Goldman Sachs did not make "big money" from betting on the collapse of the mortgage market, its chief executive insisted last night, after coming under fire from angry lawmakers and protesters on Capitol Hill.
On a day of political theatre that ranked among the most dangerous in the mighty investment bank's 141-year history, Lloyd Blankfein and a string of other Goldman executives were brought before Congress to answer claims that they bet against their own clients and contributed to the worst economic crisis since the Great Depression.
The hearings gave Americans their first glimpse of the traders accused of poisoning financial markets with toxic mortgage derivatives and then making billions for the firm as the markets collapsed. Witnesses were greeted by protesters wearing prison uniforms and chanting: "We want to see these guys behind bars."
To a man, Goldman's traders insisted that they behaved ethically. The youngest of their number, the 31-year-old trader who called himself "Fabulous Fab", came out fighting against the civil fraud charges that have been laid against him specifically. "I have been the target of unfounded attacks on my character and motives," Fabrice Tourre said. He is charged along with Goldman of misleading investors in a mortgage deal that went sour with losses of $1bn.
Wall Street's appetite for mortgage derivatives stoked a long and unsustainable US housing boom. Financiers required more and more home loans that could be bundled together and then sliced and diced for sale across the world. As a result, borrowers were offered mortgages they could not afford, and when they began defaulting in unexpectedly high numbers in 2006, the financial edifice built on top of their loans began to crumble.
Dan Sparks, head of Goldman's mortgage division, along with Michael "Swenny" Swenson, Josh Birnbaum and Mr Tourre, realised earlier than many at rival banks that the mortgage market was headed for collapse. Their efforts to protect Goldman made the bank an estimated $3.7bn in 2007, more than offsetting other losses.
What protecting Goldman from risk meant, in practice, was placing bets that the investments it was selling to clients would fall in value, according to the chairman of the Senate's investigations subcommittee, which is holding hearings to root out the causes of the credit crisis.
"Instead of doing well when its clients did well, Goldman Sachs did well when its clients lost money," said Senator Carl Levin. "Its conduct brings into question the whole function of Wall Street, which traditionally has been seen as an engine of growth, betting on America's successes and not its failures."
In more than five hours of testimony, the traders were barraged with questions and accusations that they had loaded the dice against their clients, not just in the single transaction that is the subject of the fraud charges but in numerous others in 2007. Lawmakers dipped into a treasure trove of internal emails to make their case. In what became a leitmotif for the hearing, Goldman traders were shown to have sold a mortgage investment that their bosses had already described in an email as "a shitty deal".
Chief financial officer David Viniar caused a gasp in the hearing room after being asked how he felt that traders had been selling what they thought was a "shitty" investment. He said: "I think that is unfortunate to have in an email." He later apologised, saying he didn't mean to imply he was only upset that the trader had written it down.
In another awkward moment for Goldman, Mr Sparks was asked whether the bank had a responsibility to act in the best interests of its clients – and he declined to say yes. After a long pause, he responded only that: "I believe we have a duty to serve our clients well."
Accusations that Goldman was secretly betting against its clients make for potentially fatal reputational damage on Wall Street, and the bank has been waging an all-out battle to persuade people it acted only as a prudent "market maker", bringing together sophisticated buyers and sellers of complex financial instruments. Mr Blankfein struggled to explain that Goldman had to keep an "inventory" of investments on its books, and that market makers always adjust their inventory to reduce the risk of losses. Bets against the mortgage market, minus exposure to the market, left Goldman with a $500m gain in 2007, he said, but it lost $1.7bn the following year. "We did not make big money."
Mr Blankfein added that Goldman was the last major bank to expand into mortgage trading, in response to client demand, and would have lost its position of influence on Wall Street if it hadn't responded to that demand. And he delivered a promise that it would, in future, take public opinion into account when deciding whether to create and trade the most complex derivatives.
Mr Viniar, when asked how well he comprehended the products traded by Goldman's mortgage division, said he understood them only "at the highest levels". Referring to Mr Sparks and his team, he said: "You had the experts on this morning."
Yesterday's hearing came as the Senate attempts to agree a bill to reform Wall Street, cutting banks' ability to take risks and taking taxpayers off the hook for future bailouts. The fraud charges against Goldman gave new impetus to the debate, but Republicans voted on Monday to block an early vote while the package of measures is still being hashed out behind the scenes.
The hearing was also the first opportunity for Mr Tourre to deny the fraud charges laid against him by the Securities & Exchange Commission on 16 April, and for the media to put a face to a man whose intimate love letters have become public property.
Romantic emails to a girlfriend, in which Mr Tourre boasts about his work, have formed part of the case against him – and also part of Goldman's public relations defence. The bank published them in full at the weekend. "The entire system is about to crumble any moment," he wrote in one, weeks before selling investors on the doomed mortgage vehicle Abacus which is under scrutiny. "The only potential survivor the fabulous Fab (as Mitch would kindly call me, even though there is nothing fabulous abt me...) standing in the middle of all these complex, highly levered, exotic trades he created without necessarily understanding all the implications of those monstrosities!!!" The French trader, who is now based in London with Goldman, told lawmakers that he regretted his emails. "They reflect badly on the firm and on myself," he said. "And I wish I hadn't sent those."
How Goldman bounced back from crisis it helped to create
26 April 2007
Goldman finalises its Abacus deal, selling a mortgage derivative that it had created on behalf of a hedge fund. The fund, Paulson & Co, was betting that it would collapse.
18 November 2007
An email from Lloyd Blankfein, Goldman Sachs' chief executive, confirms that his bank made money betting against mortgages – and hence Abacus – via the process of short selling. "We lost money," he wrote, "then we made more than we lost because of shorts."
13 October 2008
The US government bailed out Wall Street, forcibly injecting $250bn into the country's biggest banks to end a financial panic that began with the collapse of the US sub-prime mortgage market. Goldman was lent $10bn.
16 April 2010
The Securities & Exchange Commission charges Goldman with fraud, saying it misled the investors who bought into Abacus and ultimately suffered a $1bn loss.
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