Book Review: Why I Left Goldman Sachs By Greg Smith

Includes: GS
by: Philip Mause

Just when we thought that the public perception of the financial industry could not sink lower - Greg Smith (the author of a controversial Op Ed piece in March) has released his book which fleshes out the earlier assertions of conflicts and other ethical lapses at Goldman Sachs (NYSE:GS). The book is a worthwhile read for providing atmospherics on the Wall Street trading floor and insight into the organizational dynamics of Goldman Sachs. It is, unfortunately, light on detailed descriptions of exactly who did what and when he did it. Nor is there the kind of persuasive analysis of why, how and by how many dollars certain clients were harmed by Goldman Sachs. This may be understandable but, for an author who seems to have no problem "talking out of school" about friends and his former girlfriend and disclosing that he "took a dive" in a ping pong tournament to ingratiate himself with a client, there should have been no issue in swallowing hard and laying out the details of some of the wrongdoing which concerns him.

Smith had terrible timing. He joined Goldman in 2001 and was interrupted during his Series 7 exam by 9/11. As a native South African, he got hammered back home in his Rhodes interview because he hit the finals at a time of peak anti-Americanism. He got to live through the 2008 Panic, the Flash Crash, and all sorts of other traumatic market events, all the while watching his co-workers be told to hit the bricks. He joined Goldman shortly after the IPO so that he never experienced what Goldman was really like before becoming a public company but could listen with awe to the memories of the "good old days" still fresh in partners' minds. He frequently refers reverentially to individuals as "pre-IPO" partners implying that vintage somehow corresponds with status and, perhaps, integrity and that, presumably, "post-IPO" partners are lesser mortals.

And he really open hosed down the Kool Aid. Like many organizations, Goldman prides itself as being better, more ethical, smarter, etc., etc. and drills its values into new recruits. There is some truth in this - Goldman is a truly impressive and exemplary organization (I even own some stock). But it is a HUMAN organization populated by individuals who are, as we all know, flawed by the scar of "original sin." As one who was raised a Roman Catholic but with a Protestant father, I have always been skeptical of exceptionalist claims on the part of human organizations and tend to see such organizations arrayed along a complex spectrum rather than grouped into black and white. Apparently, Smith had no trouble forming a firm conviction that he was with the "good guys" and, in fact, actively recruited for Goldman.

The emotions of love and hate are said to be surprisingly close and Smith's disillusionment upon experiencing certain unpleasant facts about Goldman was gargantuan. It came after what I would have considered an even more disappointing break up with his girlfriend - in which she apparently staked out her ground that he would have to be earning enough so that she could stay home once they had kids. It would have been the kind of cold shower that would have hit me harder than anything that he describes happening at Goldman.

It is very hard to tell whether his disillusionment was the product of 1. the fact that, as he rose in the ranks, he got a different and more candid perspective on what was going on all along, 2. the London office (where he was when he left) had a different and inferior set of ethics in comparison with New York, or 3. there was an actual change in firm-wide behavior and values over the 12 years he was there. His complaints focus on the sale of opaque OTC derivatives for inflated prices to clients who don't understand them and the inherent conflicts associated with conducting agency trading and proprietary trading under the same roof.

Based on his book, it is difficult to sort this out. He provides anecdotes without a lot of detail and I am sure that there are cases of brokers taking advantage of clients. As anyone who has gotten a free drink after giving a big tip to a bartender knows, there is a complicated three way tug of war between the customer, the employee and the "house." Frankly, I would have thought the bigger danger was that the client would be favored at the expense of the house because the broker can leave with the client and go to another firm. The house protects itself by imposing metrics upon its employees and this sets the stage for a game of three dimensional chess in which employees (like the salesmen in Glengary Glen Ross) try to survive. In law firms, the metrics are billable hours and attributed billings. At Goldman it was Gross Credits or GC for short. As the organization becomes larger, individuals are increasingly viewed as inconvenient appendages to a set of more important numbers. I learned of one case in a large accounting firm in which, during a mass lay off, several partners were fired "by mistake" due to confusingly similar last names. My guess is that, in this kind of anonymous atmosphere, employees spent as much time inflating GC by exaggerating the profitability of what they were doing as they did chiseling clients so that some of the assertions he heard about ripping off "muppets" were self-serving exaggerations.

For those of us looking for a way out of the jungle, I think that the book underlines a theme I have tried to emphasize and even to practice - IF YOU DON'T UNDERSTAND IT, DON'T INVEST. A huge part of the problem he identifies is that charitable organizations and pension funds lap up these complex derivatives without any idea of what they are getting into or whether they are paying a fair price. I think that the solution lies more in restricting their behavior [perhaps as a condition of ERISA insurance or 501(c)(3) status] than restricting the sale of these products. Of course, this phenomenon exists in a world in which many of Madoff's investors were charitable organizations which, of course, suggests an even more pervasive problem.

I am troubled by one deficiency in the book. He never once expresses concern or solicitude for Goldman's shareholders - the word, "shareholder," is not even listed in the index. In fact, GS served its shareholders well. It positioned itself to ride out a terrible storm by identifying the dangers the market faced and making appropriate investments. It survived and prospered at a time when others cratered and disappeared. It was not one of the organizations primarily responsible for the subprime mortgage/mortgage backed securities debacle. If I wanted to "clean up" Wall Street and the financial services industry, Goldman Sachs is the last place I would pick to start.

Greg Smith's book is a good read and provides some useful insight into Wall Street trading operations. As I said, readers should come away with a firmer conviction to never invest in anything they don't understand. Pension funds managers and those who invest for charities should likely be subject to stricter guidelines and, hopefully, the book may lead to that. But to the extent that it purports to be a detailed indictment of Goldman Sachs, the book falls short.

Disclosure: I am long GS. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.