Goldman Sachs Grilled in Senate Hearing Over Mortgage Business

Goldman Sachs Inc. hearing
Daniel Sparks, former partner and head of mortgages with Goldman Sachs Group Inc., left to right, Michael Swenson, managing director of structured products group trading with Goldman Sachs Group Inc., Joshua Birnbaum, former managing director of structured products group trading with Goldman Sachs Group Inc., and Fabrice Tourre, executive director of structured products group trading with Goldman Sachs Group Inc., swear in during a Senate Homeland Security and Governmental Affairs subcommittee hearing on Wall Street and the financial crisis in Washington, D.C., on April 27, 2010. Photographer: Andrew Harrer/Bloomberg

Goldman Sachs Group Inc. executives were grilled by U.S. senators probing the bank’s mortgage business as Senator Carl Levin asked why it sold a set of investments the lender had itself labeled “shitty.”

“How about the fact that you sold hundreds of millions of that deal after your people knew it was a shitty deal?” the Michigan Democrat asked Daniel Sparks, who ran the bank’s mortgage unit at the time. “Does that bother you at all?”

Levin, who heads the Senate subcommittee that’s holding today’s hearings, was referring to a June 2007 e-mail from Thomas Montag, the former head of sales and trading in the Americas at Goldman Sachs, to Sparks. The message described a set of mortgage-linked investments that his bank had been trying to sell as part of “one shitty deal.”

“I don’t recall selling hundreds of millions of that deal after that,” Sparks replied, adding that he believed the e-mail referred to his performance, not the security itself.

“If you can’t give a clear answer to that one, Mr. Sparks, I don’t think we’re going to get too many clear answers from you,” Levin said.

Seven current and former Goldman Sachs employees including Chief Executive Officer Lloyd Blankfein are testifying about the mortgage-securities business in the years leading to the biggest financial crisis since the Great Depression. Goldman Sachs, the most profitable securities firm in Wall Street history, had been sued for fraud by the Securities and Exchange Commission, and contests the claim.

Tourre Denies Allegations

As the executives testified, Goldman Sachs shares had one of three gains among the 79 financial companies in the S&P 500. The stock rose 70 cents to $152.73 as of 12:50 p.m. in New York Stock Exchange composite trading.

Fabrice Tourre, the only Goldman Sachs employee named by the SEC, testified today that he “categorically” denied the allegations. “I will defend myself in court against this false claim, Tourre, 31, told the standing-room-only hearing of the Permanent Subcommittee on Investigations in Washington.

The transaction referred to by Levin was Timberwolf Ltd., a $1 billion collateralized debt obligation holding pieces of other CDOs. The CDO also included optimistic side-bets on the performance of CDOs, derivatives in which the firm took the opposite pessimistic side in ‘‘many’’ cases, the panel said.

Timberwolf’s 2008 Liquidation

‘‘Boy that timberwo[l]f was one shitty deal,’’ Montag, who is now Bank of America Corp.’s president of global banking and markets, said in a June 22, 2007, e-mail. Within five months of Timberwolf’s debut, the CDO had lost 80 percent of its value, and it was liquidated in 2008, according to the statement yesterday.

‘‘The message that I took from the e-mail from Mr. Montag was that my performance on that deal wasn’t good and I think the fact that we had lost money related to that wasn’t good,” Sparks said at the hearing. “I didn’t use that term in respect to this deal.”

Sparks, 43, who left the bank in 2008, told Montag earlier on June 22, 2007, that $300 million of Timberwolf securities were the “main thing” left among a group of positions the bank had bought from an unidentified source, according to the e-mails. In a June 7, 2007, e-mail, a Goldman Sachs employee said a head of sales in Korea at the New York-based company felt like he could “push” a buyer whose name was redacted to purchase more of the debt.

Blankfein to Speak

The CDO was among securities that Goldman Sachs sold to clients after deciding the firm needed to reduce its mortgage holdings, Levin’s panel said in a statement yesterday.

Montag, now 53, isn’t scheduled to appear and didn’t respond to a request for comment. Bank of America spokeswoman Jessica Oppenheim declined to comment.

The committee began to release excerpts of the Goldman Sachs documents yesterday. Today, Blankfein, 55, will tell the panel his firm didn’t wager against clients, according to a prepared text of his remarks.

“We believe we at all times worked appropriately with our clients,” Lucas van Praag, a Goldman Sachs spokesman, said yesterday in an e-mailed statement. We did try to manage our risk, as our shareholders and regulators would expect.’’

Bear Buys Timberwolf

The Timberwolf CDO was issued in March 2007, following a Goldman Sachs quarter that ended February 2007 in which one department of the bank shifted from $6 billion of bets that mortgage bonds would perform to $10 billion they would default, according to Bloomberg data and information the panel released.

Bear Stearns Asset Management, the manager of two hedge funds overseen by Ralph Cioffi whose collapse in June 2007 roiled global markets, was among the buyers, purchasing about $300 million, according to the committee. Cioffi’s funds that month sold some securities to meet margin calls from lenders.

Sparks in one e-mail urged “personnel working on a potential Korean sale to ‘[g]et ‘er done,’ and sent a mass e-mail to the sales force promising ‘ginormous credits’ for selling’’ the debt, according to Levin’s statement. ‘‘A congratulatory e-mail was sent to an employee who sold a number of the securities: ‘Great job _ trading us out of our entire Timberwolf Single-A position,’ ’’ the panel said, potentially referring to $36 million of A-rated notes.

Montag’s Career

Montag retired from Goldman Sachs in December 2007, and was recruited in April 2008 by then Merrill Lynch & Co. CEO John A. Thain to his firm. Merrill Lynch was bought by Bank of America in a government-assisted deal at the start of 2009.

CDOs repackage pools of assets such as mortgage bonds, bank capital notes and buyout loans into new securities with varying risks. While Timberwolf was initially intended to be about half invested in mortgage-bond CDOs and half invested in collateralized loan obligations tied to company debt, the bank sold many of its ‘‘best-performing’’ CLOs separately after a rebound in their values, Levin’s statement said.

Levin’s committee also released e-mails with references to Hudson Mezzanine 2006-1, Anderson Mezzanine 2007-1 and Abacus 2007-AC1, the CDO at the heart of the SEC suit filed April 16.

The U.S. claims Goldman Sachs misled investors by failing to disclose that hedge fund Paulson & Co. -- which was betting against the U.S. mortgage market -- helped the Abacus CDO manager select securities to include in the portfolio. Goldman Sachs has called the SEC’s lawsuit ‘‘completely unfounded.” Paulson wasn’t accused of any wrongdoing.

Greywolf’s Role

CDO managers select the collateral going into the vehicles, and sometimes reinvest as the underlying positions pay down and trade in and out of holdings.

In Timberwolf’s case, the manager was Purchase, New York-based Greywolf Capital Management LP. The firm’s partners included the late Greg Mount, who joined in 2005 after nine years at Goldman Sachs, where he helped build its CDOs business, according to the prospectus and the firm’s website.

Greywolf, which focuses on corporate debt and says on its website it manages $848 million, planned to buy $41 million of the CDO’s junior-most tranches, according to the prospectus. In January 2007, Goldman Sachs underwrote a $502 million CLO managed by Greywolf tied to high-yield company loans, according to Bloomberg data.

Conflicts Disclosed

The conflicts of interest section of Timberwolf’s prospectus said that Greywolf might “take into consideration research and other brokerage services” from investment banks in its decision-making for the CDO and also make separate investments with “interests different from or adverse to” the CDO’s collateral.

“Under the terms of the Collateral Management Agreement,” Greywolf “will be permitted to take whatever action is in the Collateral Manager’s best interest regardless of the impact on the Collateral Assets,” according to the prospectus.

Mount died last April, the company said in a statement at the time. Shawn Pattison, a spokesman for Greywolf, declined to immediately comment.

On Goldman Sachs’s role, the prospectus said the firm would act as the sole counterparty for the bullish derivative bets on CDOs that the vehicle was making through so-called credit-default swaps, “which creates concentration risk and may create certain conflicts of interest.”

Matthew G. Bieber, described by the panel as the Goldman trader responsible for managing Timberwolf’s issuance, later characterized the day that the CDO was created as “a day that will live in infamy,” according to an e-mail released today.

An employee at Goldman Sachs who today answered a number for Bieber said that he was “off the desk” and didn’t take a message.

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