Saturday, July 20, 2013

In Defense of Fabulous Fab


 Well it looks, thus far, like the SEC is not making much of a showing in its civil prosecution of Fabrice Tourre, the now-infamous “Fabulous Fab” of Goldman Sachs fame.  For a reminder of how, to use a highly technical legal expression, lame the government's case seems to this virtual column, we thought it worth dusting off the following piece from those anxious, post-crisis days.— JM 

Monday, April 19, 2010


From BACCHUS to ABACUS: Exhibit A in Defense of Goldman Sachs


Let’s start by making one thing clear: we here at NotMakingThisUp harbor no particular good will towards Goldman Sachs.

In fact, not long ago we published in these virtual pages a column titled “Goldman 8, Public Zero…the Teachable Moment of Bare Escentuals (January 15).” It was a minor but explicit illumination of Goldman’s relationships with its clients—i.e. pretty much the same relationship a water moccasin has with a frog.

Loyal readers will recall that we described how Goldman Sachs first sold a total of 36 million shares of cosmetics maker Bare Escentuals (sic) to the public at prices ranging from $22.00 to $34.50. Then, after the wheels came off the proverbial track at Bare, Goldman’s crack research team slapped a “Sell” rating on the company’s stock…but not until after it had already collapsed to $13 a share.

Adding insult to injury, just a few weeks after that “Sell” rating—from Bare’s very own investment bank—sent the shares crashing, Bare Escentuals received a takeover bid for $18.20 a share.

But wait, as they say, there’s more!

Bare Escentuals then hired none other than Goldman Sachs to advise the cosmetics company on the $18.20 a share offer. Goldman, naturally, endorsed the price as fair—just weeks after its own research department had declared $13.00 as too rich a price for Goldman’s clients to pay—and received fees for doing so.

By our count, that amounted to eight ways Goldman Sachs made money on Bare Escentuals at the expense of anybody on the other side of the table.


And while we therefore do not have any particularly benign feelings towards Goldman Sachs, neither do we harbor ill-will towards the government institution which filed a complaint against that firm on Friday.

Indeed, the SEC Chairman who, in our view, pulled the teeth out of that animal under the previous administration and then flailed ineffectually while the world collapsed thanks in part to his blunders—i.e. Chris Cox—is gone, and good riddance to him. (For an entertaining and insightful look at that sordid story, read Andrew Ross Sorkin’s excellent account of the Lehman collapse, “Too Big to Fail.”)

Still, we’ve read the SEC’s complaint filed against Goldman Sachs Friday afternoon—headlines of which seemed so shocking they sent Goldman shares, and stock markets, crashing.

And while the complaint portrays yet another sordid story—the account of some really awful paper Goldman helped package and sell to a dumb German bank at the behest of a smart U.S. hedge fund manager—we think the government doesn’t have a leg to stand on.


The gist of the SEC’s complaint—and while we are not attorneys, we have been in this business a few decades and seen more than a few frauds in that time—appears to be, in part, that Goldman and an employee mislead IKB, the German bank in question, by not disclosing that John Paulson’s hedge fund had helped select the garbage Goldman was selling to IKB:

In sum, GS&Co arranged a transaction at Paulson’s request in which Paulson heavily influenced the selections of the portfolio to suit its economic interest, but failed to disclose to investors…Paulson’s role in the portfolio selection process or its adverse economic interests.

—Paragraph 3, SEC v. GOLDMAN SACHS & Co. and FABRICCE TOURRE.

Let’s leave aside the obvious howler here—since when did it become a broker’s responsibility to violate the confidentiality of its clients by disclosing the seller’s identity to the buyer?—and focus on the specifics of the SEC charge, particularly the notion that IKB would not have proceeded with the transaction had Goldman not omitted Paulson’s name from the discussion, as spelled out here:

IKB would not have invested in the transaction had it known that Paulson played a significant role in the collateral selection process while intending to take a short position in ABACUS 2007-AC1.

—Paragraph 59, SEC v. GOLDMAN SACHS & Co. and FABRICCE TOURRE.


Who, exactly, is this IKB that, if we are to believe the complaint, had been led like a lamb to slaughter by Goldman Sachs at the behest of John Paulson?

Well, IKB is short for IKB Deutsche Industriebank, and it was once a sleepy German industrial lender that, during the 2000s, made the plunge into sub-prime CDOs for the same reason so many of its peers did: it seemed like a good idea at the time.

Indeed, so good an idea did it seem, that IKB boasted of its prowess in evaluating exactly the kind of garbage the SEC is now trying to claim Goldman Sachs misled it into buying.

Far from being an unwilling pawn on the financial chess-board, IKB issued press releases about its move into the exotic world of toxic mortgage structures even as John Paulson, the genius who sold the garbage to IKB, was deciding it was time to sell the same toxic mortgage structures short.

Indeed, as far back as March, 2006—a year before the tainted transaction with Goldman Sachs—IKB issued a press release announcing the closing of a deal, chest-thumpingly-named “BACCHUS” (we are not making that up) which seems to make it very clear that IKB was not only a willing buyer, but a willing distributor of the same kind of garbage as the boys in lower Manhattan.

Here begins that press release:

IKB closes first “Bacchus” deal, strengthening its position as an asset manager for corporate loan portfolios.

[Düsseldorf, Germany, 16 March 2006] IKB Deutsche Industriebank AG has successfully concluded “Bacchus 2006-1", a funded securitisation of acquisition financings. With this deal, IKB further strengthened its position as a leading asset manager for corporate loan portfolios. The € 400 million Collateralised Loan Obligation was arranged and placed by JP Morgan…


Bacchus, of course, was the Roman god who inspired the term “Bacchanalia.”

Call us old-fashioned, but for our part, if we had been a stodgy old-line German bank packaging securities for resale, we would have selected a more sober god to name our deals after—“Apollo,” perhaps (god of music and healing; ‘associated with light, truth and the sun’), or “Artemis” (goddess of the hunt).

Not the god of drunken orgies.

Having discovered that IKB appears to have been no babe in the CDO woods, we now submit the following document that we suggest may well suffice as “Exhibit A” in Goldman’s defense.

It is a presentation by Dr. Jörg Chittka, head of IKB investor relations, prepared for a Dresdner Kleinwort Day for Investor Relations on December 12, 2006—just a few months before the transaction in question—and it can be downloaded from the IKB web site.

Let’s flip quickly through Dr. Chittka’s “slide deck”:

“Slide 3: Highlights—Market Leader/Strong performance/Solid ratings…”
—IKB Dresdner Kleinwort IR Day 12.12.2006


Hmm, IKB would seem to be no country bumpkin. This slide informs us that, among other things, IKB is a “Specialist in long-term corporate finance” and a “Market leader in long-term corporate lending in Germany” with a market share of 13%.

“Slide 5: Focused market strategy—Specialisation(sic)/Lean sales system/Selective new business…”
—IKB Dresdner Kleinwort IR Day 12.12.2006


Sounds good! Dr. Chittka informs us that IKB has a “Rating-oriented product and price strategy,” and that “New business” is “strictly oriented to rating and margin spread.”

So how on earth did IKB end up owning a bunch of Goldman-packaged, Paulson-shorted garbage?

The next slide holds a clue, in the form of a timeline showing IKB’s history:

“Slide 6: Lines of Development

· 1924: Foundation
· 1930s: Pioneered long-term lending at fixed interest rates…
· Entering 2000s: CLO-transactions and investments in international loan portfolios”


—IKB Dresdner Kleinwort IR Day 12.12.2006


Ah, there we have it. IKB is getting into the CLO business, especially in international loan portfolios!

But what does this little German bank know from CLOs? Well, it turns out this little German bank claims to possess an advantage:

“Slide 9: Competitive edge

· High expertise in all fields of corporate finance, incl.
-rating advisory and
-industry research”
—IKB Dresdner Kleinwort IR Day 12.12.2006


There you have it: IKB claims to have “high expertise in all fields of corporate finance,” and that includes both “rating advisory and industry research.”

Indeed, the IKB slide deck goes on, bragging in the kind of detail you can bet Goldman Sachs’ attorneys will be happy to share about the “excellent rating IKB enjoys” thanks to its “outstanding funding base”; the “Strong and stable customer relations based on relationship banking over decades”; the “High diversity of IKB loan book”; the “High granularity” of the IKB loan portfolio; the “Improving quality of the loan book” and the bank’s “Solid capital base for business growth.”

So confident was IKB’s management of all these things that Slide 35 boasts that “IKB is going to meet the operating profit target for the financial year 2006/2007 as a whole.”

How, exactly, would IKB perform this feat?

Slide 36 informs us that one of the ways is by the “additional investments in international loan portfolios.”

International loan portfolios such as ABACUS 2007-AC1, perhaps?

There is more—60 pages in all—but from our brief review it would appear that this particular German bank took the other side of the Paulson trade not because it didn’t know Paulson was selling.

After all, at the time the deal was structured in early 2007, John Paulson was just “John Paulson, merger arbitrage hedge fund guy,”not “John Paulson, billionaire hedge fund manager who bet against the housing bubble and won.”

No, it would appear that IKB—creator of BACCHUS, self-proclaimed possessor of “high expertise in all fields of corporate finance,” and seeker of “additional investments in international loan portfolios”—simply wanted the other side of ABACUS, period.

From BACCHUS to ABACUS really wasn’t too long a journey for IKB, but it was deadly.

And while Goldman & Company may have showed IKB the way, they did not, it would seem, drag them kicking and screaming.
More like skipping and singing.
Jaded we may be, but we here at NotMakingThisUp will bet, as the saying goes, dollars to donuts that at the end of the day, the score in this case looks like this:

Goldman 1, SEC 0.



Jeff Matthews
I Am Not Making This Up

© 2010 NotMakingThisUp, LLC

The content contained in this blog represents only the opinions of Mr. Matthews, who also acts as an advisor: clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice, and should never be relied on in making an investment decision, ever. Also, this blog is not a solicitation of business: all inquiries will be ignored. The content herein is intended solely for the entertainment of the reader, and the author.

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