Goldman's new money machine: warehouses

http://www.reuters.com/article/2011/07/29/us-lme-warehousing-idUSTRE76R3YZ20110729

by amaranand • 15 years ago

182 82 15 years ago

rdl• 15 years ago

This has been posted here before. Part of me respects then for being such excellent hackers of the letter of the law, but mostly I agree that this firm in specific is a. Armpits squid which is out of control and distorts markets, causes widespread harm to markets and individuals, and is not effectively controlled by regulators (who are largely Goldman alumni, in their revolving door system). I have no idea what the right solution is to this problem. I am kind of ashamed to have several friends who now work for Goldman.

drats• 15 years ago

I think you raising "hackers" with this is the perfect way to describe the situation. Goldman are hackers in the same sense the main stream media refers to crackers as hackers, not hackers in the creative sense used by this community.

Futures markets have a purpose, in food and energy for example, but GS along with others has been manipulating them in dodgy ways. Ditto for this article and aluminum. They helped Greece cook the books to enter the eurozone, and then insured against Greek default knowing there would be bailouts. They recommended to various customers to invest in all sorts of CDOs while at the same time betting against them having internally decided they were going to fail. There is absolutely no doubt in my mind that there should be numerous prosecutions in relation to GS but incompetence in public officials with a generous sprinkling of corruption makes this unlikely.

I'm a big fan of America but I've never understood the romanticism around the mafia (the Godfather films and the Sopranos TV series for example). If I had friends in the mafia I would disown them, and I'd seriously rather die than join it. While GS is perhaps not as bad directly, indirectly the consequences of their actions have been and are enormously immoral. I recommend you challenge your friends on these issues firmly, send them a link to Salman Khan's story[1] and tell them to put their (no doubt considerable) talents to better use: doesn't have to be a non-profit either. Even if they decide not to leave they should be made aware that there is social sanction associated with being linked to, if not directly involved in, the vortex of corruption surrounding that company.

[1]http://en.wikipedia.org/wiki/Salman_Khan_(educator)

wanorris• 15 years ago

No, I think it's still in the creative sense. Consider this question from the Y Combinator application:

> Please tell us about the time you, {name}, most successfully hacked some (non-computer) system to your advantage.

Other than the allegations of misleading clients regarding CDOs -- which, if true, are criminal and utterly reprehensible -- pretty much everything else on that list fits this criterion. Amoral and mercenary, but about hacking the system to their advantage.

It's regulators' jobs to close loopholes, but we should hardly be surprised when capitalist enterprises exploit them until they're closed.

fleitz4• 15 years ago

If you knew the gov't would bail you out for any bad market moves made, why WOULDN'T you do exactly what Goldman is doing?

Regulators set stupid rules, Goldman makes money. The US gov't offers insurance via the Federal Reserve, there's nothing immoral about taking advantage of someone else's stupid offer.

If the government opened an Apple store selling 17" MacBook Pros for $200 why would you not buy as many as you could, and resell them for $1500? I don't give a shit if it eventually put every Apple store employee out of business. Oh you have a one laptop per person rule? Ok, I'll pay people to stand in line. Problem sovled.

As for market manipulation of wheat prices, Goldman is only following suit in the official policy of the United States gov't. Exactly why do you think FDR ordered wheat to be burned while people were starving?

As for metal price manipulation you may also want to look at FDR and devaluing the dollar and making holding gold illegal to force the sale.

potatolicious4• 15 years ago

The type of people that Goldman employs aren't stupid, or ignorant. I've known a few - they are perfectly aware of what the company does, and the moral minefield they are in.

To accept employment there requires a conscious relinquishing of moral culpability - i.e., these people have decided that, yes, what the company does is fundamentally wrong, but for whatever reason (money, fame, power, the thrill of the hack, satisfaction of working on the winning team, etc) they don't care.

I'm not sure what use it would be to preach to people like this.

stfu• 15 years ago

I think that most people love the idea of finding opportunities which others haven't discovered. Some take it in their own hands to leverage this advantage by products (e.g. app developers) others take a more collective approach (e.g. open source developers).

From how I understand the article Goldman has rediscovered a valid business opportunity that has been around for centuries. People always stockpiled supplies for later times and Goldman is doing it on a large scale. Even if they would be able to dominate the world market by this strategy, this situation would only sustain to the point when other material can be used as a substitute. So I personally don't see there a problem with this as long as they do not influence the market on the legislative side.

If there is a consensus among society that this is wrong, than it will be regulated. I personally condemn this increasingly popular idea that business should conduct self-infliction by neglecting opportunities just because certain parts of society disagree with perfectly legal practices.

yummyfajitas5• 15 years ago

They recommended to various customers to invest in all sorts of CDOs while at the same time betting against them having internally decided they were going to fail.

This is caused by legally mandated chinese walls, designed to give banking customers confidence that the bank is behaving in their best interest.

The sales/structuring desk is legally obligated to structure/sell CDO's after agreeing to do so. They are also obligated to maintain a fair bit of internal secrecy. They structure the CDO, write the contracts, package and sell it. That's all they do, and they do this because the loan originators paid them to do so.

Meanwhile, probably in a different building, the prop desk is shorting the CDO because they think it's a bad bet. The prop desk knows nothing about the CDO except what is contained in the sales prospectus sent out by the sales desk (which is usually quite a lot).

It's highly illegal for either of these groups of people to talk to one another. Their computer systems don't talk to each other and compliance will fire people if they send each other email. By law, the left hand can't know what the right hand is doing.

Tycho• 15 years ago

I remember a clip on the news with a GS employee saying to the tribunal (or inquest or whatever) that selling CDOs to some customers while betting against them at the same time was 'not a problem in the context of market-making.'

I'm not really sure what he means by this, although some stuff I read recently suggested that traders will often sell and buy a security at the same time in order to make the stock look more active/liquid and encourage other investors to join in. Anyone care to elaborate on this?

The chinese wall explanation offered elsewhere makes more sense though.

lawnchair_larry2• 15 years ago

Goldman is the great american bubble machine, and it's disgusting.

"From tech stocks to high gas prices, Goldman Sachs has engineered every major market manipulation since the Great Depression -- and they're about to do it again"

http://www.rollingstone.com/politics/news/the-great-american...

fleitz4• 15 years ago

Goldman is good but not THAT good. If Goldman knew everything why would anyone take their iBanking elsewhere?

joezydeco• 15 years ago

Try investing $1,000 with Goldman and asking if you can get in on the next IPO.

You'll find out that the Goldman you're using is not the same Goldman that the elite have access to.

rapind3• 15 years ago

So hypothetically if someone wanted to opt-out of this essentially corrupt system completely, how would they go about it? I mean paying taxes in a country with bailouts certainly ties you up into the system. Even without bailouts, living in a country tied to a dollar that's being printed like mad kind of ties you up into it too right?

So... how exactly would one go about this? Possible?

invalidOrTaken• 15 years ago

It's not trivial, but one way you could opt out would be...opting out.

http://www.trulymovingpictures.org/festival-years/2010/movie...

Linked is a review of the movie Zero Currency, about a former social worker who stopped using money or barter. Disclaimer: I haven't seen it.

A good place to start would be to own your own home, aggressively invest in solar energy, and grow your own food.*

All that's pretty expensive though...maybe you could go work in finance and save up?

*3D printing might also be worth a look for some items.

hammock• 15 years ago

http://seasteading.org/

rogk11• 15 years ago

It is not just Goldman doing this and not just for metals

http://www.simplerna.com/2011/11/who-are-biggest-commodity-t...

nkassis• 15 years ago

Like JP Morgan renting Supertankers to hold their oil: http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a...

hristov• 15 years ago

This is pretty awful, but it seems like one of these problems that could and should be solved by the free market.

Somebody should just start a new metals exchange that caters to the needs of its clients rather than trying to squeeze them. There is no reason why America has to do its metals trading in some ancient London exchange.

gwright2• 15 years ago

It wouldn't surprise me to find out that it is next to impossible to create a new metals exchange due to onerous government regulations that effectively keep out new competitors.

I don't completely understand what is going on in the original story but it also wouldn't surprise to find out that it is only via the existance of various regulations that this scheme is viable.

Jd3• 15 years ago

And it wouldn't surprise me that the same companies that talk about the free market solving its own problems lobby against any change in onerous government regulations.

lawnchair_larry2• 15 years ago

Actually Goldman tends to exploit a lack of regulations, and will lobby to get regulations removed in order for them to exploit markets further.

Interestingly, the propaganda used to win public support for these moves is that "big government is bad, and we should let the market decide".

Your opinion of regulations needs to take a 180, in my opinion :)

"The date was November 4, 1999. Senator Byron Dorgan was captured only by the cameras of CSPAN2.

"I want to sound a warning call today about this legislation," he declared, "I think this legislation is just fundamentally terrible."

The legislation was the repeal of the Glass-Steagall Act (alternatively known as Gramm Leach Bliley), which allowed banks to merge with insurance companies and investment houses.

The title of the bill was 'The Financial Modernization Act.' And so if you don't want to modernize, I guess you're considered hopelessly old fashioned."

Ten years later, Dorgan has been vindicated. His warning that banks would become "too big to fail" has proven basically true in the wake of the current financial crisis. He seems eerily prescient for claiming then that Congress would "look back ten years time and say we should not have done this."

http://www.huffingtonpost.com/2009/05/11/glass-steagall-act-...

Even the titles of bills in this country are propaganda. It's frustrating.

People like Christopher Dodd should definitely be in prison. Take a look at his role and support in the article linked above, and then take a look at this:

https://secure.wikimedia.org/wikipedia/en/wiki/Chris_Dodd#Co...

andor• 15 years ago

This is pretty awful, but it seems like one of these problems that could and should be solved by the free market.

If prices rise due to increased demand, the free market usually solves it by increasing supply. In this case, Goldman doesn't actually use the aluminium. I guess that suppliers don't ramp up production because Goldman slowly sells the aluminium back to the market. The purpose is probably to influence the price at specific times, and to make it more volatile in general. Which counters the purpose of exchanges and futures contracts.

Somebody should just start a new metals exchange that caters to the needs of its clients rather than trying to squeeze them.

The clients of the exchange are aluminium consumers and suppliers, and they have different needs: while the consumers prefer low prices, suppliers want them high, to get a better margin. If prices were lower at one exchange (good for consumers), two things would happen:

1: Suppliers would sell their products at another exchange for a better price. Lower supply at the cheap exchange means that prices rise.

2: Arbitrageurs would buy at the cheap exchange and sell at other exchanges. Increased demand also leads to rising prices.

There is no reason why America has to do its metals trading in some ancient London exchange.

True, but "America" chose to trade in Olde Europe: aluminium was available at the New York Mercantile Exchange until 2009.

Cieplak2• 15 years ago

A similar thing is happening with generic chemotherapy drugs. Profit margins for generics are thin, so few companies manufacture them. When a supply issue arises, distributors stockpile the drug and charge hospitals one or two scales of magnitude of the generic price.

cperciva• 15 years ago

... which is a perfect example of why we need derivatives markets. If hospitals purchased drugs a year in advance of anticipated demand, they would pay a slight premium, but wouldn't be subject to squeezes like this.

jcdreads• 15 years ago

...unless Goldman stopped selling derivatives on chemotherapy drugs and instead began to stockpile a large fraction of the available chemotherapy drugs in warehouses in Detroit.

Cieplak2• 15 years ago

You are absolutely correct that futures or call options could ameliorate this issue.

However, I think stockpiling cancer drugs is a market distortion, which might justify government intervention in the form of price ceilings for various generic drugs.

cletus4• 15 years ago

Investment banks do provide valuable services: market making (providing liquidity in many markets), capital raising, the creation of financial instruments so investors can hedge against certain kinds of risk and so on.

Unfortunately I think we're reaching the point of banks overstepping their bounds and creating far more problems than they really should.

This strategy seems similar to the "demand shock" approach they used in driving up wheat prices in recent years. And of course the subprime crisis was the result of lax regulation, arguably criminal negligence by Standard & Poor's and Moody's (who rated certain baskets of loans as AAA) and a lot of players who simply didn't have to bear any risk.

I'm really not sure what the solution is here but something really needs to bring this system into check. Such paper shenanigans are having real negative consequences.

In Australia we have a strict financial regulation regime, arguably too strict in some cases, but we didn't have the bubble in real estate prices that the US did. "No doc" and "low doc" lending never reached the point of collapsing the market.

One could argue that financial regulation is to blame and you're probably right but I have no faith in the US government's ability to correct this or pretty much anything else. Washington now seems to be nothing more than a battleground for special interest lobbying and ideologues devoid of rationality.

In the past ~30 years or so investment banks have generally undergone a change from being a partnership to being a corporation. The major difference between the two is partnerships have unlimited liability. Much like a law firm, the partners are personally liable for losses.

I've come to the conclusion that this change has been detrimental to the function of the financial industry as a whole. Combine this with Federal government bailouts and investment bankers seem to act with complete impunity with regards to risk.

Something needs to change.

Suan• 15 years ago

Unfortunately I feel not much is going to change until something even more drastic happens (think brink of revolution), and that makes me sad.

justsee• 15 years ago

Why do you assert that Australia "didn't have the bubble in real estate prices that the US did"?

We have a significant asset bubble here. It hasn't popped primarily because we've had government-sponsored inflation of prices via the First Home Owner's Grant.

The unwinding of the asset bubble finally seems to be happening in Australia now and will trigger many of the same financial issues for our banks (for instance Commonwealth bank is holding far more housing debt than any of the US and UK banks at the point their markets went south).

cletus4• 15 years ago

You're either understating (or simply unaware of) the extent of the real estate bubble in the US or you're overstating that bubble in Australia (or both).

To suggest the FHOG (which is $7,000 now and only ever got as high as $14,000) is responsible for this is disingenuous at best. What's your argument for this?

There are two basic components in house prices: the cost of land and the cost of construction.

Land is essentially scarce. Sure there is lots more land that we haven't built on than we have (particularly in Australia) but desirability comes into play here as do infrastructure costs. There is only so far you can effectively live from work centres. The further you have to build out the more roads, public transport (if you even have it), water, electricity, etc cost.

Land has certainly increased in value in Australia but a huge component of the increases is in the cost of construction. Nowadays it's hard to build a house for less than about $200,000. That is (IMHO) a huge problem. Building apartments now is in most capital cities prohibitively expensive for the middle class.

To give you an example, I pay less for my one bedroom in downtown Manhattan than the apartment I used to live in in West Perth now costs. Manhattan.

Conventional wisdom is that property is a good hedge against inflation. The massive inflation in construction costs should tell you something about inflation. Despite what the ABS may say about the CPI, the standard of living in Australia has dropped massively in the last decade, particularly in Perth.

This probably mirrors the massive housing inflation and the after-effects you saw in Sydney in the 70s and 80s, which results in those with homes being cash-poor and asset-rich and those left standing when the music stopped just being poor.

You just can't compare what's happening in the US and Australia. In the US in many large cities you can still buy a house for <$100,000. Where can you say that in Australia?

Alex39172• 15 years ago

"Investment banks do provide valuable services: market making (providing liquidity in many markets), capital raising, the creation of financial instruments so investors can hedge against certain kinds of risk and so on."

I hear this argument a lot. While I think it would be an exaggeration to say that what Wall Street does benefits no one, at the same time it's clear that what Wall Street does is designed primarily to benefit themselves. Any benefit to society is merely a happy accident that gets leveraged for propaganda purposes, whereas on a day to day basis what they're really doing is earning money off the backs of those that are actually trying to do things that benefit society.

cletus4• 15 years ago

> at the same time it's clear that what Wall Street does is designed primarily to benefit themselves.

So what?

I don't begrudge them making a profit. Capitalism is the engine that propelled us from riding around on horses to putting a man on the Moon in the span of one man's lifetime.

But there are builders and extractors [1]. Allowing a farmer to forward-sell his crop so his income is known adds value. It also allows consumers to know what price they're paying in advance. Both of these make a profit for the bank but they provide value to both parties. This is not a zero sum game.

But when banks create funds that stockpile food for the purpose of driving up prices, the only real beneficiary is the bank's investors. In the short term, suppliers benefit from higher prices but long term you face increased inflation if the price rise is sufficiently large and you start applying the inevitable "me too" to other industries.

If you'd like to see how well denying the profit motive works you need look no further than the former Soviet Union.

[1] http://cdixon.org/2010/06/19/builders-and-extractors/

shareme• 15 years ago

We go back to having banks regulated similar to the laws in the 1970s or ask banks to pay off the Fed deficit to keep them un-regulated..

anamax• 15 years ago

> In Australia we have a strict financial regulation regime, arguably too strict in some cases, but we didn't have the bubble in real estate prices that the US did. "No doc" and "low doc" lending never reached the point of collapsing the market.

The "no doc" and "low doc" lending was "encouraged" by US govt regulation, specifically "if you're not loaning enough money to {the disadvantaged}, we're going to shut you down". Meanwhile, the "govt sponsored enterprises" that ran the secondary market for mortgages were buying portfolios of crap and lying about it. The latter meant that no one knew how much crap was in the market.

> Combine this with Federal government bailouts and investment bankers seem to act with complete impunity with regards to risk.

Of course they're going to bail out their buddies, future employers, and campaign funders (I'm talking about Obama here).

> Much like a law firm, the partners are personally liable for losses.

Partners at major law firms are NOT personally liable. They've all moved to LLPs and the like.

SandB0x• 15 years ago

I realise these are quite hyperbolic, but you might be interested to watch this short profile of commodities giant Glencore, mentioned in the article: http://www.youtube.com/watch?v=u6rSBifsvwg

DenisM• 15 years ago

A normal person would never starve a child to better his own lot. Instead he will give his pension fund savings to Goldman Sachs, who will then promptly cause a world-wide famine by manipulating the food markets. Which is why GS gets paid the big bucks - they absolve the future retirees of the moral responsibility for the starvation of the less fortunate.

jrockway• 15 years ago

What makes you think that Goldman is doing this for anyone other than themselves?

gersh• 15 years ago

My understanding of this is you buy a futures contract that says you get so much metal on a certain date. The date arrives, and Goldman Sachs tells you that you own the metal, but it is in our warehouse. Further, you have to wait months before you can get it out of the warehouse, and you owe rent until then.

darksaga• 15 years ago

I find it curious the article never mentions the real culprit in hogging resources - China. When I was working in the bike industry, over the course of a few years, ALL of our bikes jumped in price considerably. After talking with one the reps from Specialized, they said China has put a huge strain on raw materials like Aluminum, Titanium, and Steel. By doing so, they've pushed the prices up across the board.

The stuff Goldman Sachs is doing pales in comparison to what China has been doing over the past 5-8 years.

Canada• 15 years ago

Wow, finally this months old story is making the rounds here?

raarky• 15 years ago

How is this any different to stockpiling gold?

ruggeri• 15 years ago

Did anyone else feel this was a poorly written article? Maybe I'm obtuse, but I found it _very_ difficult to understand. I felt like the writers were too busy sexing up the article to focus on explaining what's going on here...

It sounds like metal traded on the LME must be stored in an LME certified warehouse. The LME-certified warehousing market doesn't appear to be very competitive, as Metro/GS can take its sweet time getting you your metal yet not go out of business. _LME's_ conflict of interest is that it's supposed to regulate warehousers when one of its biggest members (GS) owns said warehouses. The alleged "warehouse strategy" then was for GS to buy the warehouses and create the conflict in the first place.

Did I get it?

Mordor• 15 years ago

Please can someone stage a protest outside their warehouse to prevent all movement in and out?

Goldman's new money machine: warehouses

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