The Goldman Sachs Civil Suit

I usually don't like to get too far into disecting the news on this blog, but the decision to file a civil suit against Goldman Sachs for fraud is very unique. The firm brokered tons of deals where they sold complex CDOs filled with dangerous mortgages that would eventually default. What makes all this so incredible is that Goldman could create and sell these packages for huge money and have them all insured through AIG to hedge any potential risk. We know how that worked out for AIG. It's amazing how such a small percentage of your total business can take-down an entire company when things turn sour. Sure, Goldman also hurt for a few quarters in the heart of the meltdown but they have turned the corner quite easily since. AIG, on the other hand, needed a ton of money from the U.S. Government and still may not make it.

So, in the heat of the growing CDO/housing bubble, a few investors started investigating the possibility of shorting these securities and the firm allowed that too! They were essentially on both sides of a deal in which they knew at least one particpant was going to lose a lot of money. Being involved in the sale and the shorting of the same asset means one of your clients is going to make money and the other is going to get killed. It's a zero sum game. Goldman was so oblivious (or didn't care) in the beginning that they let the shorters cherry-pick the CDO's they wanted. These guys went after the most toxic of the group and made BILLIONS.

But, is Goldman really at fault here? There are definately some moral obligations that were not lived-up to in this scenario, but can you place the entire blame on the firm? I don't think so. Times were too good and large investors were willing to buy anything. You have to do some research and understand what you are buying. As a small-scale stock picker, I know how much due-diligence I do before spending any of my money on a company. I am sure the salesman were slick and the prospectus was glossy, yet I can't help but think there has to be some blame placed on the money managers looking to show-off big returns.

While it's not great to think about the pools of money the shorters made off betting against the American Dream, you have to applaud their intelligence and rebelliousness. These investors went against everything they read and heard on a daily basis and took the time to understand the asset and what comprised it. They saw a bubble and did not wait for it to pop.

The civil lawsuit could be a big turn. So many people are scrutinizing whether any sort of sustainable regulation was put in place since the financial crisis. The simple answer is probably not. Until the firms have to be completely transparant on every deal, especially complex combinations of debt, there will never be complete oversight. Now, at least, there is the possibility of financial penalties for being too good of a salesman (be it a deceptive saleman). The lawsuit may open the floodgates to many other civil suits. In the end, though, it will be business as usual for financial firms so large that they constantly have to come up with new forms of innovation to keep the revenue train moving forward.