Tuesday, Apr 14, 2009
While the bank is returning the government's $10 billion, why not also return the $13 billion it got
Business Week: Goldman, Give It All Back
As we have seen in this financial crisis, some contracts can be broken. Maybe it was a smart move for the government to indirectly bail out AIG's trading partners to prevent a systemic financial collapse. But the government didn't have to make firms such as Goldman completely whole by paying face value for the CDOs that AIG had insured.
If nothing else, maybe Goldman should now take the haircut it probably should have taken on those CDOs at the time of the AIG bailout. The bank could start by offering to give some of that $13 billion back, too.
Posted by devo @ 10:23 PM (455 views) Add Comment
2 Comments
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1. devo said...
These are the facts: Goldman Sachs is in the business of acting as an intermediary for numerous clients and often assumes risk on their behalf. Our normal protocols require that we protect our shareholders from loss associated with our incurring these positions through rigorous risk management. This includes buying credit insurance which, in the matter at hand, we did from AIG, then one of the world's largest insurance companies. The terms of this insurance included a requirement that AIG give us enough cash collateral to protect us against possible future loss.
We have consistently said that we had no direct economic exposure to AIG. We marked to market the risk we had insured with AIG, and AIG was contractually required to give us collateral to cover any diminution in value. Because there were periods when AIG didn't provide enough collateral, we hedged ourselves against the then seemingly unlikely event that AIG might default. The cost of this hedging was over $100 million. If AIG had failed, we would have had both the collateral and the proceeds from the credit default swaps and therefore would not have incurred any economic loss.
In order to collect under a credit default swap, there has to be an event of default. No event of default means no payout. By supporting AIG, the government prevented the company from defaulting. Some have questioned whether, if AIG had defaulted, we would have received the money owed to us under the credit default swap arrangements. Because these swaps were written by large financial institutions which mark to market their obligations to each other and net their positions at the close of business every day, we exchanged collateral with the CDS providers on a daily basis. This protected us from the risk of any knock-on defaults.
Finally, others have asked why Goldman Sachs didn't take a "haircut," in other words, less money than we were owed. We had taken great care and incurred considerable expense to protect our shareholders. Why would it have been appropriate for them to have suffered a loss when they didn't need to?
Far from miscalculating the creditworthiness of AIG, we acted in a way which most people would think of as a good example of responsible risk management.
Lucas van Praag
Managing Director
Goldman Sachs & Co.
New York
2. devo said...
Source (it still matters to some):
http://online.wsj.com/public/page/letters.html