Tourre to Break Silence Testifying at SEC Trial Over CDO

Fabrice Tourre, the former Goldman Sachs Group Inc. vice president facing civil fraud claims over a mortgage bond debacle that made his client $1 billion, may say on the witness stand today that he’s a scapegoat who only tried to do his best for the firm.

Tourre, now a 34-year-old graduate student, is scheduled to testify before a jury in Manhattan federal court this afternoon about his role in structuring and selling a 2007 mortgage-backed investment that lost a group of investors about $1 billion when the mortgage market crashed. It will be his first chance to make good on a April 2010 promise to Congress to fight U.S. Securities and Exchange Commission allegations that he “categorically” denied.

Tourre’s testimony comes near the end of two weeks of evidence against him by the SEC. The agency’s lawyers will try to use Tourre’s own words to show he misled investors about the role of Paulson & Co., the hedge fund run by John Paulson, in helping select the assets behind the investment, which the fund then bet against. He will take the stand after Laura Schwartz, a participant in the deal and a key SEC witness against Tourre.

Short Only

Schwartz, testifying on cross-examination today, agreed that she is unable to recall any phone calls or meetings in which Tourre told her that Paulson planned to take a short-only position on Abacus, as the mortgage-backed investment was known.

His best defense may be to emphasize his relative lack of stature at Goldman Sachs at the time of the Abacus deal, said Jacob Frenkel, a former SEC lawyer not involved the case.

“He was a small player and nobody was fooled here,” said Frenkel, now with Shulman Rogers Gandal Pordy & Ecker PA in Potomac, Maryland. “I think that’s the most powerful image he can deliver.”

His lawyer has said that Tourre’s e-mails to his girlfriend in 2007 showed he was uncertain about what he was doing and provided “an easy mark, a scapegoat” for the SEC.

Tourre has kept a low profile since enduring the questions of a U.S. Senate subcommittee in April 2010 alongside other Goldman Sachs executives. The firm later settled SEC allegations for $550 million, a record at the time. Tourre has spent part of the time since then volunteering in Rwanda and working on a doctorate in economics at the University of Chicago.

Doomed Investment

Yesterday, Schwartz, the SEC’s star witness in the trial, told jurors that Goldman Sachs misled her into helping construct a doomed investment that Paulson was betting would fail.

Schwartz, who headed ACA Management LLC’s asset management business in early 2007, testified that Goldman and Paulson led her to believe that the hedge fund wanted to invest, rather than take a short position in Abacus.

“Our understanding was that Paulson was the equity investor,” Schwartz said.

That statement, the SEC claims, persuaded ACA to lend its prestige to the deal and to make a disastrous bet that the mortgage-backed securities underlying the investment would perform well. Paulson, which helped ACA pick the securities, was secretly betting they would fail, the SEC says.

Goldman Sachs and Paulson never corrected ACA’s misimpression through e-mails, phone conversations and meetings, including a chance encounter between Schwartz and a top Paulson executive in a Jackson Hole, Wyoming, hotel bar, she said.

‘Beauty Pagent’

Schwartz testified that a Jan. 8, 2007, meeting at Paulson’s Manhattan offices was part of a “beauty pageant” to select a third-party agent to pick the residential mortgage-backed securities underlying the Goldman Sachs investment, a synthetic collateralized debt obligation called Abacus 2007-AC1.

She believed from discussions with Goldman Sachs that Paulson was acting as sponsor of Abacus and was investing in its equity, she said.

ACA’s former chief executive officer, Alan Roseman, testified July 22 that Paulson’s long position was “critical” to ACA’s participation in Abacus. The SEC claims Tourre and Paulson misled ACA, believing the firm’s presence on the transaction would lend Abacus credibility and attract investors.

Paulson hasn’t been charged with any wrongdoing in connection with the Abacus deal.

An SEC lawyer last week played a recorded Jan. 17, 2007, telephone call in which Gail Kreitman, a Goldman Sachs saleswoman, told Lucas Westreich, who worked with Schwartz, that New York-based Goldman Sachs planned to place “a hundred percent of the equity” in the transaction with Paulson.

Equity Stake

Kreitman, who said she worked with Schwartz at Merrill Lynch & Co. before moving to Goldman Sachs, testified she can’t remember who told her Paulson intended to invest in the equity stake. She said she got most of her information on the deal from Tourre.

Schwartz said Goldman Sachs sent her a draft term sheet for the deal, which said that the equity tranche was “pre-committed” to Paulson. The SEC claims that Paulson, which made $15 billion making massive short bets against the residential mortgage market in 2006 and 2007, never considered investing in the equity, or “first-loss” tranche.

Schwartz also said that Tourre failed to correct an e-mail she sent referring to “Paulson’s equity perspective” on the deal.

And she testified about running into Paolo Pellegrini, the Paulson executive, in Jackson Hole, where she was attending a dinner for managers of collateralized debt obligations. Over drinks in a hotel bar they discussed the Abacus transaction, Schwartz said.

Shorting Portfolio

Pellegrini didn’t disclose that the hedge fund was shorting the portfolio that it was helping ACA assemble, she said.

Pellegrini, who testified earlier in the trial, said he believed ACA knew that Paulson was taking a short position on Abacus.

On cross-examination by Tourre’s lawyer, John “Sean” Coffey, Schwartz told jurors that ACA wouldn’t have changed its standards for selecting a portfolio of mortgage-backed securities whether it was getting input from a long or a short investor. She also said she had worked on deals in which investors took both long and short positions on portfolios.

Tourre’s lawyers are trying to show that Paulson’s participation didn’t increase the risk that Abacus would fail and that it didn’t make a difference to ACA.

Selection Agent

In her testimony, Schwartz hasn’t directly identified any statements by Tourre that Paulson’s presence in the deal was as a short investor only. Coffey introduced evidence of earlier deals in which ACA served as portfolio selection agent, in an attempt to show that ACA had permitted input from hedge funds that were taking short positions on part of the portfolios. Coffey suggested she’d just assumed Paulson was investing in the equity of Abacus.

“I don’t think so,” she answered.

In response to a different question, Schwartz said she recalled that she was never told Paulson was taking a short-only investment position on Abacus.

“A pure short was a bet against something that was designed to fail,” Schwartz testified. “It would have been a shock if I had learned that they were only short in the AC1-Abacus transaction.”

The case is SEC v. Tourre, 10-cv-03229, U.S. District Court, Southern District of New York (Manhattan).

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