The Goldman Sachs booth on the floor of the New York Stock ExchangeChris Hondros
Goldman Sachs Group Inc. will pay the largest-ever penalty by a Wall Street firm to U.S. regulators to settle charges of securities fraud that have tarnished the company's reputation and knocked billions off its market value.
Under the deal announced Thursday by the Securities and Exchange Commission, Goldman will hand over $550-million (U.S.) in fines and compensation to investors.
The SEC had accused Goldman of hiding key information from investors in a complex housing-related transaction in 2007. In particular, the SEC said, Goldman did not disclose that Paulson & Co., a hedge fund looking to profit from the collapse of the housing market, was the driving force behind the deal and was rigging it to fail.
In the settlement, Goldman neither admits nor denies the SEC's allegations. However, it acknowledges that the marketing materials for the investment at the heart of the charges contained "incomplete information." It was a "mistake" that the materials did not reveal the hedge fund's role in helping to construct the deal and the fact that its interests ran counter to those of the investors, Goldman said.
The settlement is "a stark lesson to Wall Street firms that no product is too complex, and no investor too sophisticated, to avoid a heavy price if a firm violates the fundamental principles of honest treatment and fair dealing," said Robert Khuzami, the SEC's director of enforcement.
Cat:e528746c-3414-401a-b14b-50247e3bdf01Forum:d0fa4e14-88d2-41f9-8a19-896bdff9544b
If approved by a judge, the settlement will resolve the SEC's charges against Goldman related to the complex transaction known as Abacus 2007-AC1, which hinged on the fate of subprime mortgage securities.
However, the SEC's lawsuit against Fabrice Tourre, a vice-president at the firm who played a key role in crafting the deal, is ongoing. Mr. Tourre, who once referred to himself as "the fabulous Fab" in an e-mail, wrote of creating "complex, highly leveraged, exotic trades… without necessarily understanding all of the implications of those monstruosities!!!"
The settlement with Goldman will bring to a close the most high-profile enforcement action to emerge from the wreckage of the financial crisis. It could also mark the beginning of the end of what has been an excruciatingly uncomfortable period for Goldman. Since the SEC allegations emerged in April, the company's reputation and stock price have stumbled, its executives were hauled before Congress, and its internal e-mails released for public consumption.
The fact that Goldman decided to settle is a signal that it was "facing a significant liability risk or a continuing public relations nightmare," said Michael Perino, a securities-law expert at St. John's University School of Law in New York. "When the SEC first filed this case, Goldman was adamant that they had done nothing wrong, and they are now paying more than half a billion dollars in settlement."
Harvey Pitt, chief executive of consultancy Kalorama Partners LLC and a former chairman of the SEC, described the settlement as a win for both the regulator and the firm. The SEC "took on a huge firm" and won a record monetary settlement, and Goldman Sachs rids itself of a significant irritant. "It has already cost Goldman a huge amount in goodwill and market capitalization," Mr. Pitt told CNBC. Goldman can afford the penalty, Mr. Pitt said. "They are not going to like to pay it, but they can pay it."
The settlement amounts to a little more than two weeks of profit, based on Goldman's 2009 performance.
The iconic Wall Street firm isn't out of the woods quite yet. The SEC is also investigating other deals similar to the Abacus transaction in which Goldman was involved. Federal prosecutors have reportedly launched a criminal probe into possible fraud in Goldman's mortgage trading during the runup to the financial crisis. The existence of such a probe does not mean that Goldman or its employees will end up being charged.
The deal at the centre of the SEC's allegation was an obscure derivative known as a synthetic collateralized debt obligation, or CDO. In the Abacus transactions, Goldman bundled together insurance contracts - called swaps - tied to the health of subprime mortgage bonds, then sold slices to investors.
Despite being rated triple-A, the deal unravelled just months after it was sold. Investors, including banks in Germany and the U.K., ended up losing $1-billion. Paulson & Co., the hedge fund run by John Paulson, which helped structure the deal in order to bet against it, pocketed the same amount.
Thanks to its huge and successful bet that the U.S. housing market would crumble, Paulson & Co. made $15-billion in 2007. Mr. Paulson personally took home $4-billion.
With files from Kevin Carmichael in Washington.