The world against Goldman Sachs


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Oh the irony. As Euromoney left the executive offices of one of Goldman’s main hubs this week, the image projected on the plasma screen in the elevator could not have been starker. “The world against Goldman Sachs” was the screaming headline of one financial television news channel.

Abacus 2007-ACI, the deal at the centre of the case brought by the SEC against Goldman, could become as synonymous with the financial crisis as sub-prime, Lehman Brothers and Repo 105.

The case put against Goldman Sachs – still the world’s best-performing investment bank, as the $3.46 billion of profits generated in the first quarter of 2010 demonstrate – looks damning on paper.

Goldman makes a huge play of putting clients first. Most of its detractors counter that it puts the earnings of its business before anything else. The least the Abacus deal suggests is that Goldman ranks some clients before others.

It comes on the back of many other unsubstantiated but lingering jibes against the firm: that it has too many connections to government; that it got special treatment when AIG collapsed; and that it epitomizes the excesses of the global financial industry.

Goldman defends the charges against it, saying they "are not founded in law or fact". That may well be the case, and lawyers are going to make a fortune arguing the minutiae of the legalities.

For example: did hedge fund Paulson & Co choose the residential mortgage securities held within Abacus, or was it independent firm ACA Management that had the final say? What if Paulson gave a list of securities that it wanted in the deal, and Abacus chose some of them but no securities outside the list? That’s one for the legal experts to pore over.

But the allegations suggest that Goldman has at least broken the spirit of what investment banking is supposed to be. It recalls the fallout of the row over UK MPs’ expenses. Members of parliament may not have breached the laws of the system, but their gaming of it earned them the rightful opprobrium of the people it purports to represent the interests of, the UK’s population.

Win or lose, Goldman Sachs’s reputation is damaged by the allegations. It has launched a robust defence of its business, although chief executive Lloyd Blankfein showed just about the right amount of contrition when he appeared before Congress at the end of April. However the trader who put the deal together, Fabrice Tourre, may not have helped his cause when describing IKB as "one of the most sophisticated institutional investors in these products anywhere in the world". IKB, you may recall, was bailed out by the German government and its banks as early as August 2007. It was the first victim of the credit crunch. Not so smart, then.

But Goldman’s competitors should hold back from cheering at the difficulties of the firm they fear, admire and loathe at the same time.

To avoid an unfortunate case of Schadenfreude, non-Goldman bankers should consider the following:

First, cases like this are continually brought by disgruntled clients and, sometimes, regulators. They are usually settled out of court. That Goldman is fighting this case, given how damaging it is to the firm's reputation, suggests it believes it must have a very strong chance of winning.

Second, Goldman is highly unlikely to be the only bank involved in the structuring of trades like this. Around the world, other investment banks will be frantically looking through their books to find out if they have done something similar. They almost certainly will have done.

Third, the way that the SEC went about bringing the case should worry all banks – in the US and beyond. The action must be being brought with the blessing of the US’s highest authorities. Now that the Obama administration has its healthcare bill out of the way, it is refocusing its attention on banks. Goldman may be first, but others will join the line for the firing squad.

The case against Goldman is not good news for anyone working in banking. It has deflected attention away from the strong results posted recently by Citi, Bank of America, JPMorgan and, indeed, Goldman itself. The recovery in financial markets is fragile, if indeed it is real, and cannot easily withstand such shocks.

When the beads are counted, no one will win from Abacus.