Ethical Analysis of the Goldman Sachs Abacus Deal
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In assessing the ethical issues surrounding the Goldman Sachs Abacus controversy, there are several factors that must be taken into consideration. Despite John Paulson playing a limited role in the ultimate construction of the CDO by having a hand in the asset composition selection process, as well as Goldman’s lack of disclosure in excess of the law, it is important to recognize that the counterparties to the CDSs were sophisticated investors. As sophisticated investors, making large speculative bets on derivatives, due diligence and comprehensive assessment of the risks associated with their investments is their responsibility.
Additionally, being investors of this caliber, ACA and IKB presumably should have been knowledgeable about the financial instruments in which they were investing, the transactional process, and the scenarios that would result in gains or losses. As presented in both the study and the SEC’s suit, the underlying issue at the core of the controversy was the fact that Goldman was selling CDSs that they believed would fail; however, it is frequently argued and I challenge that Goldman was solely an intermediary in the transaction, as all parties involved were aware that whenever there is a long position, there is a short position on the other side of the bet.
As highlighted in Davidoff’s article, it appears Goldman’s marketing materials for the notes addressed the limited transparency. The offering documents explicitly said that they were not acting as investment advisors, that there were “potential conflicts of interest,” and that they had some opposing positions open for hedging purposes. Paulson and investors met on multiple occasions with no oversight by Goldman, which to me reflects negligence on behalf of the investors, as they had both sufficient personal interaction with the counterparty and all the data necessary to make a sound investment decision at their disposal. Therefore, in regards to the ethics of the deal from Goldman’s end, it becomes very subjective. I believe the investors should have exercised much more caution in evaluating their risk.
I believe that Goldman remained within the confines of the law, but in order to maximize profitability by pushing through as many deals as possible, intentionally did not disclose their investment outlook. By having multiple bilateral trades across different reference tranches it becomes even more convoluted. Since all parties involved in Abacus were aware of the risks inherent to the investment, I do not believe any party was at fault; rather investors lost from poor investment decisions. I do believe that Goldman could have conducted business more ethically in the sense that they have a responsibility to treat all clients equally; however, Goldman Sachs has also a responsibility as a business to its shareholders.
I believe there exists a medium in this respect to ethics, in the sense that Goldman could have fulfilled both these responsibilities more equally by generating less than optimal profits, by being more straightforward with investors, which likely would have not changed the outcome, and would have prevented the tarnishing of their reputation. In the end, the bubble burst, and any investor engaged short in CDSs of synthetic CDOs bit the dust, whether they were through Goldman or not. Therefore, at least to my understanding of the circumstances, the level of ethics exercised by Goldman was sufficient, as they were merely instigators of large transactions between experienced investors. All investments have fine-print, but the fine-print for billion dollar investments really should be read by those investing a billion dollars.