Goldman Traders Tried to Manipulate Derivatives Market in '07, Report Says
By Christine Harper and Joshua Gallu - Bloomberg
Goldman Sachs Group Inc. (GS) mortgage traders tried to manipulate prices of derivatives linked to subprime home loans in May 2007 for their own benefit, according to a U.S. Senate report.
Company documents show traders led by Michael J. Swenson sought to encourage a “short squeeze” by putting artificially low prices on derivatives that would gain in value as mortgage securities fell, according to the report yesterday by the Permanent Subcommittee on Investigations. The idea, abandoned after market conditions worsened, was to drive holders of such credit-default swaps to sell and help Goldman Sachs traders buy at reduced prices, according to the report.
“We began to encourage this squeeze, with plans of getting very short again,” Deeb Salem, a trader in the structured product group, said in a 2007 self-evaluation excerpted in the report. Swenson, Salem’s supervisor, sent e-mails in May 2007 urging traders to offer prices that will “cause maximum pain” and “have people totally demoralized.” In interviews with the committee, Salem and Swenson denied attempting a short squeeze, the report said.
Salem “claimed that he had wrongly worded his self- evaluation,” the report said. “He said that reading his self- evaluation as a description of an intended short squeeze put too much emphasis on ‘words.’”
The subcommittee cited the episode as an example of how Goldman Sachs traders placed the firm’s interests ahead of its clients’ as the value of mortgage-linked investments tumbled in 2007. The subcommittee, led by Senator Carl M. Levin, a Michigan Democrat and Tom Coburn, Republican of Oklahoma, has called on regulators to craft strict bans on proprietary trading and conflicts of interest to keep the problems from recurring.
‘Poor Quality Investments’
“Conflicts of interests related to proprietary investments led Goldman to conceal its adverse financial interests from potential investors, sell investors poor quality investments, and place its financial interests before those of its clients,” according to the subcommittee.
Goldman Sachs traders abandoned the short-squeeze attempt after discovering on June 7, 2007, that two Bear Stearns Cos. hedge funds that specialized in subprime-mortgage investments were collapsing. Salem e-mailed Swenson and another colleague to suggest trying to buy short positions, known as “protection,” on collateralized debt obligations, or CDOs, from hedge fund Magnetar Capital LLC, according to the subcommittee’s report.
“We need to go to magnetar and see if we can buy a bunch of cdo protection… Can tell them we have a protection buyer, who is looking to get into this trade now that spreads have tightened back in.”
Swenson expressed “no concerns about the proposed deception” and responded to Salem that it was a “great idea,” according to the report.
The report comes almost a year after the committee spent more than 10 hours grilling Lloyd C. Blankfein, Goldman Sachs’s chairman and chief executive officer, and six current and former employees in one of the most hostile political showdowns in the aftermath of the financial crisis.
That hearing happened 12 days after the Securities and Exchange Commission sued New York-based Goldman Sachs for fraud in a case that the firm settled for $550 million in July.
In an effort to address questions raised by the SEC lawsuit and the subcommittee, Blankfein convened a committee of Goldman Sachs executives to review the firm’s practices. In January, the firm published 39 recommendations aimed at better managing conflicts and client relationships, as well as governance and employee training.
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