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Many of those securities later soured, but the sales
allowed Goldman to become the only major U.S. investment bank to escape
the brunt of the subprime meltdown.
One bond analyst who reviewed
the 2006 Cayman deal dismissed it in a report to clients as "a not so
cleverly disguised way for Goldman Sachs & Co. to unload its
unwanted exposures to the subprime real estate market onto foreign
investors."
Goldman spokesman Michael DuVally said that the firm
"sold mortgage securities only to sophisticated investors" and
disclosed "all the appropriate information available."
McClatchy
also found at least two instances in which Goldman appeared to mislead
investors. In one, the firm said that $65.3 million in securities were
backed by safe "prime" mortgages when the same loans had been labeled a
cut below prime in a U.S. offering. In the other, Goldman listed $10
million as "midprime" loans when the underlying mortgages had been made
to subprime borrowers with shaky finances.
DuVally said that the descriptions were consistent with the standards set by Moody's, the bond-rating agency.
The
secret Cayman Islands deals provide a window into one method that
Goldman and other Wall Street firms used to draw European banks and
other foreign financial institutions into investing hundreds of
billions of dollars in securities tied to risky U.S. home loans.
Experts
estimate that Wall Street investment banks sold 25 percent to 50
percent of these bonds and related securities overseas, resulting in
massive losses in Europe and elsewhere when the market collapsed.
Last
spring, the International Monetary Fund projected that global
write-downs on "U.S.-originated assets" stemming from the subprime
disaster could reach $2.7 trillion.
Underscoring the role of tax
havens as a Wall Street marketing tool, a Treasury Department report
found that as of June 30, 2008, $164 billion in U.S. mortgage-backed
securities were held in the Cayman Islands and $22 billion more were
held in Luxembourg, another tax-friendly zone.
Gary Kopff, a
securitization expert who analyzed unpublished industry data, said that
Goldman packaged or marketed offshore deals worth at least $83 billion
from 2002 to 2008. These deals, called collateralized debt obligations,
amounted to a $1.3 trillion global market, and Goldman reaped as much
as $1.66 billion for assembling and selling them.
Some of
Goldman's subprime mortgage securities wound up in the hands of
financially struggling Eastern European governments such as those in
Romania, Bulgaria, Slovakia and Slovenia, said a Wall Street expert
involved in trading those types of securities who declined to be
identified because of the matter's sensitivity. This person said that
one Slovakian bank's multimillion-dollar investment wound up worthless.
DuVally
said the company could find no record of marketing the bonds in those
countries, but that the securities may have gotten there through the
resale market.
Subprime-backed mortgage securities that were sold
at the crest of the housing market in 2006 and 2007 have shown the most
precipitous drop in value, with default rates on the underlying
mortgages exceeding 30 percent. For many cash-strapped borrowers, it
was easy to walk away from soaring monthly payments when their mortgage
balances exceeded the lower value of their homes.
The 2006 Cayman
deal was part of a flurry of Goldman activity in the hidden,
unregulated parts of the securities industry. Goldman's traders also
made huge bets that those securities would lose value by buying
insurance-like contracts, called credit-default swaps, with private
parties. Beginning early in 2007, they bought swaps on a London-based
exchange.
Every Goldman bet on the exchange's subprime index,
which was run by the London-based financial services company Markit,
was on a basket of bonds that included a bundle of its own
subprime-related securities.
Germany's Deutsche Bank, the trustee
holding mortgages for scores of Goldman's bond offerings, also lists
more than 50 private Goldman deals on its Web site. Of those, 42 were
backed by risky mortgages.
In marketing exotic deals that
typically include subprime mortgage-backed securities, Goldman and
other Wall Street firms have long used the Caymans as a gateway to
European investors, said an official of a German bank, who wasn't
authorized to speak publicly and declined to be identified.
The
2006 Cayman deal was outside the reach of U.S. tax laws and free of
U.S. regulation. Goldman circulated the deal under the names of
Cayman-based Altius III Funding Ltd., and a sister firm registered in
Delaware, both created for the sole purpose of facilitating the
transaction.
The offering drew a scornful reaction from the bond
analyst who warned investment clients to stay away. The analyst's
report, a copy of which was obtained by McClatchy, described Goldman as
"a single underwriter solely interested in pushing its dirty inventory
onto unsuspecting and obviously gullible investors."
". ... In
this case, it is a foregone conclusion that many relatively senior
bondholders will suffer severe losses," said the analyst's report,
which was made available on the condition of anonymity because the
offering barred unauthorized disclosure.
McClatchy also learned
of a second private Goldman deal, in which it sought in May 2007 via
another Cayman company to sell $44.6 million in bonds related to
subprime loans written by New Century Financial, a mortgage lender that
weeks earlier had careened into bankruptcy after California regulators
closed it.
For foreign banks, the lure was spelled AAA. Under
both public and private deals, experts said, 80 percent or more of the
bonds carried top grades from financial rating companies, assuring
investors that the securities were among the safest plays in the
financial world.
The triple-A rating was "the clincher," said an
official of another German bank, who also wasn't authorized to speak
publicly and requested anonymity.
Few investors, however, knew
that Goldman and other Wall Street dealers were paying the biggest U.S.
financial ratings firms for grading the risky bonds.
Sylvain
Raynes, a former analyst for Moody's Investors Service, the largest
U.S. rating firm, likened the Wall Street firms' relationships with the
rating agencies to hiring "a high-class escort service."
Typically,
he said, an investment banker would meet with analysts for a ratings
agency, describe a mortgage pool "and propose his dream result."
"The
agency would call back after the meeting and intimate that they 'could
get there' sight unseen," said Raynes. "Both parties understood what
that meant, and the agency would be hired to rate the deal."
After
bestowing untold numbers of triple-A ratings on subprime-backed bonds,
Moody's and the second- and third-largest rating agencies, Standard
& Poor's and Fitch, began to downgrade hundreds of pools of the
securities in the summer of 2007, including the offshore deals known as
collateralized debt obligations.
That set off a chain reaction
that culminated in last year's Wall Street meltdown. Since then, both
Moody's and S&P have downgraded slices of the Altius III deal
several times.
U.S. pension funds that have lost money on
subprime mortgage-backed bonds have filed suits accusing Goldman,
Morgan Stanley and Merrill Lynch of failing to inform them of the
bonds' true risks. (Merrill is now part of Bank of America.)
Many European institutions that lost money on the securities, however, have fewer legal options.
Few
of them are pointing fingers at Goldman or other U.S. investment banks.
McClatchy contacted several European banks about their subprime losses
and got similar responses when the banks were asked where they'd bought
them.
Germany's IKB Deutsche Industriebank, whose 2007
near-collapse from subprime losses awakened Europe to the impending
financial crisis, has written off about $19 billion (in current U.S.
dollars) related to U.S. mortgages. A spokeswoman for the bank declined
to say which investment banks sold it bonds.
Several of Germany's
seven regional "landesbanks," or land banks, also took a pounding. With
$7.2 billion in aid from the state of Bavaria, Munich-based Bayern LB,
Germany's sixth-largest bank, has reserved $8.95 billion for losses in
its asset-backed securities portfolio, which includes subprime loans. A
Bayern spokesman declined to say who sold the bank the risky bonds.
Spokespeople
for the Royal Bank of Scotland, which bought a Dutch subprime
subsidiary and has reported tens of billions of dollars in losses, and
the French bank Societe General, which lost more than $6 billion, also
declined to identify any U.S. investment banks as the source of their
problems.
"Are we angry against the U.S. banks?" a German bank
official said, requesting anonymity because of the matter's
sensitivity. "We looked at the triple A's like the other banks, and we
bought this, yeah. It doesn't help much to be angry."
Intellpuke: You can read this article by McClatchy Newspapers
staff writer Greg Gordon, reporting from New York City, N.Y., in
context here: www.mcclatchydc.com/227/story/77844.html
McClatchy Newspapers staff writer Trish Wells contributed reporting to this news article.
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