Bailout

How Goldman offloaded its toxic assets

By Felix Salmon

Chris Nicholson finds a particularly damning email in the mountains of evidence released by the Senate investigations committee. It’s written by someone on Goldman Sachs’ European sales desk:

Real bad feeling across European sales about some of the trades we did with clients. The damage this has done to our franchise is very significant. Aggregate loss of our clients on just these 5 trades along is 1bln+. In addition team feels that recognition (sales credits and otherwise) they received for getting this business done was not consistent at all with money it ended making/saving the firm.

Clearly Goldman’s clients aren’t buying what Lloyd Blankfein is selling: the idea that they’re just arm’s length counterparties who know what they want to buy and are just looking for the best price. Illiquid things like CDOs are sold as much as they’re bought, and Goldman’s highly-paid sales team was aggressively going out and selling instruments which were at one point on Goldman’s balance sheet and which wound up cratering in value.

The effects were twofold: firstly, the Goldman clients who got stuck with this nuclear waste when the music stopped were understandably none too impressed with Goldman. And secondly, Goldman managed to stick the losses on those instruments to its clients, rather than taking those losses itself, and as a result its profits were billions of dollars higher than they would otherwise have been.

Was the hit to Goldman’s franchise value a hit worth taking, given the billions of dollars it saved? Probably yes, until the SEC and Carl Levin came along. But clearly the European sales team which was responsible for successfully offloading this nuclear waste wanted to see some part of those billions of dollars in savings for itself. Because, like all Wall Streeters, they care more about their annual bonus than they do about their employer’s franchise value.

Here’s a question, though. Let’s say you work at an investment bank and you’re in charge of a book which includes a $1 billion barrel of toxic nuclear waste. You know that barrel is going to zero sooner or later, and you manage to sell it to some European dupes just in time, for full face value, saving your bank from $1 billion in losses. How much of a bonus, if any, should you get on that deal, and where should the money come from? And should you feel bad about avoiding the losses and sticking them to your clients instead?

Full post as published by Macroprudential on April 28, 2010 (boomark / email).