Goldman Sachs and the Apple structured bond deal

http://tech.fortune.cnn.com/2013/01/29/apple-structured-note-goldman-sachs/?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+fortuneapple20+%28FORTUNE%3A+Apple+2.0%29

by Libertatea • 13 years ago

60 53 13 years ago

tech.fortune.cnn.com

DoubleMalt2• 13 years ago

The bank always wins. True in Las Vegas, true in New York.

[edit=elaboration] I really wonder who buys bonds from a bank when all of this is true:

a) I can only make profit when the bank loses

b) The bank's analyst predicts that I willmake profit

There are only two possibilities:

1) The bank does not know how to earn money

2) The bank tries to screw you over

As Goldman Sachs has a pretty good track record at making money, 1) is bloody unlikely.

adaml_6232• 13 years ago

If you do your research then you will find that medium to large public bodies are especially good at getting ripped off buying these bonds.

Usually your local education board or city council (A) has some money to invest or some income to smooth out. 1. They talk to financial advisors (B) who give advice. 2. The advisors get commissions if they sell certain types of products. 3. The inexperienced financial staff in A believe the advice given by B. 4. The taxpayer shoulders the risk.

DoubleMalt2• 13 years ago

One more reason not to put money in the hands of politicians.

People that lose their own money on these scams can't expect sympathy for being greedy from me.

Judson• 13 years ago

As fmstephe[0] pointed out earlier, Goldman makes their money by orchestrating the sale of these bonds. The performance of the derivative has no impact on their profit from this deal.

[0] http://news.ycombinator.com/item?id=5133766

cmdkeen• 13 years ago

The article is off on the magnitude of the fine - $550 million not billion. Still very large but not quite GDP of a nation size.

It's a bit much to label it a scam based on the evidence in the article itself. The target price of an exchange traded share is far more public and published compared to a complex financial instrument. If people bought millions of dollars of bonds based on nothing more than Goldman's analyst's stock target price then they are a fool.

kenkam• 13 years ago

Agreed, I fail to glean from the article how people "got scammed". Were they told Apple stocks would continue to rise?

what I would like to find out is whether they were market making and hedging what they were selling to their clients or rather taking short positions and selling clients long positions. They stand to gain little if they were just market making -- I suspect they must have taken some middle ground to make a profit.

digitalengineer2• 13 years ago

I don't get it. Why in Gods name would anyone with money freely be their client? Who wants to be handled like a puppet? (Their words, not mine).

niggler4• 13 years ago

You take a bunch of "shitty" deals in hope that they turn to you when they do get a "juicy" deal.

czottmann• 13 years ago

Because a lot of people are greedy idiots?

adaml_6232• 13 years ago

"anyone with money" that's where your assumption is wrong.

The people dealing with GS are dealing with "other people's money"

They are people who don't get penalised when a deal goes bad BUT they do get massive bonuses when a deal goes very well. Hence they are willing to deal with GS.

k2enemy• 13 years ago

Because CNN doesn't write link-bait articles when clients make money.

jwhite• 13 years ago

I think they described their clients as muppets, not puppets: http://www.nytimes.com/2012/03/14/opinion/why-i-am-leaving-g...

digitalengineer2• 13 years ago

Actually, I thinks that's even worse.

fmstephe3• 13 years ago

I don't understand some crucial details of these deals. If anyone can fill in the gaps I would really appreciate it.

From my understanding Goldman Sachs typically makes money selling these kinds of derivatives through sellers fees. i.e. They are not actually backing the debt behind the derivative, they are just selling it and collecting a fee (typically, around 0.3%).

If this is true then the deal simply looks like a bad one for the buyers, but not in any unusual way. They purchased derivatives linked to Apple's stock price the day before the earnings were made public. They bet of good news and they lost.

The Goldman deals that were fraudulent were around Goldman recommending their customers buy derivatives they themselves owned and were furiously offloading. Or they were selling derivatives and then betting against those derivatives through AIG.

This article would make sense if we could demonstrate that Goldman actually stood to gain from Apple's precipitous stock price fall. But that connection isn't obvious to me.

I would love to hear from someone with real knowledge about these things. Also if anyone can pick holes in what I wrote about I would appreciate that too.

niggler4• 13 years ago

The way these deals work is simple:

1) For some reason, they have an outsized position that they want to reduce. Circumstances include:

- Proprietary trading group wants to liquidate a position without having to go to the open market

- Firm obtains a large position as part of a block deal.

In this case, I suspect they engaged in a deal with a hedge fund that had a large exposure to AAPL and wanted to get out. GS would have acquired the position at a significant discount (say, 5% below market price).

2) They need to find clients to soak up the exposure.

To do this, they construct investment products that allow them to offset the exposure without having to directly move the inventory. Offering shares directly would have to be essentially free, but products can be sold with some extra fees.

To summarize, they have a long position in AAPL and taking the opposite side of a derivatives trade helps balance the net position.

Note that if the clients made money then you wouldn't hear about the deals. It's only because clients lost that we are hearing about this.

yummyfajitas• 13 years ago

Indeed - market making deals like this are how GS makes money. On an individual deal, GS may make or lose money. But in aggregate, GS is only after the aforementioned 5% - the goal here is to sell liquidity for 5% and close the position as fast as possible.

Further, the fact that a GS analyst said something is irrelevant. The analyst is an independent adviser to GS's brokerage clients, and is not informed what the prop trading dept is doing. In fact, it would be illegal for the prop traders to tell Bill Shoppe what they are doing, or for him to give them advance notice of his analysis.

thingylab4• 13 years ago

No. If you have a block of shares, there are much better ways to get rid of them. These deals typically take a long time to structure, market and initiate.

Besides, you really don't need a lot of shares to hedge this type of product. You need options that are typically (at least initially) deep-ish out of the money and so have little delta.

Patient0• 13 years ago

I found this article quite informative: https://www.google.com/url?sa=t&rct=j&q=&esrc=s&...

edit: changed to non-paywall link (thanks "mef")

mef• 13 years ago

Non paywall link https://www.google.com/url?sa=t&rct=j&q=&esrc=s&...

cs702• 13 years ago

Not necessarily a scam.

In the prospectus filed with the SEC[1], Goldman disclosed that "...with regard to your notes, from time to time, we and/or our affiliates: (1) expect to acquire, or dispose of positions in listed or over-the-counter options, futures or other instruments linked to the index stock, (2) may take or dispose of positions in the securities of the index stock issuer itself, (3) may take or dispose of positions in listed or over-the-counter options or other instruments based on indices designed to track the performance of the New York Stock Exchange or other components of the U.S. equity market, and/or (4) may take short positions in the index stock or other securities of the kind described above — i.e., we and/or our affiliates may sell securities of the kind that we do not own or that we borrow for delivery to purchaser."

Let me paraphrase Warren Buffett: if you're playing poker with the big boys and you don't know who the patsy is, you're the patsy.[2]

[1] http://www.sec.gov/Archives/edgar/data/886982/00011046591300...

[2] Buffett's original quote: http://www.goodreads.com/quotes/29147-if-you-ve-been-playing...

camus• 13 years ago

as outragious as it sounds , banks can bet against their own clients , in fact , that's how they make most of their money, they have the duty to protect shareholders interests , and respect a few laws but that's it.

If they do not guarantee any return on whatever investment they sell then they are under no obligation to look for their clients best interests.

It happened during the subprime mortgage crisis where banks would sell derivatives to their clients and short the same clients because they knew the products were bad. And it is totally legal.

So who is to blame ? the banks ? or the elected representatives that made these things legal ? in the end the people is , for electing people that serves bank interests.

thingylab4• 13 years ago

The only people I see "guaranteeing any return on whatever investment they sell" typically turn out to be ponzi schemes.

fmstephe3• 13 years ago

I don't believe this is legal. Goldman was convicted and fined doing exactly what you describe. The investment banks are not allowed to intentionally deceive their customers.

http://www.nytimes.com/2010/07/16/business/16goldman.html?_r...

However, it is worth noting that after Goldman agreed to pay the fine their stock price rose. This indicates that the stock market believed they got off lightly, so while officially illegal it does appear to be a reasonable business model.

chollida1• 13 years ago

> banks can bet against their own clients

This is indeed true.

>in fact , that's how they make most of their money

This however requires some proof. They do make money this way but to say that this is how banks make "most" of their money is way off by my understanding and I work in the industry.

twoodfin• 13 years ago

Clients can also bet against their banks. Everyone making million dollar trades is a grownup, and should know what they're betting on.

jimbokun• 13 years ago

My only question is, Who is still stupid enough to be a Goldman client? What more can they do to demonstrate they are more than willing to screw over their clients in order to increase their profits.

monochromatic3• 13 years ago

Goldman may or may not have done something shady, but this post is absolutely devoid of evidence that they did.

insaneirish• 13 years ago

It is completely worthless. And, one might argue, borderline libelous.

xradionut2• 13 years ago

Regardless of how many "good" or "legal" deals they do, they have a long history of moral and ethical bankruptcy, so people tend to think the "worst" of them.

monochromatic3• 13 years ago

That's fine, I guess. But what's the point of this post?

lifeisstillgood2• 13 years ago

I have not seen any stats behind this, but I have noticed an increase in the number of suits against Goldman in the past year - either its a fallout of the recession, or a meme now popular in the media, or frankly GS are very bad boys.

Is the apparent increase in lawsuits real ?

Pezmc2• 13 years ago

I think the media attention to these has increased, rather than the actual volume. It's easier to try and pin blame on the biggest bank that everyone else is targeting. Plus, media outlets know if you throw Goldman Sachs in the headline, more people will read the article.

It's mostly scapegoating as far as I am aware, the banking sector collapsed, and people want to blame someone!

lifeisstillgood2• 13 years ago

Yeah - I was struck by an interesting thought - don't blame the banks

Well actually you can, but we are in a massive period of transition, where technologically based unemployment is chucking middle income earners onto the fire.

The sensible response to temporary unemployment is to borrow to cover the down period and pick up with a new job - but for millions there is no job

So debt was take. On massively across the board - and debt is what was revealed in the 2008 bust up - there was no where else to hide the debts and bang

Not sure if its coherent analysis but interesting (read race against the machine)

Pezmc2• 13 years ago

I'm starting to get slightly concerned with how many reporters will happily label something as a scam with little or no evidence to suggest it was.

If you read through this you see: Goldman published that they thought Apple would do well; Goldman sells a derivative linked to Apples stock price and collects a sales fee; people bought into that derivative; Apple released their earnings; the value of the derivative went down; Goldman published a revised estimate on Apple.

Where's the scam? It looks to me like people bought something that went down in value, and suddenly it's the sellers fault!

Is this just the good old put Goldman in the title and people will read it?

omonra2• 13 years ago

More to the point - someone actually called GS and asked to do this deal (reverse inquiry). So to label this as "scam" borders between disingenuous and libelous.

driverdan• 13 years ago

The title should be changed. Calling this a scam is libelous.

antr• 13 years ago

Scam?

Can a HN mod please change the title/link bait?

omonra2• 13 years ago

CORRECTION: An earlier version of this story described the bond deal as a sale to retail clients. According to a Goldman Sachs spokesperson, it was a "reverse inquiry" for a single institutional client. The company denies that it "made money" betting against this client. The company also points out that Bill Shope is an equities analyst in the research department, which it describes as independent and "totally walled off" from the securities division where the notes were issued.

will_brown• 13 years ago

This article aside, I find it crazy how many HN posters immediately supported GS as if at their beck and call.

As a lawyer, we have detailed guidelines about who we can and cannot take on as a client because of conflict of interest. On rare occasions lawyers can represent a client where there is a conflict of interest provided it is spelled out in writing and signed by both the lawyer and client. On the other hand GS lives off of conflicts of interest and exploiting them.

For example, just before the real estate bubble, GS owned a bunch of "toxic" real estate backed assets. GS sent internal emails throughout the firm to sell these assets to clients before they became worthless, and even offered additional incentive compensation for dumping these toxic assets off on their own clients. When certain GS clients lost everything and these emails were leaked a congressional hearing was held, see here: www.c-spanvideo.org/program/293196-3

When asked about the GS conflict of interest and dumping self-owned toxic assets on their clients that GS acknowledged would become worthless, the CEO responded by saying just because those assets were no longer in GS's best interest, does not mean they were not great deals for their clients, nor did GS have any duty to disclose that GS itself was dumping the same asset it was trying to sell to its own client.

Be warned: This can and will happen again, despite the passing of The Wall Street and Financial Reform Act to make sure the 2008 financial crisis will not repeat itself, GS and other special interest groups made sure that prohibitions/disclosures of this type of conflict of interest were not included in the reform.

wmeredith• 13 years ago

That is absolutely insane. Why do they still have clients if this is how they are treated?

rjtavares• 13 years ago

HN posters supported GS because the article is ridiculous, not because GS is a well beloved institution. It showed no evidence of a scam, in fact no evidence of wrong-doing by GS, and the correction posted to the article make it sound like the journalist had no idea what was done and just declared a scam because the public loves shady banking stories.

bitcartel• 13 years ago

GS set a price target on Apple of $760 within 12 months, indicating to clients that Apple's share price will rise. Yet at the same time GS themselves dispose of convertible bonds which are about to convert into Apple shares. Does it sound like GS really believes in its own advice to clients?

thingylab4• 13 years ago

How exactly is this a scam ?

These are very generic products, and many investment banks issued dollops of them (especially tied to Apple) in the past few years.

Basically, they look like bonds that pay a higher-than-average coupon, the catch being that if the equity the note is tied to declines in value, you lose part of your capital. Company treasurers tend to like those because of the high headline return rate (i.e. assuming the underlying equity doesn't tank).

Now, the banks do not take the reverse position. They hedge it (probably not perfectly, but very closely) using a combination of cash deposits and equity options (which is really what these products are about). There is little to no trading PnL on these things. They make money by selling the note $10 when its intrinsic value is $9.50.

snake_plissken• 13 years ago

chinese firewall!

Goldman Sachs and the Apple structured bond deal

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