Shorter Blankfein: “Pay no attention to that man behind the curtain…”

Of course, it knew what kind of assets were in the Abacus deals, which probably helped it have an opinion.

Is this insider information? I know of no public source for such information.

And you can guess where I’m going with that question.

Whoa, what a lot to digest here. A comment, then I’m off to read the Magnetar links…

Goldman Sachs creates a new definition of “market maker”, someone who enables speculation.

Well, certainly if you specifically *design* CDOs to hedge against losses, taking Abacus as one example of a mechanism specifically designed to bet against the mortgage ‘market’, that requires that you create some form of insurance outside the regulatory system, and ‘swaps’ were designed to do that back in 1998-99.

Listening to some of the FCIC hearings, I’ve begun to wonder whether the Savings & Loan implosion of the 1980s was almost a ‘dry run’ of what happened in the Meltdown of 2008. Key to all of this ‘gaming’ was the ability to keep swaps outside regulatory control; they could then be specifically designed to bump off one, after another, after another asset in the same way that a video game zombie eats up goodies.

Laying my tin foil hat aside for the moment, it is eerie to see how this whole system of global finance feeds on governments and on legitimate businesses (via stock manipulation); indeed, arguably the taxes of citizens everywhere are now feeding the beast. It looks to me as if they originally speculated on businesses, but the appetite grew with eating and now they feed off governments (federal, state, municipal).

Putting my tin foil hat back on, I sense we’re in an epic struggle, but I don’t see Congress up to the task unless a lot more citizens are far better informed about the gaming that GS, Citi, UBS, Lehman, and others have engaged in.

I don’t say this to suck energy out of the mix; on the contrary.
I’m finally starting to glimpse how high the stakes may be: look at Greece: these sociopaths appear to have no qualms about ‘taking out’ governments to enrich themselves.

Or have I gone completely nuts?!

Remember, GS created the Abacus deals so it knew exactly what was in them. Investors may have known what was in them; that depends on the disclosure they got. I assume they got some kind of offering circular or other sales literature.

I know of no public source for such information.

Precisely, if my hunch is apt.

But here’s the way that I’m thinking of it:

I’m a ‘market maker’.
I set the specs for the derivative — just as an engineer sets the specs of a desired widget.

Then I pay someone to create the derivative according to my specs.

The fact that my specs are specifically designed to bet against the mortgage market, and that I’m deliberately putting in just enough AAA in one tranch to be able to cover up the stench of the subprimes in the lower tranches, suggests that I know **exactly** what I’m doing.

If I can design the specs, and pay someone to create CDOs that I can then bet against with swaps, I’ve gamed the system.

That’s my point. I’ve see a couple of CDO prospecti and they were both brief & uninformative.

If Goldman had insider information, and there’s no question of that becuase they put the deals together, and did not fully disclose, then the question of insider trading or fraud and misrepresentaion arises.

That and suborning fraud from the borrowers & loan officers.

That and suborning fraud from the borrowers & loan officers.

I would add bond credit rating agencies: Moody’s, Standard & Poor’s, and Fitch.

Thanks masaccio.

The S&L crisis is a good parallel for the Great Crash, but remember, after it happened, people like Bill Black were put in to do some enforcement work, and got a lot of convictions. Now we live in the post-accountability society, as Frank Rich says.

I don’t think we should call it global finance. I think we live in the age of speculation. There are trillions of dollars trying to make outsized returns through speculation instead of from productive investment. Betting against governments has been around for a long time. Remember that is how Soros made money.

The question most asked is how the bankers could have been so stupid as to lend all that money to borrowwers who most likely would default. The answer is the bankers were not stupid. Enough of them were in government’s high eschelons to guarantee they would not be permitted to fail. (too big) They never intended to make their money by the mortgages being paid to maturity. They made points and origination fees when the mortgages were placed but they made the most money through credit default swaps when the market tanked as they knew it would. It was like buying fire insurance on a house with defective wiring. You know the place is going to burn, it’s just a matter of when.

I think we live in the age of speculation. There are trillions of dollars trying to make outsized returns through speculation instead of from productive investment. Betting against governments has been around for a long time. Remember that is how Soros made money.

Ah, good points.
It’s the emphasis on speculation, enabled by the speed of the Toobz and weak international regulatory or oversight institutions. (Which is one of Soros’s points, IIRC: he’s been saying for awhile now that the lack of international coordination is a huge problem.)

Back to Magnetar…

Question masaccio:

Without the actual details of the CDOs and the knowledge as to how much was invested on which CDSs and by which accounts and when and by whom, how can you possibly know whether they were shoring up the CDOs to decrease their risk and increase their rating, or betting against the investors to the CDO itself? I think you probably can’t.

This isn’t to say that Goldman-Sachs didn’t bet against their investors, only that you can’t establish that from circumstances, only from the details of the financial instruments and the detailed investment history. The reason is that the CDSs dangerously mixed short selling investments with insurance. So if the CDS purchases Goldman-Sachs made on their own CDO offerings were akin to increasing the value of one’s investment in one’s house by buying fire and flood insurance, they were legitimate (as much as anything could be considered legitimate in a market in which insurance wasn’t capitalized and trivial models justified arbitrarily large bets on arbitrarily bad investments). If they were akin to a neighbor doing so, and therefore having an incentive to arson, then they were doing something wrong.

I’m not a fan of the vampire squid, but I don’t see how a case can be made against them without the actual records and numbers of each individual bet.

Ageless Lloydism: “If Goldman Sachs does it, it’s not illegal.”

GS knew that the value of the CDO’s they sold was based on the northward slope of real estate values.

GS knew that the value of their CDS’ was based on the southward slope of real estate values.

Their selling of CDO’s and acquiring CDS’ does not appear to leave any doubt about what they knew.

The Magnetar article at ProPublica, which Masaccio links to in this post, should put your doubts to rest.

I’m still reading it, but here’s are some samples:

They never intended to make their money by the mortgages being paid to maturity. They made points and origination fees when the mortgages were placed but they made the most money through credit default swaps when the market tanked as they knew it would.

By relying on a manager rather than managing the deal itself, Magnetar had no legal obligations to the CDO or others who bought it.

For its [May 2006] maiden CDO [named "Orion"] Magnetar enlisted a partner to buy risky equity alongside it, an internal investment fund within Deutsche Bank….

…By buying the risky bottom slices of CDOs, Magnetar didn’t just help create more CDOs it could bet against. Since it owned a small slice of the CDO, Magnetar also received regular payments as its investments threw off income.

With this, Magnetar solved a conundrum of those who bet against the market…. it costs money to keep the bet going. Many a short seller has run out of cash at the gates of a big payday.

Magnetar could keep money flowing — via its small investments in CDOs – and could use that money to pay for its bets against CDOs….

…Soon enough, bankers and CDO managers had a sense of how it worked. “Everyone knew,” said one person who managed Magnetar CDOs. “They used the equity to fund the shorts.”

Magnetar further increased its odds by insisting that the CDOs it helped create had an unusual construction. ….

Magnetar wanted its deals to be “triggerless,” meaning lacking these cash-flow dams. When the market turned shaky and homeowners began to default, money kept flowing down to the risky slices that Magnetar owned.

Even today, bankers and managers speak with awe at the elegance of the Magnetar Trade. Others have become famous for betting big against the housing market. But they had taken enormous risks. Meanwhile, Magnetar had created a largely self-funding bet against the market. [bold and italics mine]

Well of course not, Teddy. After all, they’re ‘doing God’s work’.
/s

That doesn’t do it. If I have ten dollars worth of bets and I invest on insurance such that you’ll get at least your ten dollars back if you buy them, and I show you the insurance, I’m buying insurance, not betting against you. With the CDSs, you need to show both that they bought the insurance, and that they bought it for the purpose of profiting on the failures of the CDOs. Otherwise they are just engaged in risk management not fraud.

Are you a member of the Flat Earth Society ?

The FCIC hearing last Wed, Panel 3, around minute 54, Wallison asks some questions about the construction of CDOs, and their asset classes, that relate to this post.

Here’s hoping those FCIC members are all fully aware of the Magnetar article at ProPublica. Whew….

And from Wikipedia: Magnetar

The density of a magnetar is such that a thimbleful of its material would weigh over 100 million tons on Earth.[1] Magnetars also rotate rapidly, with most magnetars completing a rotation once every one to ten seconds.[3] The active life of a magnetar is short….As of 2010, they are the most magnetic objects ever detected in the universe.[4][7]

A magnetic field of 10 gigateslas is enormous relative to magnetic fields typically encountered on Earth. …

…The supernova might lose 10% of its mass in the explosion. In order for such large stars (10 to 30 solar masses) not to collapse directly into a black hole, they have to shed a larger proportion of their mass— perhaps another 80%.

These Magnetar guys must think they’re really witty.
If you match up the Wikipedia entry on Magnetars, you see that one of the first detections of the gamma rays was the US DOD’s Vela satellites, and one of the CDO’s is named Vela. [Vela is also the name of the sails of the constellation Argos, which was actually visible around 3,000 BCE for anyone interested in that time period.]

Also, regions of the sky where magnetars have been identified: Carina, Sagittareus, Aquila, which are all names of CDOs created by this hedge fund.

ondelette, read the ProPublica article that masaccio links to in this post.

These guys knew what they were doing.
And they appear to have amused themselves with naming conventions that were deliberately designed to identify what appears to be the most powerful known magnetic force in the universe.

A magnetar functions as a concentrated, destructive force:

The magnetic field of a magnetar would be lethal even at a distance of 1000 km, tearing tissues due to the diamagnetism of water. At a distance halfway to the moon, a magnetar could strip information from all credit cards on Earth.[8]

It’s not like they were naming these CDOs after Care Bears or My Little Ponies.

Yes, but you can also find this in the article:

From what we’ve learned, there was nothing illegal in what Magnetar did; it was playing by the rules in place at the time. And the hedge fund didn’t cause the housing bubble or the financial crisis. But the Magnetar Trade does illustrate the perverse incentives and reckless behavior that characterized the last days of the boom.

Nobody but Magnetar knows the full extent of its bets. Hedge funds are private and they don’t disclose the details of their trades. Also, credit default swaps are mostly unregulated and not publicly disclosed. Magnetar says it didn’t bet only against its own CDOs. The majority of its credit default swaps, says Magnetar, were on other CDOs. (Update April, 9:We have added additional detail [14] [14] from Magnetar’s response in which the hedge fund says it was “net long” on its own CDOs, an assertion on which the fund has declined to elaborate.)

These emphasize my point: Without access to the specifics of the statistical and mathematical models for the CDOs, and to the specifics on the amount and timing of the CDS purchases, you can’t really prove that a company bet against it’s products and wasn’t shoring them up.

And Magnetar is once-removed from Goldman-Sachs, against whom this post is making its headline accusation. That makes it even more complicated. If Magnetar was selling the only performing instruments as the housing market weakened, and they were highly rated, both shareholders and investors at Goldman-Sachs would have criticized sharply if Goldman-Sachs didn’t invest in them, no? Goldman-Sachs is closer to Abacus, which figures into Pro-Publica’s article only in that it was a component CDO of “Squared”, the CDO^2 that Magnetar put together.

I’m not saying it wasn’t all shady, I’m saying without the details you can’t really prove intent. When the SEC and the lawsuits go into those details, if they find that the statistical model was on the level and held to, it becomes a problem as to why such a model could be adopted — which is a regulatory and ratings scandal instead. And those taking the losses, JPMorgan and Mizuho for instance, were eager to buy at the time of sales, because they were being pushed to invest in the kind of instruments Magnetar was selling, not because they were lied to necessarily.

The real scandal in the Pro-Publica article, given that more detail is needed to really prove many accusations there, is how early all of this was happening — late 2006. When people say they had no idea September 2008 was coming, that date should be shown to them in response.

Help me out with my very simplistic understanding of the issue(s).

If a blackjack dealer creates the game, knows both his hand and the hands people at the table hold, and then buys insurance betting that the people at the table will lose, would you call that a fair, honest game?
Furthermore, would the people at the table continue to play if they knew that the house knew their hands and bet against them? What do you think?

Book Salon a couple of flights upstairs with Arnold Ludwig’s King of the Mountain: The Nature of Political Leadership hosted by eCAHNomics

But they did continue to play. That’s why it isn’t that clear.

Nobody but Magnetar knows the full extent of its bets. Hedge funds are private and they don’t disclose the details of their trades

You do not understand Wall Street.

The people on the other side of the Magnetar trades knew.

Where are the trade tickets?

If the traders knew, the portfolio managers knew. If the portfolio managers knew, the client service people knew. If the client service people knew, the compliance officers knew. They might not all have known everything, but they knew plenty.

Read NO ONE WOULD LISTEN by Harry Markopolos. Lots of people on Wall Street knew Madoff was shady. They just not see it in their immediate financial interest to tell anyone.

Goldman-Sachs is closer to Abacus, which figures into Pro-Publica’s article only in that it was a component CDO of “Squared”, the CDO^2 that Magnetar put together.

Perhaps if masaccio has time to come back, he can clarify. I’d point out that CDO Squared was a combo of stuff that Magnetar knew full well was junk, yet it deliberately put that together and sold it as if it had greater value than Magnetar knew it contained. I’d call that fraud.

And as the Wed, Panel 3 testimony and questioning at the FCIC revealed, by 2007 it was evident that as much as 50% of the mortgages in ‘the market’ were subprime. And Magnetar clearly had a ‘strategy’ to take advantage of the defaults, not of the activities of long term social stability.

I think it’s worse than your description.
You haven’t yet told us how the blackjack dealer financed the campaigns of those who would become legislators and judges, in order to ensure that the ‘insurance’ would be called ‘swaps’ — so that it could not be regulated.

Further, you’ve not told us how the blackjack dealer paid off the rule-makers to create tax dodges and offshore non-IRS accounts so that the house winnings could never be viewed as taxable, nor reported.

The people still playing at the blackjack table are going to be mighty furious when they realize they’ve been chumps. Some of them will probably turn into Tea Partiers; others will turn up at lefty blogs for more insight about what happened.

But I didn’t say what you quoted, Pro-Publica did. I’m in agreement with you. I think the people buying Magnetar’s stuff knew what they were buying. If they subsequently misrepresented it that isn’t Magnetar. In order to prove Magnetar was criminal, you have to have more details and show that they hid something or deliberately chose a bad mathematical model.

Perhaps if masaccio has time to come back, he can clarify. I’d point out that CDO Squared was a combo of stuff that Magnetar knew full well was junk, yet it deliberately put that together and sold it as if it had greater value than Magnetar knew it contained. I’d call that fraud.

Perhaps. That was why I asked, because it isn’t obvious.

The point with CDO^nth’s is that they are put together with stuff that includes junk. The whole point is that junk has a finite, non-zero probability of a return, so you tranche it up and pay it out progressively, and that justifies the rating. The logic of that is, as VIKI would say — undeniable. But the model it’s built on, gaussian copulas that reduce all statistical distributions to normals and reduce the window on the market to the present, don’t work in a non-stable market. They got the buyers to agree on the price, they got at least two of the three ratings houses to rate the top tranches as AAA. How did they do that? Those groups of people could see everything they were working with. Isn’t the answer to my question a little more complicated than that they took out CDSs on CDOs?

And as the Wed, Panel 3 testimony and questioning at the FCIC revealed, by 2007 it was evident that as much as 50% of the mortgages in ‘the market’ were subprime. And Magnetar clearly had a ’strategy’ to take advantage of the defaults, not of the activities of long term social stability.

Yes, they were a hedge fund operating deliberately in a softening housing market, selling to a crowd that wanted someone to go into that market and find something for them to bet on. Of course they aren’t the activities of long term social stability. They weren’t billed as such.

The question you should be asking is how a bunch of the buyers of those Magnetar assets could sit in front of panels, and oversight entities could sit in front of panels, and Fed chairmen could sit in front of panels, knowing that Magnetar existed and existed for a reason, and say they didn’t know the crash was coming. And why the economy was based to the tune of $300 Trillion on mathematical models like that, instead of on regulations and laws. Finding scapegoats only feeds the bad apples theory and preserves the “free market economy” that is really to blame.

Thanks for the amplifications. This reminds me of what corrupt Captain Louis Renault (Claude Rains)- “I have no convictions…I blow with the wind, and the prevailing wind happens to be from Vichy.” said to Rick Blaine (Humphrey Bogart) in the film ‘Casablanca’ when Renault colected his gamling winnings, and said, and I paraphrase, ‘I am shocked that gambling is going on in this establishment.’
Are you suggesting that, God forbid, there is a bit of conspiracy in the air? I am shocked, utterly shocked!

The conspiracy, if there was one, seems to have been to hold the softening off until a bailout could be done. That’s the last stage in the finite Ponzi scheme, after all. You can’t bet until the last round without a bailout. And a bailout became politically possible as soon as the end of the administration was close enough so that Hank Paulson could ram one through and still allow the party in power to try to blame all the collapse detritus on his successor.

The collapse was imminent and inevitable from 2006, as the betting clearly shows. Remarkably, it happens just short of the election, when nobody can hold a bailout back, and the recession isn’t “discovered” to have started in 2007 until after the election.

Precisely ;-)))

“Who could possibly have imagined…?!” /s

Perhaps God’s work was to create a dynamic where we could go through this gut-wrenching process of realizing Destruction Capitalism has to be reformed, so we can get back to Constructive Capitalism. Eh, could be.

Like the apostle who sold out Jesus we could say Blankfein did the dastardly deed as he was required to do.

Turns out we shouldn’t criticize Judas too much since there are dozens like him even today.

The question you should be asking is how a bunch of the buyers of those Magnetar assets could sit in front of panels, and oversight entities could sit in front of panels, and Fed chairmen could sit in front of panels, knowing that Magnetar existed and existed for a reason, and say they didn’t know the crash was coming. And why the economy was based to the tune of $300 Trillion on mathematical models like that, instead of on regulations and laws. Finding scapegoats only feeds the bad apples theory and preserves the “free market economy” that is really to blame.

From the WIRED link you include (and yeah, I really do love that article):

Li’s formula: (it isn’t going sweetly into this blog comment software, so briefly here is my ideosyncratic summary — take with a gallon of salt: the probability of the survival times of the [stated value of the derivative assets] are equal to probabilities that the distribution functions calculated for those[asset value] survival times correlate to a single constant, which Li calls gamma.)

If my reading is correct, then if/when you screw up gamma, you’re hosed.

I’d argue that the chances you won’t screw up gamma are remote. Really, really infinitesimal.
So as I read this, it is more evidence for what Barry Ritholtz calls ‘Wall Street’s dot-com penis envy’. It looks geeky, so let’s all pay ourselves millions and billions to look cool and strut our egos… (/snark).

However, let’s now go revisit Wikipedia’s page for ‘magnetar’, and remind ourselves of what ‘gamma’ means in the astrophysical context, shall we…??

A magnetar is a type of neutron star with an extremely powerful magnetic field, the decay of which powers the emission of copious amounts of high-energy electromagnetic radiation, particularly X-rays and gamma rays.[1]

Hmmmm… gamma rays… where have we heard that term before, in places other than old Flash Gordon shows….? Let’s click on the Wikipedia link to gamma rays for more fun:

Gamma rays (denoted as γ) are electromagnetic radiation of high frequency (very short wavelength). They are produced by sub-atomic particle interactions …Because they are a form of ionizing radiation, gamma rays can cause serious damage when absorbed by living tissue and, are therefore a health hazard.

Paul Villard, a French chemist and physicist, discovered gamma radiation in 1900, while studying radiation emitted from radium.[1] Alpha and beta “rays” had already been separated and named by the work of Ernest Rutherford in 1899, and in 1903 Rutherford named Villard’s distinct new radiation “gamma rays.”

I’m not interested in scapegoats, whom I regard as falsely accused and falsely burdened.

I am quite interested in ‘accountability’: personal, and institutional. People make decisions; a lot of this activity probably occurred in social situations where people assumed that basing the value of derivatives was ‘normal’ and ‘acceptable’. That does not make it acceptable, nor does it mean they should get a pat on the head and a cookie before bedtime.

I do agree with you that ‘free market ideology’ lies at the heart of much of this mess, and would add that ‘Wall Street penis envy’ is one facet of ‘free market ideology’ that I personally find especially galling, having seen it UpCloseAndPersonal on more than one occasion.

However, I think that anyone who names their hedge fund “Magnetar”, then names their CDO’s after constellations in which known magnetars are located, and then uses the whole ‘gamma‘ concept as a means to scam pension funds, banks, and trusts should probably spend a lot of time chatting with the FBI and any international organizations who might be interested.

Because they’re too damn clever by half, and their clever little astrophysics allusions (at least, as I decipher them) are a ‘tell’ that they rather relish punking the rest of us. Personally, I hope the FBI asks them lots and lots and lots of questions.

Hey smarty, how come you always have a good explanation for everything ;-)))

Dear Fellow Caines. Thank you both for your insights. So let me see if I have all of this in focus. Unless there is new, strict regulation of the financial markets (that’s a bit of a leap of faith), the present blackjack dealers and their publicly elected and privately funded minions and all new blackjack dealers and their publicly elected and privately funded minions will be given free rein to continue to play their dishonest, conspiratorial games of change with all of the players at the table, aka caveat suckers. Gee, I wonder what Tom Jefferson-even though he was demoted in Texas- would think of the present state of the Union. Maybe it is best he doesn’t know.

Please review the article by Gretchen Morgenson linked in my post.

Mr. Egol, a Princeton graduate, had risen to prominence inside the bank by creating mortgage-related securities, named Abacus, that were at first intended to protect Goldman from investment losses if the housing market collapsed. As the market soured, Goldman created even more of these securities, enabling it to pocket huge profits.

You’re seeing it the way that I’m seeing it: brazen fraud, publicly sanctified and legislated by those beholden to people who make fortunes in ways that are socially, economically, and politically destablizing.

However, there are people: Simon Johnson (“13 Bankers”), Yves Smith (Econned, NakedCapitalism blog), Robert Johnson (New Deal 2.0 blog, Roosevelt Institute), Michael Greenberg (a recent participant in Let Markets Be Markets), Nomi Prins (“It Takes A Pillage”), Joepsh Stiglitz, Dylan Ratigan (msnbc), and many others who are trying to explain this to the public so that we don’t fall for this bullshit.

It reallly is key that the public become knowledgeable and call their electeds; the banksters and hedgies are counting on what Jon Stewart might call the ‘booga-booga’ of complexification to make us all feel bamboozeled, confused, and hopeless.

Which I think is a good reason for us all to laugh at them and ridicule them relentlessly. Good grief, what a pack of overpaid egoists.

Frankly, I think this is an opportunity for electeds with the brains and guts to figure this all out and explain it clearly. So far, Delaware’s Sen Ted Kaufman is notably clear and articulate. Here’s hoping more of the newer Dems catch the wind in Kaufman’s sails.

It’s not only about gamma, and One can extimate a value for Gamma based on recent history.

It about assumptions. Li’s work states, that is invalid to use it becuase it cannot handle large exogenous events.

Throw a brick into you bucket of salt water, and model that.

What’s a brick in the real world? A large earthquake, a hurricane hitting a major city, planes flying into tall buildings, the soohtin death of a president, the death of the entire Polish leadership in aplane crash.

Each event is unique, and by itself rare. However the event’s affects on the market are always the same, flight to safety. Cumulatively these lrage events are not so rare. I’d assert they happen weekly, if not daily.

There is also a somewhat tricky definition. The definition of a large event, as opposed to “normal events”.

It about assumptions. Li’s work states, that is invalid to use it becuase it cannot handle large exogenous events.

Lovely.

Yes, it does not account for, nor acknowledge, Black Swans.
It is a core error.
Or, as we might type, “!ERROR”.

Betting against their own customers or their own country is in fact a way of life for large banks like GS and JP Morgan. The following article appeared in the NY Post today. Interesting read that should make your blood boil.

The term credibility and the name Wall Street will never be the same. At least not used in the same breath.
Just breaking 4/11

NY Post
Metal$ are in the pits
By MICHAEL GRAY
4:33 AM, April 11, 2010

Trader blows whistle on gold & silver price manipulation

There is no silver lining to the activities of JPMorgan Chase and HSBC in the precious-metals market here and in London, says a 40-year veteran of the metal pits.

The banks, which do the Federal Reserve’s bidding in the metals markets, have long been the government’s lead actors in keeping down the prices of gold and silver, according to a former Goldman Sachs trader working at the London Bullion Market Association.

Maguire was scheduled to testify last week before the Commodities Futures Trade Commission, which is looking into the activities of large banks in the metals market, but was knocked off the list at the last moment. So, he went public.

Maguire — in an exclusive interview with The Post — explained JPMorgan’s role in the metals pits in both London and here, and how they can generate a profit either way the market moves.

http://www.nypost.com/p/news/business/metal_are_in_the_pits_2arTlGNbMK7mb1uJeVHb0O/0#ixzz0knioYd8m

From the WIRED link you include (and yeah, I really do love that article):

Actually, I didn’t, but that’s not a bad article.

Li’s formula: (it isn’t going sweetly into this blog comment software, so briefly here is my ideosyncratic summary — take with a gallon of salt: the probability of the survival times of the [stated value of the derivative assets] are equal to probabilities that the distribution functions calculated for those[asset value] survival times correlate to a single constant, which Li calls gamma.)

Actually, it puts two gaussians together by assuming that the angle (if you will) between them can be represented by constructing the convex sum of the model when they are totally correlated and the model when they are totally independent. The constant for the sum, which you’re calling ‘gamma’ is then derived by taking data, but in order not to be prejudiced by what the market was before if it has changed, it is assumed that gamma measured as close to the present instant is the most accurate.

If my reading is correct, then if/when you screw up gamma, you’re hosed.

Or if gamma changes between the time when you put the CDO together and the present. But the problem is that there are some other variables around, and not all distributions are gaussian. And things change in response to the economic climate. Debt makes the market “freeze” (all the gaussians in the portfolio will become correlated), as does instability. At that point, the ‘gamma’ is almost surely wrong.

Article reviewed. It has inconsistencies in it. Principally, it seems unable to state clearly when people knew what. Part of that seems to rest on the fact that it assumes that only Goldman-Sachs knew the market was going to tank, and kept that to themselves, as early as 2005. But elsewhere in the article, an anonymous hedge fund person states that he wondered what was going on with Hudson because Goldman was betting against it. Indicating he was aware of Goldman’s position at the time. Then elsewhere it says that Goldman’s profits soared as the market soured, and also says that Goldman’s profits on the short bets didn’t keep them from losing billions.

At the bottom of it, regardless of what bets Goldman had placed, they were bets in CDSs, and it required a bailout to make the biggest CDSs actually pay out, as they weren’t capitalized. So that starts to say that only Goldman knew, and apparently in around 2006, that there would be a bailout.

See why I’m confused? The same mechanism is being used to shore up risky paper as is being used to bet against it. So without the formulas and the times and dates, it’s hard to know who knew what when, and whether they bet against the market (which is what they say they did) or against their own offerings (which is what their accusers say they did).

But it is clear that, for instance, Greenspan must be lying when he says nobody saw it coming. The bets started changing in 2006, and the calculations to change the bets started in 2005.

Interesting comment. Thanks ;-))
Especially:

Or if gamma changes between the time when you put the CDO together and the present. But the problem is that there are some other variables around, and not all distributions are gaussian.

And how in bloody hell would they not change, eh?
So on to your next comment…

At the bottom of it, regardless of what bets Goldman had placed, they were bets in CDSs, and it required a bailout to make the biggest CDSs actually pay out, as they weren’t capitalized. So that starts to say that only Goldman knew, and apparently in around 2006, that there would be a bailout.

Are you quite certain? I mean, in all seriousness, are you absolutely, positively certain?

See why I’m confused?

Boy, howdy!

So without the formulas and the times and dates, it’s hard to know who knew what when, and whether they bet against the market (which is what they say they did) or against their own offerings (which is what their accusers say they did).

But it is clear that, for instance, Greenspan must be lying when he says nobody saw it coming. The bets started changing in 2006, and the calculations to change the bets started in 2005.

Interesting: BushCheney’s second term, the Year of Katrina.

I think there is plenty of circumstantial evidence that they bet against their own offerings, and their claims to secrecy only harden that view. If releasing that data would exculpate them, they’d do it in a heartbeat.

As for the timing of the bets changing… sources?

The more that I read, the more clear it becomes that financial powers rigged this system, starting in the 1980s, and morphing in the late 1990s.

So question for you: the ‘uptick rule’ was eliminated in July 2007, if Wikipedia is correct (no time to go double-check). Imagine an ancient city, with a city wall; opposing armies used to tunnel in order to weaken the foundations of the walls and invade. As I see the elimination of the uptick rule, it’s a form of ‘financial tunneling’ if you will. How and why does that affect gamma? Would you be able to explain?

Thx, masaccio and mods, if you are able to keep this thread open another day or so… (!).

See why I’m confused? The same mechanism is being used to shore up risky paper as is being used to bet against it. So without the formulas and the times and dates, it’s hard to know who knew what when, and whether they bet against the market (which is what they say they did) or against their own offerings (which is what their accusers say they did).

But it is clear that, for instance, Greenspan must be lying when he says nobody saw it coming. The bets started changing in 2006, and the calculations to change the bets started in 2005.

Would you be able to explain how the elimination of the ‘uptick rule’ in July 2007 played into this?

Let me make sure my tin foil hat is on tightly while I point out that it’s my understanding this went via the Exec-controlled SEC. The legislative and judicial branches had no say in the matter. But it is worth noting that the timing came after the changing calculations and changing strategies — making it simpler and equally secretive to bet against one’s own offerings, correct?

– masaccio and mods, if it is possible to let this thread remain open in hopes ondelette or gold standard return, that would be wonderful.

Here’s how I read the article. A lot of people thought the market would collapse, but as late as 2007, there were people who figured it wouldn’t last long, and that most of the mortgages would pay off. A lot of people didn’t seem to realize is that subprime mortgages initiated after mid-2005 were so toxic. Goldman Sachs seems to have begun its exit earlier than most.

Even Alan Greenspan acknowledges that there was a bubble. See his paper here, at page 8. Market participants continued to play because they were afraid they would lose market share or profits if they didn’t, say Greenspan, and others.

Back to the NYT article: I think it says that at some point after 2005 Goldman Sachs decided to cut its exposure drastically using credit default swaps. It needed counterparties. It found them in its customers. It appears to me they used the Abacus deals as part of this strategy. They call this market making to distinguish it from brokerage transactions. In a market-making transaction, they would claim they had no duty to their counterparty. In a brokerage transaction, they might well have had duties to their investors.

Note that all of this is meta: it relates to swaps, and the reference securities are just the medium for betting on the outcome of the housing market situation. The underlying securities were RMBS or CDOs stuffed with subprimes or something like that, so that a bet on them is a proxy bet on the housing market. That some of them were really trashy is interesting because it supports the possibility that Goldman was tracking along like Magnetar as described by Smith and Pro Publica.

Finally, I am not saying that either Goldman Sachs or Magnetar did anything illegal or wrongful, or that the strategy was wrongful, or that anything done was wrongful. I don’t know. The level of regulation is low in this area. The kinds of things you are talking about may play a role in deciding whether there was a problem.

I doubt that dynamic and chaotic systems like financial systems can be modeled with Gaussian curves, except over very short time spans. I think that the equations used for this stuff are too discontinuous. Nicholas Nassim Taleb suggests that fractals might be used for such models, but I doubt that too, for the same reason.

Yves Smith has it right: the future is unknowable. If it were otherwise, how boring would that be?

rOTL, the uptick rule only applies for exchange traded securities. It’s abolition made short sales easier. Short selling isn’t very well policed, and when the rule went, it was easy to short even when the market was heading down by itself. That probably played a role in the destruction of Bear Stearns and Lehman Brothers, and hurt the banks as well.

CDOs and CDSs aren’t traded on exchanges, so the uptick rule wasn’t applicable.

CDOs and CDSs aren’t traded on exchanges, so the uptick rule wasn’t applicable.

Okay, I’d forgotten that (or never had a clear understanding, as this is not my line of work). But I did recall that it seemed to speed up the short selling, and in that tumultous, dynamic market it must have been tempting to think that selling as fast as possible would bring greater success.

Looks to me like ADHD for markets, but then I’m often huffing around here as a scold.

I clearly recall having several extremely engaging conversations with realtors and developers back in the winter of 2006 about their fears that the market was already softening. (Sprawl is one of my long term interests, and I live in the Puget Sound region, which went gangbusters in the 1990s and up to 2008.) My acquaintances were expressing a lot of angst about the fact that anyone who could walk and chew gum could become a housing developer or realtor — they were making a great deal of money, but hearing stories that were setting off their alarms. “No standards” was kind of the theme that I heard about too many realtors, and mortgage lenders.

What I did not grasp **at all** until 2008 (and reading your posts, then additional reading) was the whole ‘securitization’ level of this mess. And I’m not sure that my acquaintances understood it; they basically worked within networks of people that they personally felt they could count on. But they were horrified at the idea of ‘interest only’ loans and had been appalled at potential clients asking for $25,000 over and above the price of a house ‘for furniture, or a vacation’.

My personal acquaintances were frankly peeved by these requests, and I gather told those potential clients that they should look elsewhere for representation — partly because they didn’t want to deal with them (they were making so much money doing so much business they were running themselves ragged anyway). But also because they thought it was sketchy and didn’t want to get involved in what they viewed as potential fraud.

GWBush from 2000 kept yammering about the ‘ownership society’, but I can definitely say that a lot of people were already priced out of the Puget Sound market by around 2002.

In response to price pressure, around 2002 some housing styles began to change, but also a lot of ‘new loan products’ began showing up. According to my (realtor) contacts, a lot of people in real estate were ill-equipped to distinguish a good loan from a bad loan.

In addition, the income of both realtors and lenders was based on the loan amount (or sale amount), so they had every incentive to inflate prices. By 2006, they were getting information about a contraction in the offing. By then,
a lot of people who should have been priced out were given terrible advice, as near as I can tell. I’m told this happened because realtors were used to making ‘deals’ and couldn’t come to grips with the notion that their rivers of money might dry up. So they dropped their standards. (I noted with interest that this theme was raised in the FCIC panel with Susan Mills and ?Patricia Lindsay last week. I heard this repeatedly; the good deals are gone, and standards are declining.)

In the summer of 2006, I read Soros’ “The Age of Fallibility“, and he **clearly** sounded alarms about the US housing market as a symptom of the larger problem that US credit had been stretched to the limit. ( I’ve looked in my much-marked up copy of his book for the following quote, in case it is ever any use for you.)

On p. 126, he wrote:

“People refinanced their houses and withdrew the equity. Equity withdrawal reached an annual rate of over $800 billion in 2005, which is more than the trade deficit. It is estimated that about half that amount was actually spent.”

Soros’s figures were consistent with what I was hearing locally. And that was in Feb and March of 2006 (!).

Housing was one of the biggest economic sectors where I live, but it was cyclical and the pressure to gut environmental regulations, install (conservative) political extremists into county and city councils, and whine to the legislature about ‘over regulation’ in order to cut environmental agency budgets was scandalous.

For me, apart from being an economic and social nightmare, this whole securitization monster was an environmental nightmare (in terms of horrendous subdivision projects based on cheap gas) that cannot be undone in the short term. So unless the economic system is addressed, we continue to have catastrophic environmental policies and policies that enable and support polluters.

So that’s part of my motive for dogging all your threads.
More info than you needed, but so it goes.

Anyway, thanks again for your enlightenment.
Very much appreciated.

I don’t think that I was clear: my acquaintances were scandalized at what they were beginning to see, which would probably be called ‘teaser loans’.

They didn’t sell them.
They didn’t want anything to do with them.
They felt that a lot of things were wrong, much of it from people who were too dumb, too lazy, or too naive to do a serious job of making sure that the real estate transactions were legal, had no strings dangling anywhere, and were in the best interests of their clients.

Good realtors rely upon repeat business, and having their reputations passed along to recommend them. So my sense was that the stuff they saw horrified them, worried them, but also put them at risk as being viewed as total sleazebots because they sold real estate.

They felt that a lot of sketchy, rotten stuff was starting to happen, but they didn’t understand the role of Wall Street securitization in driving some of the mess.

One of them told me a month or so ago that her business is picking up, but at the lower price end when she pulls up listings on the Multiple Listing Service as many as 80% of the houses she’ll be reviewing are foreclosures (!).

That blew my mind.
Just to realize that whole sectors of the housing market have more than 50% of the listings coming from foreclosures makes my skin crawl.

We have enormous social damage and trauma in this culture.
And it will go on and on without better economic systems.

So now, off my soapbox and back to work.
This late on a thread, I figure we’re the only ones around…

The current game on Wallstreet is fraud. But it doesn’t matter atm, they’ve clearly paided off all the right people. But can they sustain such as system for very long? I doubt it, not unless we let them.

“Goldman Sachs Explains Itself: We Weren’t Betting Against Customers, Just Betting Differently”

My response to Goldman Sachs: We Aren’t Calling you Criminals, We Just Intend to Sieze Your Assets and Throw You in Jail.