In the last 45 minutes of the testimony Josh Birnbaum (Co-head of the Structured Products Group (“SPG”) was asked a series of questions by Senator/Dr. Tom Coburn (R.Ok).
There was a document produced that was Josh’s year-end plea for bonus
big bucks. A list of his accomplishments. Amongst the many swell things
that Josh touted was his contribution to the accelerated use of the
equities market in the SPG hedging and trading activity.
Bingo! Josh may have opened up to something that could blow up
Senator Coburn produced an internal Goldman report for the fall of 2007
that showed that Goldman had an open short on the stock of Bear Stearns.
Coburn asked Josh if he was responsible for that short position.
After thumbing through the book Josh finds the report in question and
looks back at the Senator, smiles, and says, “This is a firm wide
report. I can’t determine if this is my department’s short position or
Next Coburn asks, “How did you select the shorts you used?” Josh
responded, “We had a macro view. I had a list of stocks that were
correlated to the sub prime industry.”
For me this is a bit of a bombshell. It shouldn’t be. It was a perfect
strategy for the sole reason that it worked. But consider the
In 2007 the SPG had gains from hedges of ~$3b and losses of ~$2b on
write down of inventory. It was described that the hedges included (1)
shorts on the ABX index (2) shorts on single name ABS (3) long CDS
against a variety of single names and (4) they shorted common stock of
companies that had a high beta to a downfall of the Sub-Prime/Alt.A
We know from the testimony Bear Stearns was on that “short” list. That
entire list is public. I have not seen it so I will just guess that in
the fall of 2007 GS was shorting the likes of New Century, WaMu, the
mono lines, Countrywide, Bear Stearns, and Lehman. That list could have
been broader; it might have included Fannie Mae and Freddie Mac, Citi,
and BoA, even the likes of a Northern Rock or RBS.
One aspect of the collapse of 2008 was how destructive capital markets
had become. The shorts pushed equities down so fast that managements and
regulators lost control. The shorts were clearly predators. For me it
was the shorts that destroyed the equity values. It was a near daily
My questions on this is (A) How much of this did Goldman do? (B) How
much did the rest of the market do? (C) Did this exceptional demand for
short interest in financial stocks accelerate the collapse of Bear,
Lehman and all the others?
In the fall of 2007 the size of the Sub Prime and Alt.A market was many
multiples of the market-cap of the financials that were the target of
the short interest.
Essentially Goldman Sachs bought WaMu no-dock loans; against this they
shorted Bear Stearns common. The hedge worked just fine. Unfortunately
it cratered Bear Sterns and a few others and damn near took out the
As the broader disclosure of what happened in 2007-2008 (this ain’t
stopping with Goldie) takes place we will see how much this predatory
hedging actually upset the applecart. Its effect is unlikely to be zero.
I am conflicted on this. Hedging is only an option when selling can’t be
done. Therefore hedging is integral to the capital market process. But
there are degrees. I think that if one was long sub-prime ABS and hedged
that risk with a short in the ABX index that is a commercial
transaction and is part of risk management. However if this crosses over
to where one could go long troubled mortgages and short the common
stock of the Royal Bank of Scotland against it, I would say that is not a
commercial hedge. I would call the later transaction a Prop Trade. It
is a bet, not a customer transaction. I have no problem with prop
trading. It should be funded with equity and there should be
limitations. If that had been the case in 2007 that discipline would
have constrained the growth of bad credit.
It is possible that the Goldman hedging strategy was predatory. It added
to the systemic problems that later occurred. Possibly Senator Levin
should ask a few questions on this line. I doubt that he will. I watched
the proceedings and was convinced that the good Senator had no clue how
things actually work.
Did the (admitted) shorting of BSC in
October, November and December by GS lead to the collapse in March?