Friday, July 16, 2010

Goldman Settles, Now What?

Goldman Sachs settled its dispute with the SEC over whether it misled investors in some CDO deals for $550 million. Apparently, if you tell one client to buy a security while simultaneously telling another that it's worthless, it'll cost you $550 million. Goldman should've known better. I mean, after the internet bust, it cost Henry Blodget $25 million just for telling investors to buy a stock while secretly believing deep down inside that it was worthless. He didn't even tell anyone to short the stocks he was recommending, he just kind of had a bad feeling and sent one internal email to a colleague. $550 million is a nice round number. It's a big enough penalty to make you think that the bank definitely did something very wrong and is contrite. The investment bank went so far as to admit that it made a "mistake." On the other hand, the penalty amounts to about one week's worth of trading revenues. That's right. One week. So yeah, they're kind of sorry, but considering how much money the bank made during the credit boom, and then how much money it extracted from the government afterwards, this penalty amounts to peanuts.

Everybody knows that investment banks need to continually create complex products out of thin air that nobody really understands and then market them as the opportunity of a lifetime. That is where the real juice lies. Nobody gets rich trading transparent products like stocks anymore. Turns out, much of the time "complex" actually means worthless. If this weren't the case, investment bankers wouldn't be so rich, and they wouldn't have to pay so many gosh darn fees to various regulatory agencies every few years. We wouldn't have bankrupt municipalities done in by interest rate swaps, or pension funds that can't seem to meet their obligations because they bought some SIVs that were AAA rated for about a minute, or foreign banks that are pissed off at us because they just discovered they are exposed to a bunch of defaulting US subprime borrowers, or mutual funds that don't understand why their largest holding turned out to be a ponzi scheme masquerading as an oil and gas company. Or investors who don't understand why that internet stock never had an 8,000% annual growth rate. Or rich people who can't figure out why the hedge fund that their advisor told them was a guaranteed money maker, with a strategy that was "too complicated to explain," was a ponzi scheme masquerading as a...ponzi scheme.

In any event, with this round of regulatory action pretty much behind them, it's time to move on to a better question: How are investment banks going to screw their customers out of money next? So far, earnings out of the big banks have been decent due mostly to reduced charges taken on the main-street banking side. Investment banking revenues are down significantly. Goldman tends to outperform the other banks in trading, but without a large lending arm to lean on, odds are that earnings might disappoint. Time to get the quants cranking on some new products.

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