Former SEC lawyer reacts to Goldman CDO

Steven Thel in The International Financial Law Review, April 16, 2010

The US Securities and Exchange Commission (SEC) will be confident of success and Goldman Sachs will not settle in the Abacus 2007-AC1 matter, according to a former SEC lawyer.

“These are very serious allegations with lots of money involved” said Steven Thel, professor of law at Fordham University and former lawyer in the General Counsel office at the SEC. “The SEC wouldn’t even think about this kind of action unless it thought it was going to win”.

When regulators make accusations of this magnitude, it is typical for the accused party to settle quickly or take some time to digest the situation. In this case, however, Goldman Sachs has said that the charges “are completely unfounded in law and fact” and that it will “vigorously contest them”.

“The statement by Goldman Sachs released proves that it doesn’t intend to roll over today,” said Thel. “Settling with the SEC would be an admission (at least a non-denial) of selling out very large institutional clients for the benefit of one client.”

This was something that institutional investors were concerned about at the onset of the financial crisis. Their fear was that Wall Street would be more prepared to look after its influential hedge fund clients than themselves.

“This is an example of a bank saying it was client led, but in fact was favouring hedge funds over institutional investors in the most grotesque way,” said Thel. “I am sure the Goldman Sachs line will be that they gave all sorts of disclosure. But that boilerplate provision may not be enough.”

Thel also suggests that Paulson & Co may not be clear from SEC action despite its director of the enforcement division, Robert Khuzami suggesting it would be.

“On the face of it, Paulson just pressed Goldman Sachs to find counterparties,” he said. “The question is: what did Paulson & Co say to the independent advisor [ACA Management]? Did they not have any contact?”

The larger implication of this action is that the SEC is focusing on the conflicts of interest of investment banks selling collateralized debt obligations and synthetic products. Previously there was a sense that coordinated products between investment banks and hedge funds would be safe from focused SEC scrutiny. By investigating Amicus 2007-AC1, the SEC is issuing a statement that it will look at even the biggest deals involving the most sophisticated investors.

“Was this happening across the street?” ponders Thel.

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