Blankfein’s background in trading made him a wholehearted supporter of a strategic move toward proprietary trading. He acknowledged the challenges of balancing agency business with a growing proprietary business but viewed the move as not only a “momentous strategic opportunity” but also a necessity that had been deferred to maximize profits and should be deferred no longer.24 Blankfein did not propose making the proprietary (or principal) investing business dominant but rather talked about combining the two businesses, agency and principal, in an “unbeatable whole.”25 He actively promoted this theme as he gained authority and reputation within the organization, even though clients continued to express concern about whether, in any given situation, Goldman was acting as their agent or as a competitor.26 Blankfein’s argument raises questions about Goldman executives’ argument that in certain trades the firm was simply acting as a market maker.
Blankfein gained professional respect from peers and senior partners for his ability to evaluate possible ramifications of alternative courses of action. He has been described as “original in his perceptions and analysis … accessible to others” and as having “a detached rationality.”27 His personal style and actions reflected and modeled for others some of the best aspects of the firm’s partnership culture as it had been at its strongest. He asked many questions of the very smart people with whom he surrounded himself, until he was satisfied that he had gotten the right answer. He tapped in to the expertise and vast experience of retired partners, who many times (and in my experience) had been treated almost as outsiders after they became inactive. He used his extensive global social network to promote the firm’s goals, something that became critical to the firm’s survival during the credit crisis.
Any discussion of Goldman’s leadership during the crisis must also acknowledge the role of David Viniar, Goldman’s chief financial officer from 1999 to January 2013, a man who, many of my interviewees said, was the key person responsible for the firm’s survival. A former investment banker working specifically in structured finance, Viniar worked on several credit and risk committees before becoming CFO. He understood structured products, which were at the heart of the crisis. He had the expertise to question traders or have a dialogue with them; he had their respect, unlike most CFOs, who would not have worked directly in structuring such complex products. Viniar also took advantage of a culture in which an element of dissonance was still alive, one that supported playing devil’s advocate, collecting and channeling information that challenged taken-for-granted assumptions in the organization, when it came to trading risk.
Viniar’s rotation through various assignments was crucial to his ability to help guide Goldman through the crisis. These rotations were the result of an organizational design that served to improve understanding and strengthen social networks.28 One Goldman partner told me something to this effect (I am paraphrasing): “You can’t BS David. He has a lot of experience and knows more than you. He may not be smarter than you in your area of expertise, but he knows more about risk than you do because of his training and experiences. What makes him particularly effective is his ability to check out what you tell him. He and his group have the contacts and know the people—internally and externally.”29
A Goldman partner credited Blankfein with retaining Viniar when Blankfein became CEO and not replacing him with those he considered loyal to him, as the partner said Blankfein did in many other important areas. He elaborated that for Goldman’s board, Blankfein, Viniar, and Gary Cohn were not only the top three from a reporting perspective but also the top three authorities on risk; no other firm had that much talent and expertise in their top three working so closely together during the crisis. However, in many ways their active involvement in risk management—supported by the remarkable number of e-mails and other communication, and knowing what they knew and directing people to reduce risk—put them closer to the actions and behavior of those at Goldman prior to and during the financial crisis. This, therefore, raises the issue of their personal role in, at the very least, the change of meaning of putting the clients’ interest first.
A Goldman spokesperson told Rolling Stone that “its behavior throughout the period covered in the Levin report was consistent with responsible business practice, and that its machinations in the mortgage market were simply an attempt to manage risk.”30 The question here is whether its behavior is consistent with the original meaning of the business principles, not if these were responsible business practices. In my interviews, most of the current and former partners who believe there has been a change in culture strongly stated that in this instance the behavior was not consistent with those principles. In my interviews with clients, I asked them what they think when Goldman tells them about the business principles, even today, based on what they have learned about its behavior. Most told me Goldman’s behavior does not reflect how clients interpret the principles, which is based in part on how Goldman itself portrays them externally. However, most people I interviewed said that does not necessarily make the firm’s behavior criminal or illegal.
More Concentration of Trading Experience at the Top
David Viniar retired in January 2013 and was replaced with Harvey Schwartz. Like Viniar, Schwartz worked in various areas of the firm, including banking for a short time, which should give him a more nuanced view and access to more information. But Schwartz got his start in the J. Aron area at Goldman, similar to Cohn and Blankfein, as well as the person who is head of human resources (the head of human resources would typically interact with the board on matters like compensation and performance). Many current and former banking partners that I spoke to pointed to this J. Aron concentration at the top. From a sociological perspective, it does raise the risk of changing the element of dissonance and increasing structural secrecy.
Some partners also raised the concern that Blankfein has put people loyal to him in key positions throughout the firm and/or lateral hires who may not have as good an understanding of the original meaning of the principles. Once again, this is interesting from a sociological perspective in terms of raising the risk of a change in dissonance and increase in structural secrecy. Some current and former banking partners speculated that they believe that Blankfein learned from Paulson’s coup of Corzine and wanted to consolidate power. From an organizational perspective, the fact that this could happen reflects the changes. The fact that a board would allow this also reflects the changes. And with the passage of time and Blankfein and Goldman’s many successes, who is to question it?
Does Outperformance Signal a Shift from Principles?
The tricky issue about the residual dissonance that represents a degree of preservation of Goldman’s culture at the time the principles were codified is that Goldman does not consider that, in some instances, it has an obligation to share the benefit of this wisdom with its clients. In late 2006, Goldman recognized the need to de-risk and moved swiftly to do so without warning clients or the government. This is one of the things about Goldman that spurred the vitriol of Matt Taibbi and many others. After a period of mounting concern about Goldman’s overexposure to mortgages, in late 2006 Viniar and a group of executives drafted a memo describing their course of action for reducing that exposure. Goldman’s critics are quick to point to this statement: “Distribute as much as possible on bonds created from new loan securitizations and clean previous positions.”31 Taibbi translates this to, “Find suckers to buy as much of [the] risky inventory as possible.” Taibbi then provides an apt analogy: “Goldman was like a car dealership that realized it had a whole lot full of cars with faulty brakes. Instead of announcing a recall, it surged ahead with a two-fold plan to make a fortune: first, by dumping the dangerous products on other people, and second, by taking out life insurance against the fools who bought the deadly cars.”32 According to Taibbi, within two months of the memo, Goldman had gone “from betting $6 billion on mortgages to betting $10 billion against them—a shift of $16 billion.”
As a public company,
Goldman has a fiduciary responsibility to its shareholders, which confers the highest standard of legal care and loyalty.33 Therefore, if Goldman thought that it was in the best interests of shareholders to de-risk immediately, it had a duty to do so. But to de-risk, Goldman sold the risk to clients. Many current partners at Goldman whom I interviewed (corroborated by congressional testimony by Goldman executives) pointed out that the “sophisticated, institutional clients” wanted the risk, and Goldman sourced it for them. The partners argue Goldman did not defraud its clients. However, the SEC charged Goldman and an employee with fraud on a specific deal for its role as an underwriter (which has different legal obligations than those of a market marker). Goldman settled the charges for $550 million, and the employee is fighting the civil case.
Legal experts I interviewed explained that Goldman has no legal fiduciary responsibility to clients when it is acting as a broker on their behalf. Investment banks are not held to a “fiduciary standard” in their dealing with these clients, but rather a “suitability standard,” which is less stringent.34 Under a suitability standard, Goldman is not required to put the client’s interests first and is not obligated to disclose its own proprietary views or positions. A suitability standard instead requires the firm to ask whether the product is suitable for the client (for example, whether it meets the investment objectives) and to disclose the risks.35
The impression of Blankfein’s testimony at the Levin hearings, in response to accusations of not putting customers’ interests first in the mortgage trades, is that Goldman, or at least its executives, did not think the firm did anything wrong.36 Their argument, as articulated by Blankfein on numerous occasions, hinges on the firm’s claim that when Goldman sold the mortgage securities, it was not acting as an adviser to the clients, it was acting as a broker, and its role was simply to sell sophisticated institutional clients whatever they wanted to buy. As such, it completely fulfilled its legal duties when it acted as a market maker or broker with counterparties. Goldman maintains that it was essentially only making markets (making a bid and an offer for securities) and used responsible business practices in fulfilling all of its legal obligations.37 The firm had a legal obligation to ensure that its clients are provided the proper disclosures, but that is as far as Goldman’s legal obligation goes: caveat emptor, or “buyer beware.”38
Goldman argues that it was acting as a broker, not an advisor, in selling mortgage securities. Maybe that’s true legally, but there’s another question about their role. Can Goldman, or any bank, really so cleanly delineate when they are acting as a broker and when as an adviser? An executive at a competitor believed that Goldman’s characterization as simply acting as a broker was like Goldman suggesting a client called them to ask it to buy shares in IBM and the firm did so. He explained that this is not the case with complicated, fixed income securities that are not traded on an exchange. First, the bank typically maintains inventory to sell because the market is not as liquid. This does not mean the bank is not acting as a broker, but it certainly complicates the relationship. Second, banks are calling up with ideas and suggestions (unlike in stocks, which are more regulated and liquid) and the client does need some explanation of what the securities are and advice on how it meets what they are looking for. He felt that Goldman was disingenuous in saying it was merely acting as a broker when executing transactions in complicated securities.
A client elaborated that there are times when he calls Goldman and expects them only to simply execute and actually pays a higher commission than going to another bank that would do it cheaper in order to pay Goldman back for its ideas, research, and advice. But he also gets calls from Goldman making recommendations and suggestions, which he would characterize as advising him, to buy certain complicated securities that generally meet what he is looking for, some of which Goldman provides what could be called research and analysis on. He said that Goldman has an unbelievable ability to source and develop these investment opportunities. But many of them require a dialogue, an explanation, analysis, and expertise. He said it was unclear to him in many instances when Goldman was acting as a broker/agent or principal, even when giving “advice.” But he clarified Goldman was doing nothing that the other banks were not doing too; it is just that Goldman’s principal investing is much larger so it does raise more questions. And he felt the ultimate responsibility was his if he were to buy or not buy. But, it seemed to him that Goldman was being a little disingenuous in its characterization of its role. He pointed out that he thought Goldman’s objective was to be the adviser of choice, not the broker of choice.
“The investors that we’re dealing with on the long side, or on the short side, know what they want to acquire,” Blankfein said. “I don’t think our clients care, or that they should care,” what Goldman’s opinion is, he said. The rationalization was that Goldman’s clients were sophisticated investors, after all, and asked for the risk, which Goldman provided to them.39
As mentioned earlier, according to my interviews with several Goldman partners, the general attitude at the firm was that the clients were “big boys.” Goldman was not selling products to “widows and orphans.” They insisted that the firm used legally responsible business practices. Some partners explained that, for all the Goldman partners knew, they could have been wrong and the clients could have been right—and no one would have wept for Goldman. Some clients I interviewed said they understood this argument, but in this case they believed the size of Goldman’s short (or hedge, as Goldman describes it) of the securities showed a great deal of confidence in its view and that the firm understood the catastrophe that could happen if it did nothing. They argued that, given the size of the short and direct communication amongst executives, and that Goldman clearly perceived clients could suffer, the firm did have an ethical obligation to warn them (especially considering its first business principle). Some partners I interviewed countered that they were just doing what they thought was right from an organizational perspective and right for their shareholders—and right for the survival of the firm. They told me they did not think they were breaking any legal rules or regulations or violating a business principle.
But the behavior was certainly in sharp contrast to John L. Weinberg’s insistence on making good on the BP loss even though Goldman had no legal obligation to the British government, as discussed in chapter 1. Nor was it in keeping with Paulson’s sitting on the other side of the table in the Sara Lee meeting.
I don’t believe that the Goldman executives understood all the unintended consequences, the magnitude of the consequences, or the way their actions would be interpreted and processed externally and internally. If Goldman had understood the magnitude of the potential problems, it would have been even more aggressive in its actions, effecting even larger shorts, deleveraging faster, and raising more equity sooner. Based on my interviews and their actions, I don’t believe that the Goldman leaders realized they were so close to being swept away in a financial tsunami. In addition, I don’t believe that they truly understood how their actions would be interpreted by employees and how much that would most likely exacerbate the organizational drift.
Finding a balance between duty to clients and duty to shareholders is a long-standing issue. Most clients I interviewed argued that Goldman formerly believed that putting the clients first would benefit the owners over the long term, thereby serving shareholder interests. They generally did not interpret Goldman’s actions, such as selling the mortgage securities, as consistent with the business principles they expected from Goldman. They did not see it as illegal; they saw it as Goldman acting like the rest of Wall Street, but maybe a little worse, because Goldman waved its principles in front of clients and said it acted more ethically than others on Wall Street.
I asked some executives who were Goldman’s competitors about this dilemma—duty to clients versus duty to shareholders—and they, too, explained that Goldman was generally behaving as the industry does. The industry generally has moved to a l
egal standard in determining its duties. It was unclear to them when or how or why the legal standard became the industry standard. They believe no one really focused on it because, with a few exceptions, people were making so much money on Wall Street for such a long time as financial institutions generally grew—clients, employees, shareholders, even the public—that no one thought about it or cared. Many said the financial crisis should be a wakeup call to how cultures and incentives have changed, how the environment has changed, and how large and interconnected everything is. Many executives at competitors also said that in their opinion Goldman was living off the brand or reputation for trustworthiness that it had created in the 1980s (some questioned if it were even true at that time). They said that Goldman got away with it for so long because the firm was crafty in always playing up its “good guy” image, aura of public service, and powerful network.
Several current Goldman partners told me that since the Senate committee hearings, Goldman has been trying to take its business principles more seriously (and client anecdotes about this surfaced in my interviews). The partners also mentioned that the firm is educating its employees about the proper use of e-mails (including not using bad language) and about the firm’s various roles and legal obligations. The comments about e-mail training reminded me of an exchange between Viniar and Levin during the Senate hearings about both e-mails and behavior:
What Happened to Goldman Sachs: An Insider's Story of Organizational Drift and Its Unintended Consequences Page 22
