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For Goldman Sachs, This Has Been a Challenging Period

Posted by Larry Doyle on January 12, 2011 7:35 AM |

What is a reputation worth?

I have always maintained that people and institutions ultimately have the reputation that they deserve. While there are always instances of misunderstanding or miscommunication, reputations are not built upon individual instances or single interactions. Reputations develop over time.

The last few years has been a period of time during which large holes have been blown in the heretofore seemingly impenetrable fortress known as Goldman Sachs. Now Goldman is on the defense to repair those holes which have exposed the unseemly innards of its firm. What have we learned? What is the most glaring hole? Let’s navigate as the Financial Times highlights, Goldman Tries to Answer Its Critics:

“For Goldman Sachs, this has been a challenging period.”

Wall Street is not known for understatement, but Goldman’s summary of the year just gone – contained in a wide-ranging report on internal reforms unveiled on Monday – is one of the biggest euphemisms in recent memory.

In the past 12 months, Goldman has gone from being the world’s most admired and feared investment bank to having to rebuff civil fraud charges, endure a political furore against its way of doing business and face public hostility towards its pay practices.

The internal report by Goldman’s business standards committee – portions of which have been seen by the Financial Times – was aimed at answering its many critics by changing its oversight structures and financial reporting.

Gerald Corrigan, the group’s co-chairman, called its 39 recommendations, which include the creation of several internal committees, a change in how it reports results and interacts with clients, “pretty damn aggressive stuff”.

The committee itself was a sign that Goldman had to react to public pressure. It was formed in May, a month after the Securities and Exchange Commission alleged Goldman had defrauded investors in a mortgage-backed security. When Goldman settled, paying a $550m fine in July, the SEC said that in setting the penalty, it had taken into account the bank’s efforts to reform its ways.

(I highlighted the specific topic of reputational risk for Goldman Sachs in a CNBC interview last March.)

Goldman’s $550 million fine may have appeared steep, but I honestly believe it was a cheap price to pay for Goldman and the entire industry to gain regulatory cover on the potential–dare I say likely– improprieties embedded in the structuring and distribution of CDOs (collateralized debt obligations) on Wall Street. Will America ever truly learn what happened with these deals? Will we ever learn of the true relationships between the CDO managers and Wall Street dealers? Will we ever unearth how the pools of collateral were selected for these deals and how that information was shared –or not shared–with investors? I am not optimistic that either the SEC or FINRA has the wherewithal or the inclination to truly go after the industry on all these questions and expose potential frauds in the process. But I digress, back to Goldman Sachs and its internal review.

Goldman executives said that the more radical changes were in the nitty-gritty.

Goldman will, from now on, discuss investors’ “suitability” for particular products instead of relying on the old and simplistic division between “retail” and “professional” investors – one of the flashpoints of the SEC probe.

What does Goldman mean that “from now on” it will discuss investors’ suitability for particular products? Upon reading that, how can one make any other assumption than that Goldman is admitting that it has not utilized the “suitability standard” to this point. What are the implications for Goldman in making this admission? Our Investing Primer highlights:

Legal Dilemmas
What does the law have to say about unsuitable investments? If an investors goes into an investment purely on his or her own initiative (known as execution only) and no one has advised the person to do so, there isn’t much the law can do. On the other hand, if a broker or bank advises an investor into an unsuitable investment, that financial professional could be liable for the investor’s losses, provided the person can prove the investment really was unsuitable and that the broker or advisor did not make the risks clear.

Goldman may have hoped it was repairing its reputation while putting a whole host of issues behind it with the release of this internal review. With that statement regarding suitability, though, it may have just opened an entirely new beehive.

Whether it was the marketing of CDOs or arbitrarily utilizing the suitability standard, Goldman may be taking the heat  — but every firm on Wall Street was playing these games.

Larry Doyle

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I have no affiliation or business interest with any entity referenced in this commentary. The opinions expressed are my own and not those of Greenwich Investment Management. As President of Greenwich Investment Management, an SEC regulated privately held registered investment adviser, I am merely a proponent of real transparency within our markets so that investor confidence and investor protection can be achieved.

  • Goldie

    Well, I would assume the business GS did with a lot of their retail clients was certainly “suitable” for the firm.

    GS is taking the heat but, come on, this stuff was happening at every shop on the street.

    • G’sspoton

      Unfortunately, it’s a moot point because regulators have their backs turned to firms like Goldman. And unless transparency can trump incest, the american public will continue to be at risk.

  • Pete

    It is still good to be Goldman Sachs. Their friends in Washintgon have their back…because they all want to work at GS after they are done.

    That is how the revolving door works.

  • Every GS retail investor I know complains bitterly of their losses, the indifference and/or disrespect shown to them by their money managers, and the firm’s virtually incomprehensible portfolio statements. And yet these same investors, with a few exceptions, cling to GS in the blind hope that the gold in Goldman will rub off on them. In a way, these GS clients remind me of those who were suckered by the Madoff syndrome; that is, Bernie’s victims believed doing business with him elevated their status. Same for GS clients. Those who don’t know better believe their connection to the firm signals to others that they have “arrived.” Well, good luck at your destination.

  • coe

    I feel compelled to comment, LD, and my concerns are not narrowly directed at Goldman, but to the shifting sands on Wall Street as a whole. There is a five step dance at work here, in my mind – curious as to your thoughts…I’m not sure there is a perfect correlation, but it strikes me, LD, that the nature of serving clients changed for the worse as firms like Goldman, Salomon, Kidder, Shearson, Lehman and others changed from a partnership, where the private capital of the principals was at stake, as was their storied and often well-earned reputations, to the ownership format of a public company. That, in my studied opinion, was step one down the slippery slope. The resulting capital infusions provided for all that more leverage, and inch by inch the new leadership at these companies soon realized how they could game the compensation systems for their personal aggrandizement – all in the name of serving the shareholders, when in fact, most of the shareholders were victims of this greed! Behavior in the human condition is always driven by incentives, and for these firms, incentives steadily were drawn away from the client toward revenue creation for the individual/unit (silo). The third step in the decline and fall of Wall Street centered on the fact that product development and synthetic leverage, and complex derivatives and CDOs and mortgage basket bonds, and all sorts of creative “solutions” quickly outpaced the old guard’s ability to understand and manage these complex and multiple risks – don’t even start to ask if the clients to whom they were sold had a full grasp? Duh!! The fourth step was the zero sum game of “as long as the firm wins, I win”, and “if a client loses to accomplish this, who cares – we are so big and bright and plugged in that another client will have to do business with us tomorrow”. On this score I would believe that Goldman was the leader in the clubhouse. The final step in this five point program is that with all of the bloodletting/turnover/bankrupt dealers/pendulum swinging to a more militant regulatory framework/public outrage/ et al, I am convinced that those remaining in the industry are younger, less experienced, naive as to cyclical lessons, technocrats vs people persons, and woefully untrained regarding suitability, fairness, and frankly, just what it means to offer “service” to a client. These are cold-blooded jobs, not “banking” vocations – and the client, well…if they get hurt, that’s just a shame!

    For the record, if Goldman gets tripped up on some mistake in language, I’ll eat my hat.

    And, as for a question of balance, I personally know, as I suspect do you, many fine people who do care and who work/worked at Goldman and Lehman, Salomon and Bear…but they were not nearly broad enough in numbers nor in power to stem the tide of self-serving ethical disgrace!

    • LD

      Dear Sir,

      I shall say that you nailed it and that all those currently studying investment and finance at our colleges and universities (undergraduate and graduate level alike) would be well served to read, review, and embrace your wisdom. I mean this sincerely.

      Your ‘navigation’ encompasses an inordinate amount of ‘sense on cents’ and a fabulous historical review of life on Wall Street over the last twenty plus years.

      Well done, sir, well done!!

      I am compelled to induct you immediately into the Sense on Cents Hall of Fame!!

      • coe

        I am honored and humbled, LD…I suspect I should be housed in the “Sense” wing and just squeaked in by a narrow margin as part of the Veteran voting process…I do read tons of financial press and blogs, and have been drawn to yours since you opened it up several years ago…so it is a defining moment for me…integrity, truth, transparency – simple principles but so necessary in today’s world…keep up the good fight, LD!

    • fred


      Maybe it’s too simplistic but what about an expected risk ranking system issued by the broker on every investment; if the realized risk exceeds the max expected risk, the broker must make good on the difference.

      A: 0-5% B: 5-10% C: 10-25% D: 25-50%
      E: 50%+ F: 100%+

      My guess, brokers would err on the side of caution to reduce their risk of loss thus bringing the expected risk much closer to the real risk.

      • LD


        This is why they call it “sales“!!

      • coe

        I like the concept, Fred, but the implementation would be a nightmare and many questions would be raised…what if two different brokers had different levels of risk ascribed to similar investments? and how would the rating agencies play in the same sand box…the only reason that Bank of america is willing to settle on Countrywide claims is that somewhere in their minds, they believe the bottomless pit of culpability would cost them a lot more than throwing a blanket check, albeit a sizeable one, at their problem to put it behind themselves…the idea of long duration contingent credit liabilities as a new wrinkle to the balance sheets of broker/dealers is something, I believe, that the industry would fight to the bitter end

        • fred


          Let the battle begin…

          1)Two different risk ranks by different brokers, no problem, they would have to honor the risk rank they assigned for a specified period certain. 2) Ratings agencies would no longer be necessary. 3) A broker’s capital ratios would be a function of a) their own risk rank (isn’t that what their doing now with mark to model?), and b)deviation from a market average (let’s get those Fed Phd’s doing some real work).

          To LD’s point, “That’s why they call it sales”, shouldn’t investment sales be held to standards of honesty, integrity, and transparency as well? Investment value follows a very clear and simple path: fundamental undervaluation, market growth, momentum investing and finally “greater fool”. The game is always designed so that the greater fool is the general public through direct investment or through the central bank mechanism via the “too big to fail doctrine”. The central bank’s tools of loss transferal, currency debasement, inflation, deficit financing and ultimately taxation.

          I’m not sure much has changed, a combination of ignorance and ease of manipulation are the unspoken reasons soldiers and investment brokers have always been young.


  • Kathy

    I heard a Goldman Sachs rep on CNBC this morning promoting the purchase of… MORTGAGE BACKED SECURITIES. He said, true, they’re worth about 60 cents on the dollar, but if you can sell them for 80 cents, you’re making a profit.

    So GS helps collapse the economy, and then skims the trash heap for fee-producing garbage. Not the way to build a reputation. At least, not a good reputation.

    • coe

      …and I heard an institutional client comment on TV and suggest that Goldman thought they should buy a”structured” credit bond to diversify the risks in the pool…isn’t that trying to solve the problem with the same type of instrument that contributed to the problem?! …again, to my point, the newer breed does not have the perspective nor experience nor band width to actually “care” about clients…as LD points out – that’s why it is “sales”

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