By John Gapper
Published: October 14 2009 22:34
It will be business as usual for Goldman Sachs on Thursday morning. The bank will annoy a lot of people.
Goldman, the institution that came through last year’s financial crisis best – arguably the only pure investment bank left standing – will say how much money it made in the third quarter (a lot) and how many billions it has stored for bonuses (about $5.5bn towards a likely 2009 bonus pool of $23bn).
For believers in Goldman’s ethical standards and way of doing business, these are difficult times. Although it avoided the mistakes that brought down Bear Stearns and Lehman Brothers, forced Merrill Lynch into Bank of America’s arms, and prodded Morgan Stanley further into lower-risk retail broking, Goldman has become a whipping boy.
There is outrage that, having taken government money to survive the crash, Goldman is in such rude health that it will hand out billions in bonuses. Matt Taibbi, a Rolling Stone writer, caught the mood memorably by describing Goldman as “a giant vampire squid wrapped around the face of humanity”.
Such is Goldman’s importance to Wall Street and regulation that I am devoting a pair of columns to it. Today, I will discuss the Goldman problem (different and less egregious to what Mr Taibbi believes, but still a problem). Next week, I will suggest what should be done about it by regulators and the bank itself.
Goldman executives were wounded by how seriously Mr Taibbi’s piece was taken despite their riposte that vampire squids are small creatures that present no danger to humanity. He accused it of profiting from bubbles such as the US internet and housing booms, and of repeatedly “selling investments they know are crap” to retail investors.
But, amusing though his article was, Mr Taibbi mischaracterised Goldman. Its run of success since its 1999 initial public offering has not been based on “pump and dump” broking but on sticking obstinately to the institutional, less-regulated elite end of the market.
While others such as Morgan Stanley and Merrill have wavered, Goldman has steadily built a widely envied list of clients among blue-chip companies, hedge funds and private equity firms. It has used its superior network and information to invest, and trade with, its capital.
One rival Wall Street executive describes Goldman (with rueful a
dmiration) as “a bunch of clever thugs”. He means that Goldman has been tough about seizing profitable opportunities even if that involves, for example, bidding for an asset against a former client.Whatever Goldman is doing to make money, it works. Between 2000 and 2008, its average ratio of pre-tax profits to revenues was 29 per cent – one of the highest in the Fortune 500, even after allocating nearly half its revenues to bonuses.
That was a cause for concern before the crisis, but Goldman was playing in the big leagues and its clients, from large corporations to wealthy individuals, could – at least in theory – take care of themselves. Equally, its shareholders knew it was betting with their capital.
What changed things was the financial crisis. Hank Paulson, the former Goldman chief executive who was then Treasury secretary, first let Lehman Brothers founder and then rescued American International Group by settling at par its credit default swaps with banks including Goldman.
Goldman received $10bn in government capital (which it has paid back) and issued $21bn in bonds backed by the Federal Deposit Insurance Corporation. It turned into a bank holding company, and then a financial holding company to allow it to keep, among other things, its private equity arm.
From being a small Wall Street firm in which its employees risked all their own wealth by placing it in a partnership, it has become a large, Federal Reserve supervised bank with public shareholders and employees that expect to be richly rewarded each year.
Lloyd Blankfein, Goldman’s amiable and funny chief executive, has made thoughtful speeches about reform (including on this page this week), but said nothing I can detect about changing how it operates. Yet Goldman, much as it wishes to be, is no longer the same firm.
It has not yet been declared a “tier one financial holding company” – a systemically important institution that the Fed is supposed to watch over carefully – but that is a foregone conclusion.
The US government wants to create a resolution regime that would permit even such banks to fail in an orderly fashion, but it suffers from a credibility problem in Goldman’s case. Few people believe that it would actually go through with dismantling the most powerful financial institution of all.
Not only is it reasonable to suspect that Goldman, which has entwined itself with governments around the world by sending partners out into “public service” when they leave, would not be allowed to fail by its alumnae network, but the bail-out was prima facie evidence.
Thus, at the heart of the financial system, now sits a professionals-only, high-risk Wall Street firm with its own private equity and hedge funds arrayed on top of a nonpareil corporate and government client list, which taxpayers reasonably assume is gambling with their money.
You do not have to be a vampire squid-style conspiracy theorist to see the difficulty. Goldman wants to carry on as its old self (but bigger) in a world that has changed.
Next week: how do you solve a problem like Goldman Sachs?
Copyright The Financial Times Limited 2009.
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