The Goldman Hearing: What’s At Stake?

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Tomorrow morning, the Senate Permanent Subcommittee on Investigations will hold a hearing into the role investment banks played in the financial crisis. To show how Wall Street’s titans “spread poison through the system,” as Sen. Carl Levin put it today, the subcommittee chose months ago to focus its investigation on Goldman Sachs — a serendipitous decision, given the fraud charges Goldman is facing from the SEC. During a briefing today, Levin revealed some of the investigation’s key findings. Among them:

-In late 2006, Goldman officials, concerned about the firm’s exposure to mortgage-related assets, began moving “closer to home” — i.e., hedging its risk by balancing its long position with short bets. In early 2007, however, Goldman sensed the shifting winds of the market and took on a substantial short position.

-Marshaling internal emails, presentations to the firm’s board of directors, and employee performance-reviews, the committee found that Goldman made billions of dollars from that short position. This argument contradicts Goldman’s claims that the firm “did not take a large directional ‘bet’ against the U.S. housing market” and that Goldman “had overall net losses” stemming from its involvement in that sector.

-Goldman helped lenders securitize dubious loans and obtain favorable credit ratings for risky mortgage products.

-And, perhaps most damningly, the committee argues Goldman — despite claims that it was merely acting in its capacity as a market maker — capitalized by shorting assets it was simultaneously marketing to clients.

According to committee staff, Goldman’s actions reflect the widespread shift within the investment banking industry from allocating capital to placing bets, a phenomenon Stephen Gandel’s magazine story this week explicates nicely. Tomorrow morning’s hearing will parse whether those bets were made at the expense of clients who trusted the firm to look out for their interests. Given the pending litigation, it’s safe to assume the Goldman officials slated to testify — including Lloyd Blankfein, CFO David Viniar, the Fabulous Fab, and others — will be carefully prepped and avoid stepping on any legal land mines that would incriminate them. Expect a lot of legislative bomb-throwing and a tight-lipped, contrite set of witnesses.

But while the hearing is a typical Capitol Hill set piece, the documents subcommittee investigators unearthed will shatter any lingering notions that Goldman put clients ahead of its own bottom line. For the Wall Street juggernaut, the damage to its reputation could ultimately be far costlier than any fine stemming from its role in peddling Abacus.

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