Goldman’s glory
Goldman’s glory may be short-lived
By John Gapper
http://www.ft.com/cms/s/0/4c3a060c-a363-11dc-b229-0000779fd2ac.html
Published: December 5 2007 19:10 | Last updated: December 5 2007 19:10
When a company is doing noticeably better than competitors in its industry there are three possible explanations: skill, luck or edge.
Which of these factors explains the success of Goldman Sachs? There has to be a reason why it has carried on undisturbed while other banks have been plunged into problems from the housing slump and the credit squeeze. The answer is: all three.
Citigroup has lost Chuck Prince, its former chairman and chief executive; Morgan Stanley has ejected Zoe Cruz, its former co-president; Stan O’Neal, Merrill Lynch’s former chairman and chief executive, had to resign. And what of Lloyd Blankfein, Goldman’s chairman and chief executive? His bonus will probably outstrip last year’s $53m despite problems at a couple of its hedge funds.
A big reason for this is Goldman’s alacrity at the start of this year in paring down its exposure to subprime mortgages and structured credit, and hedging the remainder. That bet came good as market turmoil struck all investment banks and financial institution in August, leading to some writing down billions.
The official explanation is skill. Most of Goldman’s 35,000 employees are intelligent and hard-working. Even more crucially, as John Plender pointed out yesterday in the FT, it has a highly developed culture of teamwork rather than a star system. John Thain, the former Goldman co-president who has just moved from the NYSE Group to head Merrill Lynch, says that one of his first tasks is to instil more teamwork.
This matters when it comes to risk management. The atomised culture of many banks works fine when times are good and small teams can be trusted with capital with which to build businesses. But it creates a distorted incentive to take – and to hide – excessive risks.
Goldman bankers say it is impressed upon them that they must tell others of any concerns they have about clients or investments: the biggest offence is to keep secrets. The reward for honesty is that Goldman is slow to punish those who make well-intentioned errors.
The collective approach was in evidence when David Viniar, Goldman’s chief financial officer, gathered a group of trading heads and risk controllers at the end of last year to discuss whether the bank was over-exposed to the weak US housing market. After everyone had talked over the bank’s overall trading positions, its leaders astutely decided to hedge its mortgage book.
Luck has also played a role, as Mr Blankfein admits. Despite the air of infallibility that Goldman has at the moment, it has been bruised by past Wall Street crises. It was so badly caught by the short-term rate rises of 1994 that Stephen Friedman, then its senior partner, handed over the reins to Jon Corzine. It was also hurt, with the rest of Wall Street, in the 1998 Russian debt crisis.
The fact that it has done well this time is no guarantee that it will float through the next bout of turmoil.
This brings us to the third factor: Goldman’s edge. No institution makes itself popular by doing better than others and financiers and observers talk darkly in private about its way of doing business. Two commentators have now broken cover to accuse Goldman of behaving unethically and perhaps of breaking the law.
Ben Stein, a columnist in the New York Times, this week suggested that Jan Hatzius, Goldman’s chief US economist, was “selling fear” to boost Goldman’s short position when he predicted a $2,000bn drop in lending. John Crudele of the New York Post had earlier attacked Hank Paulson, US Treasury secretary and former Goldman chief executive, for saying it was his job to talk to market participants (such as his “old friends” at Goldman) about markets.
Mr Stein’s article in particular has caused a stir and Christopher Dodd, chairman of the Senate banking committee, said this week that Mr Paulson ought to address Mr Stein’s doubts about Goldman underwriting collateralised mortgage obligations while he was in charge. Mr Dodd said that Mr Paulson may be investigated by the banking committee if he does not respond adequately.
But there is no evidence that Goldman did wrong by issuing Mr Hatzius’s research or conversing with Mr Paulson about financial conditions, if it actually did the latter. I do not believe that Goldman broke insider trading laws. It would be stupid to risk its reputation in this way and it is anything but stupid.
The real question is whether Goldman bends Wall Street’s rules in its favour. There is plenty of evidence that the bank does this and that it gains an edge from it.
Big investment banks run advisory, securities and investment businesses but keep them walled off from each other to avoid conflicts of interest and trading on inside information. Goldman has been more aggressive than any other bank in putting the three together – it often advises a company on a transaction, finances it and invests its own money.
That regularly puts Goldman in delicate spots. It swaps from advising on a sale to bidding for the property, or its private equity arm co-invests with another fund in a company its bankers have found for sale. It often faces accusations of conflicts of interest over its overlapping roles but it brushes them off by saying that its job is to “manage conflicts”.
It has got away with this because it is too powerful to ignore. Private equity firms grumble that Goldman advises them on deals and competes with them but they accept it because it has such a big network of corporate clients that they cannot cut it off. One day, however, this balancing act will blow up in its face.
Goldman’s skill, luck and edge have combined this year to produce its great escape. The three will not always align so well.
Read and post comments at www.ft.com/gapperblog
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