Goldman accused of spreading rumours about rivals

Goldman Sachs, the most powerful investment bank on Wall Street, has found itself at the centre of a storm over the events that led to the collapse of Bear Stearns, as regulators issued subpoenas in the hunt for evidence of market manipulation.

The heads of Bear Stearns and another beleaguered bank, Lehman Brothers, confronted the Goldman Sachs boss Lloyd Blankfein with allegations that London-based traders were among those spreading rumours that were undermining confidence in their companies.

An angry Goldman Sachs denied the allegations yesterday and said it was confident that the Securities and Exchange Commission would find that the firm did not spread rumours about the two banks' financial position, and instead had actively helped to keep them trading.

The SEC has demanded trading records and emails from all the major investment banks and around 50 major hedge funds, as it examines whether traders stoked rumours that they knew to be false in the hope of profiting from the subsequent decline in share prices. Rumours that Bear Stearns was suffering liquidity problems in March quickly became self-fulfilling, when scared trading partners pulled their business.

With Wall Street's biggest firms still struggling to gauge the scale of their losses from the mortgage market collapse, the nervous atmosphere has created a toxic brew of speculation, rumour and innuendo – and no shortage of conspiracy theories.

Yesterday, though, brought the biggest-ever rally in financial company shares, after Wells Fargo, a major US bank, became the first to post results for the second quarter. They proved not nearly as bad as rumour had suggested, and far from showing signs of a liquidity crisis, the bank increased its dividend. That prompted a rebound across the sector and, with the added bonus of a falling oil price, led the Dow Jones Industrial Average to a 2.5 per cent gain.

Bear Stearns executives have told friends that they believe a conspiracy of short sellers to have been behind the rumours that felled their company, and Alan Schwartz, Bear's short-lived chief executive, contacted the SEC and confronted Mr Blankfein with his suspicions, according to a newspaper report yesterday.

The allegations centre on Goldman's London-based trading in Bear Stearns credit default swaps – financial contracts which insured investors against a debt default by Bear Stearns.

Dick Fuld, the chief executive of Lehman Brothers, has confronted traders who he believes have spread rumours about his firm's financial position. Although Lehman shares have been pummelled, amid disappointing fin-ancial results and concerns over its future earnings potential, the company has averted a full-blown collapse in confidence.

Mr Fuld, too, tackled Mr Blankfein, saying he had heard "a lot of noise" in the market about the activities of Goldman's traders.

"It is all absolutely ridiculous," a Goldman Sachs spokesman said yesterday. "Any suggestions that we started any rumours are ridiculous. The most senior executives at Bear Stearns and Lehman Brothers know that we went out of our way to help them and, in the case of Lehman Brothers, continue to go out of our way."

While Bear Stearns was a competitor, it was also a counter-party to many Goldman Sachs trades and, in some areas, a client, which meant Goldman had no interest in seeing it go out of business, the spokesman said.

There was a mixed reaction yesterday to the SEC's order, late on Tuesday, that it would temporarily ban so-called "naked" short selling of shares in 19 companies considered pivotal to the financial system. Traders will now be required to prove they have borrowed real shares before putting in a sell order. The ban will make it slower and more costly to conduct short selling and – its proponents believe – will reduce the downward pressure on stocks.

One popular traders' blog called it the "Paperwork Production Act of 2008".