Goldman played key role in mortgage meltdown, Senate investigators say


In its aggressive pursuit of profits, Goldman, Sachs & Co. became a key enabler of the mortgage meltdown that triggered the global financial crisis, Senate investigators said Monday as they released new documents detailing the bank’s controversial actions.

The excerpts of internal Goldman documents were made public on the eve of Tuesday’s hearing before the Senate Permanent Subcommittee on Investigations, at which senators plan to question Goldman brass, including Chief Executive Lloyd Blankfein, and Fabrice Tourre, the trader who is the focus of a fraud suit by the Securities and Exchange Commission.

Senate investigators said the documents show how Goldman used its gold-plated reputation on Wall Street to sell toxic mortgage-related securities to investors, then reversed course and bet against the overheated market it helped create.

“The evidence shows that Goldman Sachs helped build and operate that conveyor belt that fed toxic mortgages and mortgage securities into the financial system, and then made large bets against the market it helped create … reaping the profits from it,” said Sen. Carl Levin (D-Mich.), the subcommittee’s chairman. “The ultimate harm here is not just to the clients who were not well-served by their investment bank. The harm here is to all of us.”

In prepared testimony, Blankfein will reiterate that his firm was simply trying to balance its mortgage investments and did not bet heavily against the housing market or against the interests of its clients.

“We didn’t have a massive short against the housing market, and we certainly did not bet against our clients,” Blankfein said, adding that Goldman lost a total of $1.2 billion on housing investments in 2007 and 2008. “Rather, we believe that we managed our risk as our shareholders and our regulators would expect.”

According to the subcommittee’s bipartisan findings, Goldman earned lucrative fees helping subprime lenders such as Long Beach Mortgage Co. and New Century Financial Corp. in Irvine turn high-risk, poor-quality loans into securities, get favorable credit ratings for them and then sell them to investors.

Goldman then “magnified the impact” of those toxic mortgages, the subcommittee said, by creating other complex financial instruments known as collateralized debt obligations based on those securities, spreading the risk deeper into the financial system.

When the housing market started turning sour, Goldman made a strategic decision to dramatically reverse course. The company bet aggressively against the investments it sold and made billions of dollars in so-called proprietary trades for the benefit of the firm without disclosing those moves to its clients, the subcommittee alleged.

A provision of the financial regulatory overhaul being pushed by Senate Democrats and the White House would require regulators to prohibit such trading by banks. It’s one way the subcommittee’s investigation will further fuel the debate over the legislation as Democrats and Republicans battle over the details this week.

The documents released Monday follow the committee’s disclosure Saturday of four internal e-mail exchanges showing Goldman executives bragging about making “some serious money” from engaging in “the big short” — betting aggressively against the mortgage market.

Goldman on Saturday accused the subcommittee of cherry-picking e-mails to try to make its case.

But Levin denied that Monday, holding up a 6-inch binder with hundreds of internal Goldman documents to be fully released Tuesday. They included excerpts from internal performance reviews in which two executives boasted of their success in betting against the housing market.

“Clearly we believe the documents we present fairly and accurately describe what happened,” he told reporters. “They misled the country, I believe, and were not fair to their customers.”

According to his prepared remarks, Blankfein will tell lawmakers and the public that he recognizes that “many Americans are skeptical about the contribution of investment banking to our economy and understandably angry about how Wall Street contributed to the financial crisis.”

He will seek to dispel that viewpoint by arguing that the company’s culture depends on honesty.

“We have been a client-centered firm for 140 years, and if our clients believe that we don’t deserve their trust, we cannot survive,” according to the copy of Blankfein’s testimony.

Still, Levin described the company’s actions as improper, though the subcommittee did not make any conclusions about the SEC case or whether the company acted illegally. After Tuesday’s hearing, the subcommittee will decide whether to refer its findings to the SEC or the Justice Department.

Among the new disclosures Monday, Senate investigators said Goldman employees were careful about revealing sensitive information in e-mails, instead sometimes writing “ldl” for “let’s discuss live” to avoid an electronic trail.

But that discipline slipped at some points, particularly in performance reviews in which two executives touted their role executing a company strategy of betting heavily against the housing market in 2007, a year in which the company still was foisting high-risk mortgage-backed securities on investors.

Levin said the documents contradict Goldman’s statements that it was simply making investments to offset its deep exposure to the housing market, a hedging move known as getting “flat” or “close to home.”

In his 2007 performance review, Joshua Birnbaum, the former head of Goldman’s structured products trading group, wrote: “I concluded that we should not only get flat, but get VERY short.... Much of the plan began working by February as the market dropped 25 points and our very profitable year was underway.”

That strategy also was mentioned in a September 2007 summary of a Goldman board of directors meeting.

“Although broader weaknesses in the mortgage markets resulted in significant losses in cash positions, we were overall net short the mortgage market and thus had very strong results,” an excerpt from the summary said.

A presentation a month later by Craig Broderick, Goldman’s chief risk officer, said that the company’s mortgage trading desk “started putting on big short positions” in early 2007 so that the company was “net short, and made money (substantial $$ in the 3rd quarter) as the subprime market weakened.”

Numerous e-mails show the company taking positions counter to clients, with some expressing concern about how it could affect the company’s reputation.

Several e-mails show how little the company thought of some of the securities it was selling. One in June 2007 used an expletive to describe a collateralized debt obligation known as Timberwolf. And an e-mail from Blankfein in February 2007 wondered whether the company was doing enough to sell off mortgage securities he described as “cats and dogs.”