Goldman Sachs Scandal: Myth or Reality?

NOTE: This is an abridged revision of a previous instablog (Folio Protection: Goldman Sachs Manipulation Accusations, Part I), along with what would have been Part II.

In case you’re not aware, there are allegations against Goldman Sachs (GS) by Matt Taibbi in his article, The Great American Bubble Machine, (July 9-23, 2009 in Rolling Stone). Taibbi’s thesis is that in pursuit of its own profit, Goldman Sachs created six major bubbles to the determent of the nation.

The six bubbles Taibbi lists are:

1. The Great Depression
2. Tech Stocks
3. The Housing Craze
4. $4 a Gallon
5. Rigging the Bailout, and
6. Global Warming (this last is in the making).

I DON’T have any knowledge of the alleged Goldman wrongdoings (everyone is innocent until proven guilty), and I encourage everyone to read Taibbi’s article with an open mind and arrive at their own conclusion. I DON’T want my article to become an economic history or legal analysis document. It is NOT the intent of this article to provide general investing wisdom, advice on fundamental analysis, advice on technical chart reading, or portfolio management; but rather to give three tips and actionable advice to protect trader’s portfolios from attempts at “gaming the system”.

Robber Barons, Pigs and Prom Queens

You don’t have to be a “conspiracy theory nut” to realize that throughout history the wealthy and powerful have exploited the greater masses and ignored their own nation’s long-term health for their own gains. In fact, you have to be a “nut” to refute that. It need not be a “backroom, smoke-filled conspiracy”; it’s enough that “power corrupts and absolute power corrupts absolutely”.

Some may argue that Robber Barons don’t exist anymore because of sound market regulations and independent judiciaries, and that they’re as irrelevant as Rockefeller and Vanderbilt. Trying telling that to victims of the Stanford banking and Madoff ponzi scandals. Greed, financial exploitation, “gaming the system” (e.g., putting lipstick on a pig and passing it off as a prom queen), and victimizing the little guy still happens; it’s still very real, and still devastates families (and nations).

Taibbi: Goldman Allegations

According to Taibbi:

Goldman positions itself in the middle of a speculative bubble, selling investments they know are crap…with the aid of a crippled and corrupt state that allows it to rewrite the rules in exchange for the relative pennies the bank throws at political patronage. Finally, when it all goes bust, leaving millions of ordinary citizens broke and starving, they begin the entire process over again, riding in to rescue us all by lending us back our own money at interest, selling themselves as men above greed, just a bunch of really smart guys keeping the wheels greased. They've been pulling this same stunt over and over since the 1920s - and now they're preparing to do it again, creating what may be the biggest and most audacious bubble yet. (Pg. 54)

How can this happen in a democracy? He argues that “…organized greed always defeats disorganized democracy.” (pg. 53) Taibbi alleges that the government is penetrated-and-gamed by Goldman:

…Paulson elected to let Lehman Brothers – one of Goldman’s last real competitors – collapse without intervention…The very next day, Paulson greenlighted a massive, $85 billion bailout of AIG, which promptly turned around and repaid $13 billion it owed to Goldman…Immediately after the AIG bailout, Paulson…put a heretofore unknown 35-year-old Goldman banker named Neel Kashkari in charge of administering the [TARP] funds. (pg. 98-99)

The average person and the nation suffer…because as Taibbi states:

And here’s the real punch line. After playing an intimate role in four historic bubble catastrophes, after helping $5 trillion in wealth disappear from the NASDAQ, after pawning off thousands of toxic mortgages on pensioners and cities, after helping to drive the price of gas up to $4 a gallon…after securing tens of billions of taxpayer dollars through a series of bailouts overseen by its former CEO, what did Goldman Sachs give back to the people of the United States in 2008? Fourteen million dollars. That is what the firm paid in taxes in 2008…The bank paid out $10 billion in compensation and benefits that same year…Thanks to our completely fucked corporate tax system, companies like Goldman can ship their revenues offshore and defer taxes on those revenues indefinitely, even while they claim deductions upfront on the same untaxed income. (pg. 100)

Goldman Rebuttal

Some have come in defense of Goldman (to say nothing of the firm itself) and have claimed:

1. the allegations are embellished and exaggerated
2. facts are taken out of context
3. some items are simply untrue

I’m not going to take sides. Readers are encouraged to read the article and arrive at their own conclusion.

Furthermore, we don’t have to decide who is right and who is a scoundrel. Suffice it to say, firms (whatever firm that might be) and well-positioned individuals do attempt to game the market. Markets might be fair compared to the 1800s, but they’re not fair…not by a long shot. Some might roll their eyes back and scream that this is overstating the obvious…but many people put their “trust” in the market, TV and newspaper “experts”, and financial advisors. Stanford and Madoff victims come to mind (along with those that give into “fear and greed” propaganda and buy at the top or sell at the bottom).

Actionable Advice

Passive investors believe in indexing the market. Active investors, by contrast, seek to research their stocks, ETFs, etc. Technicians go through a 1000 charts patterns, and fundamental investors through an alphabet soup of accounting data. Whatever floats your boat. The bottom line?

TRADING TIP #1:

Protect yourself from those that seek to “game the system”, by realizing that it takes two to trade. Before you decide to buy something, consider who’s on the other side of the trade (is it a Goldman trader) and why are these traders willing to sell to you at current prices? Of course, you don’t know who’s on the other side of the trade; but observe what conventional wisdom or “truths” Wall Street is peddling right now (the psychological consensus they’re trying to build regarding a sector or stock).

See which way they’re trying to push the general public. Do they want you to believe good times are around the corner (green shoots), so you’ll buy the stock? You and a million other retail investors are buying…but who’s on the selling side? Are they trying to convince you that Lehman, CDOs, Iran, et al will be the end of capitalism and you should sell? If you’re selling, who’s buying cheap on the other side? Recognize when public opinion is being influenced. Statistics don’t lie, buy liars use statistics. Approach “expert opinion” (commentators, advisors, et al) with a healthy dose of skepticism (these are the “instruments” through which “the market” puts lipstick on a pig and sell it off as prom queen). NOT all experts should be viewed with suspicion; paranoia is not the solution.

But realize that pretty charts, official sounding terms, and reams of statistical data are the tools of the trade for influencing minds. Just because 10, 20, 50 “experts” agree about “green shoots” (or anything else) doesn’t mean it’s true (SOMETIMES, that’s a contrarian indicator of the opposite).

TRADING TIP #2:

Protect yourself from those that seek to “game the system”, by following the elephant tracks and don’t argue with the titans. You and I will never know in advance what the institutional money is going to do. Knowing what they did after the fact is useless because that’s solving the right problem too late…we’re traders not history professors.

As I’ve mentioned in previous articles, once you’ve spotted the titans have changed direction (gone from buying to selling): DON’T stand there wondering why they changed direction, don’t stand there arguing with them, just make sure you get on the right side of the trade. You can be a conservative-bull in morning (long positions) and extreme-bear in the afternoon (leveraged short). Trade the market you have, not the market you want.

And when it comes to trading the markets, don’t confuse timing to forecasting markets. Forecasting the unknown, eventual leads into error-and-losses because no one has a crystal ball. As I stated in another article “Profiting from Earnings Season Uncertainty”:

GAAP accounting is no more a legitimate crystal-ball of an uncertain future then chart-reading. That doesn’t mean chart-reading is bullet proof and the way to go. There are good traders and bad traders, just like there are good investors and bad investors; whatever works for you.

Know the limitations of your tools (fundamental and technical).

TRADING TIP #3:

Protect yourself from those that seek to “game the system”, with a good entry and exit strategy.

Entry Strategy: The price you buy something is more important than the selling price. Not convinced? Long-term investors know all too well about Benjamin Graham’s “margin of safety”. Traders should also take note. Your wining trades are made when you buy, not when you sell because a good entry price makes is EASIER to exit a trade with a profit. Keep this SIMPLE-YET-CRITICAL RULE in mind, and you’re less likely to be seduced to make the infamous retail investor mistake (buy-high, sell-low) by those that attempt to game the system. If the fundamental and technical indicators don’t justify the position, walk away.

Exit Strategy: Always have 3 exit prices, for 3 possible outcomes: “the good, the bad and the ugly”. Traders need three tactics because anything can happen after you buy. If you develop a protection strategy BEFORE you buy a stock, then you’ll be able to exit profitable trades; have a stop loss strategy to get out of bad trades (whipsaw); and a “911” strategy when the bottom falls out. So even if the market was gamed and you were caught on the wrong side of the trade, your losses are kept to a minimum.

Conclusion

Like chess, trading and investing can be easy to learn but hard to master. There are many good “how to” resources for investing, fundamental/technical analysis, chart reading, and folio management. But that all assumes a level playing field. The purpose of this article is to review allegations of wrongdoing, not with the intent to “pick sides” but rather to remind readers that the markets are not fair; and to provide SIMPLE-YET-CRITICAL trench warfare tactics for protecting your portfolio from the Robber Barons and Madoffs of the world.

Disclosure: No positions as of submitting article.

Comments

[ain't no fo...:]

Good article Serge. Your advice on picking the right entry point is especially important - prevents one from being forced into premature stop-loss situations, cuts down on second guessing, allows one to ride out some of the up/down volatility that is part of the daily trading environment in these rather illiquid markets.

Jul 06 12:07 PM