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Getting Goldman’s Call

Posted by Larry Doyle on August 24, 2009 7:57 AM |

Goldman Sachs remains the focus of media attention. How do these wizards of Wall Street make so much money? What goes on inside 85 Broad Street? Is everything on the up and up? Are they smarter than everybody else on Wall Street? Does Goldman have better systems?

I addressed the Goldman business model on July 6th when I wrote, “How Does Goldman Sachs Operate?” I specifically highlighted:

Goldman decided to utilize its capital and balance sheet less so for origination capabilities and much more for principal trading (that is, making bets and taking positions with its own capital). Effectively, Goldman decided to operate much more like a large multi-strategy hedge fund. Goldman took enormous risks both in their proprietary books but also in their trading activity with customers. Goldman made a concerted decision to dominate the markets in which they chose to play.

If a firm is going to take large principal risk positions both within proprietary books and customer books (trading accounts used to trade with clients), two factors are of overwelming importance: information and relationships.

Goldman worked both of these angles very, very hard. Goldman developed extremely close relationships with the largest customers in the market and the largest power brokers in Washington and around the globe.

Many of Goldman’s relationships are with very active trading hedge funds. These funds know one goal–making money. Are rules violated? I’m sure they have been.

This morning, The Wall Street Journal reports Goldman’s Trading Tips Rewards Its Biggest Clients:

Goldman Sachs Group Inc. research analyst Marc Irizarry’s published rating on mutual-fund manager Janus Capital Group Inc. was a lackluster “neutral” in early April 2008. But at an internal meeting that month, the analyst told dozens of Goldman’s traders the stock was likely to head higher, company documents show.

The next day, research-department employees at Goldman called about 50 favored clients of the big securities firm with the same tip, including hedge-fund companies Citadel Investment Group and SAC Capital Advisors, the documents indicate. Readers of Mr. Irizarry’s research didn’t find out he was bullish until his written report was issued six days later, after Janus shares had jumped 5.8%.

[Goldman's Trading Tips Reward Its Biggest Clients]

Every week, Goldman analysts offer stock tips at a gathering the firm calls a “trading huddle.” But few of the thousands of clients who receive Goldman’s written research reports ever hear about the recommendations.

At the meetings, Goldman analysts identify stocks they think are likely to rise or fall due to earnings announcements, the direction of the overall market or other short-term developments. Some of their recommendations differ from ratings printed in Goldman’s widely circulated research reports. Some Goldman traders who make bets with the firm’s own money attend the meetings.

Critics complain that Goldman’s distribution of the trading ideas only to its own traders and key clients hurts other customers who aren’t given the opportunity to trade on the information.

Securities laws require firms like Goldman to engage in “fair dealing with customers,” and prohibit analysts from issuing opinions that are at odds with their true beliefs about a stock. Steven Strongin, Goldman’s stock research chief, says no one gains an unfair advantage from its trading huddles, and that the short-term-trading ideas are not contrary to the longer-term stock forecasts in its written research.

Former Goldman client George Klopfer of Park City, Utah, who was unaware of the trading tips until recently, says the practice is unfair. “When I joined Goldman as a client, I got all these fancy brochures saying they put the client first,” he says. “I just don’t want to have to worry about them or big clients trading on stuff like this. I was at the end of the food chain.” He says he pulled out most of the $20 million in his account earlier this year after losing money on several Goldman funds. Goldman says individual clients like Mr. Klopfer typically have a long-term investing approach and are not focused on individual stocks.

I take the following away from this WSJ commentary:

1. Emphasis on short-term trading currently dominates Wall Street in general and Goldman Sachs specifically. High frequency trading is widely regarded to represent close to 70% of overall stock exchange volume.

2. One needs to question whether Goldman is running a version of the ‘pump and dump’ scheme under the guise of ‘short term trading.’

3. Although Goldman admits to running specific ‘trading huddles’ for only the last two years, the fact is Goldman has utilized this business model for a lot longer than that.

4. Goldman is treading very closely on the regulatory line which addresses the dissemination of information to the investing public. No surprise here as Goldman has always operated on the edge.

In order to navigate our own personal economic landscapes, we need to understand how the large financial players operate. This WSJ article is totally consistent with my views of Goldman’s operation.


  • Petricone456

    A good analyst will always talk to traders dealing in the stocks that they follow and vice versa. This will always occur. Having worked in equity research at several different investment banks (none of them Goldman) I can say the practice of ‘trading huddles’ is quite common. Banks are always looking for ways to cross-sell their services and add more value to their clients, so I wouldn’t be surprised if things were going much further than just a trader giving his top clients a ‘heads up’ call from an analyst. I think that analysts and traders justify such actions because there is significant pressure to not shift investment ratings too quickly.

  • Larry Doyle

    Thanks for your insights, especially based upon your experience.

    I guess the question begs, though, as to the consistency of the message and the proprietary dissemination of information.

    Wall Street paid huge fines after the crash of the Nasdaq for propping stocks in a very indiscriminate fashion.

    I think there is a fine line in the research game. Is goldman or any other shop stepping over the line? I am sure they all do at certain points. How far and how often is the question.

  • Randy Bowman

    You are not going to be allowed to pull back the cover on what the pre-eminent firm in the business is really doing and they not only know that, they engineered that protection through placement of key alums over time into the governmental areas of oversight and control to whom the regulators report.

    We can all sit on the sidelines wondering just how far Goldman pushes the envelope but until such time as it ever comes down to the government bureaucracy saving its own behind by giving up Goldman we will never really know how far the “rule bending” really goes. Besides.. if anyone was really sure of anything of the kind and they weren’t “afraid” to say so, wouldn’t they refer to it as “law breaking” instead of rule bending? Just a minor point to ponder.

    It is perhaps safe to say that all such firms get away with whatever they can and that they are much more conservative and generic about what they put in print versus what they will tell traders and select, premium clients (on a verbal, face to face and unrecorded basis.) I dare to hazard a guess that such “premium clients” even “expect” to be accorded that special treatment, despite the laws and rules that they feel are in place to regulate “others”.

    I think there is little doubt that certain parties actions are, to at least some degree, ignored, as though they are above the letter of the law and IMHO it will remain so until such time as some brave party truly ferrets out undeniable proof that such actions are not only taking place but that they are ensuring undue benefit to those who follow said priviledged advice. However, then that investigative party has to get that proof disseminated by the national media for if it is simply moved up to a higher level in the government it will likely “disappear” into thin air. If the proof just happens to involve key governmental parties or even worse, top corporate advertisers, the information may still never see the light of day. I have little doubt that a highly talented and very expensive group of PR and Media people stand at the ready to malign and discredit most any party that might surface such information if it ever leaked out into any credible form of public media distribution.

    In the interim, all the guesses and expert opinions will provide little more than a bit of journalistic entertainment and my bet is things will pretty much stay that way regardless of the dog and pony show Congress may put on for the public about tightening up the fairness controls in the markets.

    I suspect the government is also loathe to do anything that might prove burdensome to the market as the market rally is virtually all they have to crow about these days given the dismal condition of the underlying economy.

    • Larry Doyle


      On the topic of regulatory malfeasance, I have written extensively about the investment activities at FINRA. This Wall Street SRO had investments in auction-rate securities, hedge funds, fund of funds, private equity.

      None other than harry Markopolos said this sro was ‘in bed with the industry.’ I unearthed FINRA’s investments from reading their Annual Reports. My instincts tell me that there are more than a handful of answers to some serious questions on Wall Street inside of FINRA’s portfolio.

      I’m still digging.

  • Phil

    Are they driving 60 in a 55 zone? Who’s to blame; the driver or law enforcement? If you never get a ticket driving 60, is the speed limit really 55 or is it 60?

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