Goldman Implicated In CDS Price Manipulation Scandal

Tyler Durden's picture

One of the recurring topics on Zero Hedge since inception has been that Goldman's flow/prop operations, simply by dint of their massive, monopolistic size, allow the firm to manipulate various securities, among which equities, structured products, and especially CDS. And while the firm has migrated to a more wholesale market manipulation paradigm when it comes to equities due to the far smaller bid/ask spreads, requiring the need for Goldman to become either an SLP on the NYSE, or to create market manipulating algorithms, such as that it is currently accusing Sergey Aleynikov of stealing, where the firm has always excelled has been in the far thinner, and far more profitable, courtesy of wide bid/ask margins, CDS market. Today, we get confirmation from Senator Carl Levin, to whom it appears Goldman has the same trophy value as SAC to the New York District Attorney and Federal Task Force, that Goldman was engaged in precisely the kind of CDS manipulation we have previously alleged the company was involved with.

From the FT:

Goldman Sachs ’ trading activities in the credit insurance market in 2007 have come under attack from a US senator after e-mails revealed a senior trader urged colleagues to “kill” some investors’ positions.

Carl Levin, chairman of the Senate permanent subcommittee on investigations, told a hearing on Wednesday that the alleged activity “looks like a trading abuse to me”, although he added that at the time in question the credit insurance market was unregulated.

While lacking the nuances of the firm's Abacus insider trading scandal, in which the firm bet openly against clients, here the wager was even more sinister: in essence while making markets in names in which Goldman was often the only axe, it would subsequently, knowing full well which clients has how much protection on, take advantage of this information and create artificial squeezes in any direction it desired. Furthermore, by controlling the variation margin on any position, Goldman could force its own clients to collapse on their positions, at massive losses, just so Goldman would make a profit, and Goldman's own traders could make another record bonus.

Mr Levin said that in May 2007, Goldman adopted a “short squeeze strategy” to drive down the price of credit default swaps on troubled mortgage-backed securities. Mr Levin alleged the move, which Goldman denies, would have enabled the bank “to purchase the CDSs for itself at artificially low prices”.

The subcommittee’s probe uncovered a document revealing a second trader stating that Goldman “began encouraging a squeeze” – a strategy that never materialised due to market conditions.

Ostensibly, the level of wrongdoing here could be said to be far greater than in the Abacus fiasco, as while Goldman was obviously making a market in CDOs, with or without one party knowing who or what the other party in the synthetic transaction was, in this case Goldman was the only beneficiary, and it can no longer use the "we are making markets defense" - in fact, there is no defense, as this is precisely a demonstration of just the monopolistic flow-control behavior we have been arguing for years, to which the only remedy is a true dismantling of Goldman's prop trading operation, and not its mere rebranding into a client-facing trader with billions in inventory. This is not insider trading: this is the worst form of abdication of client responsibilities imaginable.

Mr Levin’s attack opens a potential new front in the controversy over Goldman’s trading practices. In July, the bank paid $550m (€416m) to settle fraud charges from the Securities and Exchange Commission over an MBS sold during the financial crisis.

Mr Levin produced e-mails in which Michael Swenson, an executive in Goldman’s fixed-income trading division, told colleagues to offer cut-price credit default swaps on MBSs. As the housing market collapsed in 2007, investors, including Goldman, were rushing to buy default swaps to short MBSs that were losing value.

In another e-mail, he said Goldman should reduce prices on CDSs to “cause maximum pain” for existing holders of credit insurance.

Furthermore, it appears this has been a pervasive practice at Goldman, and surely not only in its CDS trading vertical:

In his end-of-year evaluation, uncovered by the subcommittee, Mr Salem called the squeeze a “doable and brilliant” strategy but said it ultimately never happened.

When cornered with this revelation, Goldman squirted some ink, and proceeded with the usual defense: you are all a bunch of idiots, who don't get the deeply humanistic and totally non-ulterior motive at play here.

Goldman said on Thursday: “This type of language sounds awful and is very disappointing, but it does not reflect the reality of what happened. There was no short squeeze.”

Of course, these identical kinds of allegations a year ago merely got us branded as the "conspiracy" blog. While we know too well, that before anything is fixed within Goldman's (allegedly) criminal and all-encompassing monopolistic enterprise, none other than its supreme defender, the Federal Reserve will have to be taken down, meaning the status quo will not change until after the revolution, we are at least once again, gratified to know our crackpotness was, as happens all too often, based on real facts which in any other banana republic would lead to at least one conviction.