By Francesco Guerrera and Henny Sender in New York
Published: April 16 2010 16:11 | Last updated: April 16 2010 19:11
US authorities accused Goldman Sachs of fraud on Friday over a subprime mortgage security that caused $1bn-plus in losses to investors, in the toughest regulatory response so far to the excesses of the credit-bubble era.
News of the civil action by the Securities and Exchange Commission wiped more than $12bn off Goldman’s market value, cast doubt over the future of the bank’s leadership team and business model and rocked other Wall Street banks.
In the first of what promises to be a series of actions over banks’ roles in the financial crisis, the SEC accused Goldman and one of its vice-presidents of failing to disclose that the hedge fund Paulson & Co had a major role in creating a collaterised debt obligation, a security that was backed by subprime mortgages, in 2007.
Goldman denied the charges and vowed to “vigorously contest them and defend the firm and its reputation”.
But news of the SEC charges knocked its shares and intensified speculation over the position of Lloyd Blankfein, its chief executive. The SEC said Goldman’s “senior-level management” approved the CDO but did not name any executives.
In afternoon trading, Goldman shares were down nearly 12 per cent to 162.18 – above the $115 at which Warren Buffett, who injected $5bn into the bank in the crisis, has the right to buy.
The plunge in Goldman’s stock dragged down shares in other banks amid fears the SEC’s months-long investigation into Wall Street’s subprime dealings will target other institutions. The Dow Jones Industrial Average was also in the red, falling more than 1 per cent by early afternoon.
The civil complaint alleges that, Goldman and Fabrice Tourre, one of its vice-presidents, hid from investors the fact that Paulson & Co, which has not been charged, had a heavy hand in influencing the composition of the loans that made up the synthetic CDO. Mr Tourre could not be reached.
The regulators further claim that Mr Paulson’s firm pushed for low-quality loans to be included in the CDO because he was shorting the security through a separate agreement with Goldman that was not disclosed to investors.
Goldman told investors that the loans had been selected by ACA, an independent firm - a statement that prompted investors such as the German bank IKB - to buy the security - the SEC claims.
“The product was new and complex but the deception and conflicts are old and simple,” said Robert Khuzami, SEC director of enforcement. “Goldman wrongly permitted a client that was betting against the mortgage market to heavily influence which mortgage securities to include in an investment portfolio.”
Within nine months of the creation of the CDO, 99 per cent of its loans had been downgraded, yielding Paulson & Co a profit of $1bn. Investors around the globe including IKB, which became the first casualty of the credit crisis in July 2007, lost $1bn, the complaint said.
Goldman made $15m-$20m from the CDO, according to the SEC, and a further $841m when ABN Amro, the Dutch bank that had taken on the risk associated with a tranche of the CDO, had to pay out. Most of the ABN Amro payment went to Paulson & Co, according to the SEC.
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