One and the Same
"God gave me my money."
- John D. Rockefeller
Today we step away from the economy and markets and endeavor down the path less traveled. For fun and for free, we wade out into a smelly peat bog. There we scratch away the surface muck in search of what lies below.
One should actually be careful about quotes like the one attributed to Rockefeller above, even if it of course sounds good and is very suitable for the topic at hand. In reality he probably said something like it, but it is almost certain he didn't say it verbatim (contrary to Mr. Blankfein, who is indeed on record for stating that Goldman Sachs was "doing God's work"). We mention this because we have long noticed that the best-known quotes attributed to all sorts of long dead famous people - the ones one immediately finds on the first page that pops up when googling their names - are more often than not either garbled beyond recognition, or misattributed, or at times even completely made up. A genuine quote is a rare find indeed; at a minimum the most famous quotes have almost always gone through the Chinese horse-whisperer treatment (known as "telephone" in the US). What Mr. Dunne said about Rockefeller is rather more certain, since he put it in writing in the Chicago Evening Post in 1895 - albeit in his "Mr Dooley" voice, imitating an Irish accent. Dooley was a figure Dunne had invented for his satirical columns, the fictional owner of a fictional Irish pub located on the South Side of Chicago (so the quote actually read: "He's kind iv a society f'r the previntion of croolty to money...", etc.). [PT]
Our unwitting inspiration is none other than long time Goldman Sachs CEO Lloyd Blankfein. The journey that follows was prompted by word he's preparing to step down as CEO. One account said this could happen by the end of the year. Indeed, times like these are times for honest reflection and celebration.
If you recall, in the fall of 2009, not long after warm rays of sunshine began smiling down upon this bull market, Goldman Sachs' top man, Lloyd Blankfein had an epiphany. The way he put it to The Times of London was that he's just a banker doing "God's work". At the time we weren't sure what Blankfein was getting at. Were you?
Perhaps he was elevating himself, and his firm's business, to the noble and thankless cause of efficiently allocating capital to its highest and best use. As best we can tell, Blankfein implied that this was, somehow, the work of God. And by Blankfein's rationale, the work of God and the work of Goldman are one in the same.
The Times of London may not have been convinced by Blankfein's claim. The article did clarify that Goldman Sachs "...makes money by charging hefty fees to the companies and clients it advises and whose assets it manages - typically 2-4 percent. It also makes profits from trading using its own cash."
A famous photograph, showing Mr. Blankfein with Warren "the Oracle of Omaha" Buffett himself, clutching a thick wallet (Mr. Buffett's, presumably). Buffett seemed to be the "savior" of Goldman Sachs when he invested $5 billion in the company in 2009, a few weeks before the financial crisis ended of its own accord. It was a great decision on the part of Mr. Buffett, but this sweetheart deal sure turned out to be rather costly for existing shareholders of Goldman Sachs. Here is how the deal was structured: Buffett bought a new class of shares, namely $5 billion worth of "perpetual preferred shares", which sported a 10% dividend yield (!) - costing the firm a hefty $500 million per year. On top of that he received warrants for 43.5 million common shares with an October 1 2013 expiration date and a strike price of $115 per share at no cost. Goldman had the right to buy the preferred shares back at a penalty, which it did in March 2011, paying Buffet $5.64 billion (consisting of the principal, a $500 million prepayment penalty plus $140 million in dividends due for 2011). He had already collected $1.1 billion in dividends by that time, so all in all he made $1.75 billion in cash, a return of 35%. But that is not all - GS agreed to a revised deal on the warrants, and in March 2013 Buffett received $1.35 billion worth of GS stock in exchange for the warrants. The stock was trading at roughly $146 at the time, so he got almost exactly the difference between the strike price and the market price in the form of stock - thus GS issued around 12 million shares to him. So his total return on the $5 billion investment was $3.1 billion or 62% (in the meantime it is more, as the stock has risen quite a bit further). Not too shabby, but if we were GS shareholders we'd certainly have a few questions about the deal - especially as it seems in hindsight that it was completely unnecessary. As Matt notes below, GS had already been bailed out by taxpayers at the time (who did so involuntarily and got not return whatsoever). Did it really need a second bailout courtesy of homely Uncle Warren? [PT]
For whatever reason, Blankfein omitted an important facet of his morality play. Roughly one year prior, when the sky was falling during the darkest days of financial crisis, government benevolence, courtesy of the taxpayer - that's you - had rescued Goldman and the other big banks via the AIG bailout. Was this "God's work" too?
Quite frankly, we don't know. We don't pretend to know the will of God. But as Ralph Waldo Emerson elucidated in the essay Nature, there's a natural order to the world.
Following Emerson's lead, we acknowledge that there are some simple facts of how the world works. There can also be consequences for attempting to thwart them, or for simply getting in their way. We may not like some of these facts. But our opinion really doesn't matter.
From a purely natural sense, Pi is an irrational number. There's no denying it. Rounding it off after two decimal places doesn't change the fact that the ratio of a circle's circumference to its diameter cannot be expressed exactly as a fraction. This is an apparent incongruity to the world and there's nothing you or anyone else can do to change it.
Fun with Pi - yes, it is definitely an irrational number. Inserted into the graph is Ramanujan's bizarre equation for calculating it, which can compute 8 decimal places of Pi with each term in the series - it is to this day used as the basis of the fastest algorithms for the calculation. [PT]
There are also fundamental truths to the moral order of things. You can't always get what you want. Deficits do matter. Artificially suppressing the cost of money distorts an economy. A fool and his money are soon parted. Fire and gunpowder don't sleep together. What goes around comes around.
Here's the point...
While we may not know the will of God, we think we may know what it isn't. The natural answer to the mortgage backed security crisis was outright bank failures. A mass cascading spill over systemic bank panic should have swept across the land and wiped out all insolvent financial institutions.
Nature has no sympathy for the human construct of "too big to fail." What we mean is the taxpayer bailout of the big banks was likely counter to God's work. Regardless of what Blankfein says, a business that keeps private profits while socializing its losses is profane.
The bailout of the U.S. financial system, by the Emergency Economic Stabilization Act of 2008, took place nearly a decade ago. This is old news. No one, save a small fringe of financial gadflies, still cares about this. But that doesn't mean it isn't still important.
The ramifications of the bailout continue to be felt throughout financial markets and the economy. Toxic mortgage backed securities still soil the Federal Reserve's balance sheet. In fact, part of the Fed's quantitative tightening program involves gradually reducing its holdings of mortgage backed securities. This, along with increases to the federal funds rate, could usher in the next recession.
"Quantitative tightening" in action - assets held by the Fed. The insert shows the y/y rate of change, which is still small at the moment, but set to accelerate. [PT]
Thus, given word of Blankfein's approaching departure from Goldman Sachs we refuse to give him a free exit pass. Because when the big bank bailout was hatched out, Blankfein was in the middle of it, egging on Goldman cronies Hank Paulson and Neel Kashkari, and ensuring his bank's access to a lifeline of taxpayer liquidity. Then, following the bailout, and a great big bonus, he offered the following non-apology:
"Certainly, our industry is responsible for things. We're a leader in our industry, and we participated in things that were clearly wrong and we have reasons to regret and apologize for."
-Lloyd Blankfein, chairman and chief executive, Goldman Sachs, November 17, 2009.
Good riddance!
Charts by: numberworld.org, St. Louis Fed
Chart and image captions by PT
MN Gordon is President and Founder of Direct Expressions LLC, an independent publishing company. He is the Editorial Director and Publisher of the Economic Prism - an E-Newsletter that tries to bring clarity to the muddy waters of economic policy and discusses interesting investment opportunities.