The government’s argument is that Goldman co-created a pool of investments designed to fail with a notable investor (John Paulson), and then misled their investors as to the quality of the pool. This argument sounds great in the court of public opinion, but in a real court it will fall flat.
- Goldman disclosed all of the characteristics of the underlying instruments to their investors
- The investors they sold this instrument to were professionals — people who could (and should) have done the same due diligence Goldman and Paulson did. Maybe they didn’t look closely enough, or maybe they just made assumptions that were proved wrong later, but they should have been able to see what Paulson did with the information they were given
- The structure of a CDO, is that two sides take opposite and mutually exclusive bets on a security they each have the same information about (though their analysis may differ). One side must win and the other side must lose.
Put that all together and you have a whole lot of nothing wrong. So why does the government bother spending time and money making this case? Months of political pressure and backlash against Goldman has made them an easy target, and the SEC is taking a cheap shot. The case is a ploy to make it look like the government is doing something, and will make Goldman look bad in the public eye either way.
Below is a a NYtimes analysis of why the Goldman Sachs case will be difficult for the government to prove.
Next is a column asking whether CDO’s (the type of financial investment used) has any legitimate role in finance. I think that they do have a role in finance, but they have been over-used and greatly abused. for example, you could use them much like a covered call or protective put, to reduce the risk on a position. However anything that can be used for cheap risk management can also be used to make highly leveraged bets.