Goldman Sachs was last night fighting a new firestorm of public criticism, and this time one that threatened to hit it where it hurts most - in its profits. Hours after a London executive published an extraordinary resignation later in The New York Times, saying that its bankers routinely brag about "ripping off" clients, Goldman was in full-scale damage limitation mode, trying to reassure its clients that the portrait of a "toxic" internal culture was a fiction peddled by a disgruntled and marginal employee.
Greg Smith, who ran US equity derivatives trading for Goldman, said the atmosphere at the world's most powerful investment bank was "toxic and destructive" and that the company had to be reined in if it isn't going to destabilise the financial system. In his 12 years at the firm, Mr Smith said, he had witnessed a collapse in moral standards.
"It makes me ill how callously people talk about ripping their clients off," Mr Smith wrote, adding that it was common to laughingly call even sophisticated investors "muppets".
He went on: "You don't have to be a rocket scientist to figure out that the junior analyst sitting quietly in the corner of the room hearing about 'muppets', 'ripping eyeballs out' and 'getting paid' doesn't exactly turn into a model citizen."
Mr Smith's letter proved a social media sensation, read and debated across Wall Street and the City of London yesterday. For Goldman, it represented a serious assault on its preferred self-image as an honest broker whose job is simply bringing together the buyers and sellers of important investment products.
Lloyd Blankfein, the chief executive, has argued that the bank can weather the public opprobrium raining down on Goldman as long as it keeps the trust of its clients.
While politicians raged about the size of bankers' bonuses, and Goldman itself was memorably dubbed "a giant vampire squid" by one commentator, the bank nonetheless rebounded strongly from its near-death experience during the financial crisis.
Last year, it earned revenues of almost $29bn, and distributed more than $12bn to its staff, in the form of pay and bonuses – as much as the GDP of Albania. The bank makes its money by taking a cut of all the trades it brokers for investors and from advisory fees on big corporate mergers and fundraisings, but it has been repeatedly accused of conflicts of interest and of foisting dangerous products on unsuspecting investors. Mr Blankfein was accused by the chairman of the Financial Crisis Inquiry Commission in the US of acting like a "used car salesman" knowingly selling vehicles with dodgy brakes.
Goldman shares fell 3.5 per cent by lunchtime in New York yesterday, and in an urgent attempt to quell the furore, Mr Blankfein and his deputy, Gary Cohn, circulated a memo to the bank's employees and ordered the public distribution of the piece so that it would also be read by clients.
"In a company of our size, it is not shocking that some people could feel disgruntled. But that does not and should not represent our firm of more than 30,000 people... It is unfortunate that all of you who worked so hard through a difficult environment over the last few years now have to respond to this. But, our response is best demonstrated in how we really work with and help our clients through our commitment to their long-term interests."
Privately, Goldman executives were also rubbishing Mr Smith's influence within the bank, saying he was one of 12,000 employees at the level of vice-president. They also pointed out that he had quit only after the annual bonus pay-outs had been made last month.
Mr Smith said he had been one of 10 people used on a recruiting video shown to new hires, and acted as a mentor to junior analysts when they joined the firm, but that these new recruits now saw that the quickest way to advancement was making as much money from clients as possible in the short term.
"When the history books are written about Goldman Sachs, they may reflect that the current chief executive officer, Lloyd Blankfein, and the president, Gary Cohn, lost hold of the firm's culture on their watch. I truly believe that this decline in the firm's moral fibre represents the single most serious threat to its long-run survival." Charles Geisst, professor at Manhattan College and author of Wall Street: A History, said Mr Smith may not be successful in his proclaimed intention to be a wake-up call to Mr Blankfein. "He is describing the attitude that Wall Street has always had towards its clients, and the Wall Street culture is not going to change. You only have to look back at the number of scandals, going all the way back to the Eighties – the 1680s."
What Greg Smith said... ...and the evidence that he's right
Smith: "Execute on the firm's 'axes', which is Goldman-speak for persuading your clients to invest in the stocks or other products that we are trying to get rid of because they are not seen as having a lot of potential profit."
Evidence: In 2008, Goldman sold its clients $600m of mortgage-related investments from a vehicle called Timberwolf – despite having grave doubts about the quality of the investments. "Boy, that Timberwolf was one sh***y deal," one trader wrote in an email while they were selling.
A trio of traders at the bank made a $4bn profit in 2007 from bets against the mortgage market – while other parts of Goldman were still creating and selling mortgage investments.
Smith: "'Hunt Elephants.' In English: get your clients – some of whom are sophisticated, and some of whom aren't – to trade whatever will bring the biggest profit to Goldman."
Evidence: In 2002, Goldman channelled $1bn of funding to the Greek government in a transaction called a cross-currency swap. Such deals are an expensive way of raising money, but they have the advantage of not having to be accounted for as debt, helping Greece to skirt eurozone rules – for a while.
Goldman persuaded Muammar Gaddafi's regime to let it invest $1.3bn of Libya's oil wealth in currency bets and other derivative investments, but the bank lost 98 per cent of the money when those bets turned spectacularly wrong.
Smith: "Find yourself sitting in a seat where your job is to trade any illiquid, opaque product with a three-letter acronym."
Evidence: Goldman created Abacus, a kind of mortgage vehicle called a CDO, and investors, including Royal Bank of Scotland, promptly lost $1bn when the mortgage market collapsed in 2007. The bank paid $550m to settle fraud charges in the US, and admitted it had not properly disclosed that it helped one of its big hedge-fund clients to bet on Abacus to fail.
Fabrice Tourre, a Goldman bond trader, admitted in emails to a girlfriend that the products he was creating were incomprehensible – even to him.
He said he was "standing in the middle of all these complex, highly leveraged, exotic trades" he created "without necessarily understanding all of the implications of those monstrosities!!!"
The letter: 'As toxic and destructive as I have ever seen it'
Today is my last day at Goldman Sachs. After almost 12 years at the firm I believe I have worked here long enough to understand the trajectory of its culture, its people and its identity. And I can honestly say that the environment now is as toxic and destructive as I have ever seen it.
To put the problem in the simplest terms, the interests of the client continue to be sidelined in the way the firm operates and thinks about making money. The firm has veered so far from the place I joined right out of college that I can no longer in good conscience say that I identify with what it stands for.
How did we get here? The firm changed the way it thought about leadership. Leadership used to be about ideas, setting an example and doing the right thing. Today, if you make enough money for the firm (and are not currently an axe murderer) you will be promoted into a position of influence.
I attend derivatives sales meetings where not one single minute is spent asking questions about how we can help clients. It's purely about how we can make the most possible money off of them.
Over the last 12 months I have seen five different managing directors refer to their own clients as 'muppets', sometimes over internal e-mail. I don't know of any illegal behaviour, but will people push the envelope and pitch lucrative and complicated products to clients even if they are not the simplest investments or the ones most directly aligned with the client's goals? Absolutely. Every day, in fact.
These days, the most common question I get from junior analysts about derivatives is, 'How much money did we make off the client?' It bothers me...because it is a clear reflection of what they are observing from their leaders about the way they should behave. Now project 10 years into the future: You don't have to be a rocket scientist to figure out that the junior analyst sitting quietly in the corner of the room hearing about 'muppets', 'ripping eyeballs out' and 'getting paid' doesn't exactly turn into a model citizen.
I hope this can be a wake-up call to the board of directors. Make the client the focal point of your business again. Weed out the morally bankrupt people, no matter how much money they make for the firm. And get the culture right again, so people want to work here for the right reasons.
People who care only about making money will not sustain this firm – or the trust of its clients – for very much longer.
*This is an edited version Greg Smith's open letter to the New York Times