Paulson, who is not charged in the SEC indictment, approached Goldman in early 2007 seeking its help in enabling him to place a large bet that the mortgage market bubble would soon burst. Paulson needed to lure investors into betting the opposite—that it would continue to grow.  The Abacus CDO, the SEC indictment indicates, was devised as the means of essentially swindling investors into betting on a rise in the value of risky subprime mortgage-linked securities, so that Paulson and Goldman could profit from the expected failure of these same securities. The CDO was a so-called “synthetic” instrument—meaning investors did not actually buy any securities. Rather, they gambled on the future price of a selection of securities, much as people gamble on a horse race.

The SEC charges Goldman with “making materially misleading statements and omissions” in marketing the $2 billion Abacus CDO. Specifically, Goldman did not inform investors that the securities underlying the CDO had been selected by Paulson, instead claiming they had been chosen by ACA Management. And the bank led ACA Management to believe that Paulson & Co. was taking a $200 million “long” position—i.e., that the hedge fund was betting the securities would rise in value.

Meanwhile, with Goldman’s knowledge and approval, Paulson loaded the CDO with the worst subprime securities on the market, to ensure that it would collapse. By January of 2008, some 99 percent of the CDO’s securities had been downgraded. Paulson pocketed $1 billion from the failure of the CDO, while investors, including ACA Management and IKB Deutsche Industriebank, lost a total of $1 billion.  The SEC indictment cites Goldman emails reflecting the sense of urgency behind the creation of the Abacus CDO. The bank and Paulson had to launch the investment vehicle before the housing market crashed, or they would be unable to profit from the disaster.  An email from the Goldman trader who directly organized the CDO—and who is the only Goldman official named in the SEC indictment—states, “The whole building is about to collapse anytime now…” Another email to the trader from a more senior Goldman employee declares that “the CDO biz is dead, we don’t have a lot of time left.”

The type of financial plundering exhibited by Goldman Sachs and Paulson in this particular venture was by no means an aberration. It was—and remains—business as usual on Wall Street.   The New York Post reported Monday that the SEC is investigating transactions by Deutsche Bank, the Swiss bank UBS and the former Merrill Lynch (now owned by Bank of America) in the mortgage securities market in the run-up to the collapse of the housing market in 2007 and 2008.

In a letter Friday to New York District Court, where the SEC indictment against Goldman was lodged, the Dutch bank Rabobank alleged that Merrill Lynch “engaged in precisely the same type of fraudulent conduct in the structuring and marketing” of one its CDOs as Goldman did with its Abacus CDO. The Dutch bank said Merrill permitted an investor, Magnetar Capital LLC, to select risky assets for inclusion in Merrill’s “Norma” CDO, while telling Rabobank the assets had been chosen by a neutral third party.

In a reply to the SEC indictment, Goldman argues that there was nothing unusual about its actions in relation to the Abacus CDO and denies that it misled ACA Management or any other investor. It also claims that it lost money on the CDO deal.

In fact, such machinations precipitated a financial meltdown and slump that have cost tens of millions of jobs and inflicted incalculable social misery in the US and around the world. The resulting mass unemployment is being used to permanently drive down wages and slash workers’ benefits, and the bankrupting of national treasuries as a result of government bank bailouts is serving as the pretext for slashing basic social programs.

Those at Goldman Sachs and the rest of the Wall Street firms who are responsible for such policies are criminals and should be prosecuted as such.

These same individuals, due to the largess of the Bush and Obama administrations, have profited handsomely from the catastrophe of their own creation. They are making more money than ever.  Goldman made a record $13.4 billion profit in 2009. JPMorgan Chase, Bank of America and Citigroup have all reported bumper profits for the first quarter of 2010, and Goldman is expected to do the same when it issues its first quarter report today.   There are already signs that Wall Street feels confident it has nothing to fear from the SEC or the Obama administration. While the Dow dropped 125 points on Friday, led by a sharp decline in the share price of Goldman and other banks, and Asian and European markets closed down on Monday, the Dow rose 73 points, spearheaded by a rebound in Goldman stock and bank stocks in general.

When press reports emerged Monday that the SEC split 3-to-2 on the decision to indict Goldman, with the two Republicans on the commission voting against the move, Goldman shares, which had been down, rallied and ended the trading day up 1.6 percent at $162.32.