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SEC vs Goldman Sachs suggests changed days for Wall Street

Finance Blogger: Ian Fraser Ian Fraser

The torrent of speculation surrounding the SEC’s chances of succeeding with its attempts to nail the “giant vampire squid” (a.k.a. Goldman Sachs) over alleged fraudulence in its Abacus 2007-AC1 collateralized debt obligation seems to have obscured the true import of what happened last Friday.

For Goldman Sachs, traditionally the most successful and powerful investment bank on Wall Street, to be charged with fraud by the leading regulator in its home country is actually quite astonishing. Whether the case is won or lost, the mere fact of the charges and their tangible effect on Goldman’s reputation, will come to be seen as a seminal event in the power struggle between unfettered free markets, globalization, and governments around the world.

The fact the SEC pressed charges on Goldman last Friday for defrauding its own clients—and specifically for keeping “long” investors in the dark about the identity of the (short-selling) group selecting the group debt parcels that were thrown into the hideously opaque CDO, speaks volumes about the changed mood in Washington right now.

Gone is the cozy situation whereby a bank’s chief exec could simultaneously sit on the board of the regulator. Gone are the days when what was good for Goldman Sachs was deemed to be good for America.

Gone are the days when the investment bank could rely on a sympathetic ear in the White House and the Treasury and when former Treasury secretary Hank Paulson could favor his former Goldman colleagues. Gone are the days when Goldman could rely on its many alumni in senior government roles and in global institutions such as the IMF to ensure that policy mirrored its interests, irrespective of whether this was good for Main Street (i.e. American voters).

Blind faith in the efficient market hypothesis, which has pretty much driven Anglo-Saxon governments’ thinking about financial services since the 1980s, took some severe knocks as a result of the multiple financial and economic train wrecks of 2007-09. The theory is now as discredited as was communism after the Fall of the Berlin Wall (according to Professor Joseph Stiglitz at least).

If the market always knew best and if banks were predisposed to behaving responsibly (which was what powerful figures such as former Federal Reserve governor Alan Greenspan and prime minister Gordon Brown actually believed prior to the crisis) the blow-outs could not have occurred.

Given such ideological shifts—coupled with Wall Street’s lack of contrition and seeming ingratitude for the taxpayer-funded bailouts of 2008 and 2009, it was only a matter of time before government responded to people’s wrath and lost patience with over-mighty firms such as Goldman.

The current SEC action and the concomitant action by the Financial Services Authority in London, suggests the gloves are off. Governments have woken up to the danger that, left to their own devices, institutions like Goldman Sachs can become virtual “rogue states” that allow financiers to rig the capital markets in their own favor.

We’re unlikely to be headed back to the days of exchange controls or the gold standard any time soon. But with healthcare under his belt, Obama is now deadly serious about reforming finance, both through additional taxation and through structural changes as outlined in the Volcker Rule and Senator Chris Dodd’s financial reform bill.

I believe that last Monday will probably go down in history as the day when the financiers were kicked off the “commanding heights” of the economy. The “masters of the universe” will take a while to adjust to their new lowland habitat. But, if it does nothing else, the Abacus debacle will teach them that a business should exist to serve society and the wider economy, not the other way around.

Who knows, investment bankers might even be persuaded to start valuing concepts like fairness and transparency rather than always looking to make the fastest buck.

Further reading on the Goldman Sachs fraud allegations

Tags: Abacus 2007-AC1 , banking , collateralized debt obligation , financial crisis , Goldman Sachs , regulation , trading , transparency
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  1. Anonymous Comment says:
    Fri Jul 20 08:35:41 BST 2012

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  2. Anonymous Comment says:
    Fri Jul 20 08:34:25 BST 2012

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  3. Alan R says:
    Fri Jun 22 10:42:14 BST 2012

    Why is the author paecls this acquisition in such a negative light.No one buys startups based on their current loses. They get bought based on revenue growth and then multiple of that revenue. Typically regular software companies have been bought at 10x revenue, but in virtualization industry the comps have been all over the map sometimes 30x, and in other cases 100x to 500x of revenue. Given that Virtual Iron was growing revenue at 130% a year, at this rate they will break even in 2010 so I guess Oracle did not buy a big loss!The other thing the author should have compared this to comparable acquisitions in virtualization space. The XenSource acquisition in 2007 for $500M by Citrix. At that time XenSource had yearly revenue of less than $1M with more than $20M a year loss. That means that Citrix paid 500 times the revenue. Somehow the the author did not write that in a negative light of how Citrix acquired a $20M yearly loss.It would be great if author of the article did not twist the facts and would actually understand what comparable companies in this space have sold for. Virtual Iron is right in the middle of these comps.Thank you, Alan R.
  4. Anonymous Comment says:
    Wed Jun 20 14:59:23 BST 2012

    Finally! This is just what I was looking for.
  5. soniap says:
    Fri Apr 30 04:05:13 BST 2010

    The Goldman senate hearings are going ahead today. Goldman Sachs is charged of deliberately promoting their services being aware of the probability of failure is great, and cashing in on the failure or their services. This is an very confusing case concerning this type of fraud. As of now the vice president is their main person of interest in arranging this scheme, however, there might be a lot more charges down the road including criminal investigations.
  6. discoveries says:
    Sat Apr 24 02:41:12 BST 2010

    It's about time, too. UK nearly always follows the 'lead' from America. Now is the time for the UK government and the FSA to charge the likes of HBOS/ Bank of Scotland (the UK 'giant squid' with tentacles everywhere, sucking the life blood out of the People of Britain in favour of feeding the Banking Economy) with fraud, for they have, after all, created more than £260 billion pounds of TOXIC DEBT. let it not be forgotten: we are the mugs paying for these fraudulent actions of the Bank of Scotland, where the infamous James Crosby acted as a 'double agent' for the FSA, the ultimate 'poseur' as 'Deputy Chairman' of the FSA until Feb 09 - Hector Sants fled for the same reasons as Crosby: a trail of fraud in their wake, dirty hands, calling for an urgent Public Enquiry.
  7. john-p-ferry says:
    Fri Apr 23 13:34:58 BST 2010

    We certainly need to come up with a new social contract between banks and society, one that recognises that while banks may be private enterprises they can never be completely seperated from the public interest. Investment banks provide an important social utility. They intermediate to re-cycle risk and capital into units more tailored to the needs of investors and borrowers. But until the financial crisis kicked in, no one knew that the public purse was implicitly backing these businesses. It still does, and always will for banks deemed too big or interconnected to fail. That insurance should come at a cost, so additional taxation of some form on banks is both reasonable and rational.
  8. paul-mis says:
    Fri Apr 23 13:32:26 BST 2010

    A very good article. It is a shame the robust action taken by the SEC coupled with President Obama's very stern words and proposed actions in the US have not been mirrored by our own Prime Minster nor the FSA.

    It is still not too late for the UK to do something to prevent a recurrence of the calamity which befell our masters of the universe and for which the whole country will suffer for the foreseeable future.

    Let's hope we see articles about the UK Regulator's actions on similar but, as yet, unreported frauds which make the Squid's actions in the above article small potatoes by comparison.

    Corruption in the UK would seem to be greater than in most 'banana republics' and it's about time it was curtailed.

  9. noelyoung says:
    Fri Apr 23 13:24:29 BST 2010

    Spot on! It's not whether Goldman win or lose the court case, it's the very fact that the SEC have chosen - very publicly - to take them on.

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