Taking a Razor to Wall Street

Sweet revenge at last! Investment banking behemoth Goldman Sachs is being sued by the S.E.C. for securities fraud. It was always a mystery how Wall Street’s alpha-bankers weathered the pounding everyone else took in 2008. Now we have an answer: they stand accused of selling their clients the riskiest possible mortgage-backed securities, then secretly betting that those same investments would fail. (They won the bet big-time, in case you had any doubts.)

It’s a long story, and an impossibly convoluted one. Shortly before the real estate bubble burst in 2007, Goldman Sachs apparently collaborated with hedge fund manager John A. Paulson to assemble a package of “collateral debt obligations” hand-picked for their weakness in a housing market that Paulson predicted would collapse. 

Billionaire hedge fund manager John A. Paulson: Ain't capitalism grand?

The portfolio named in the lawsuit — Abacus 2007-AC1 (it sounds like some sinister c0mputer virus) — was just one of 25 such misbegotten “products” that Goldman supposedly palmed off on its unsuspecting clients.  Here’s the most diabolical part: Goldman Sachs would market the doomed portfolios while allegedly betting against them. When the investments tanked and their clients (including numerous pension funds) lost their collective shirts, Goldman Sachs reaped a bundle.

So did Paulson, to the tune of $3.7 billion in 2007 alone. (Yep, that’s $3.7 billion for his personal use, which no doubt helped pay the mortgage on his $41 million Long Island palazzo — with spare change for acquiring a Caribbean island or two. He made only $2 billion in 2008 — obviously an “off” year — followed by another $3 billion in 2009.) Paulson isn’t implicated in the lawsuit, because he also made billions for his wealthy hedge fund clients by having them bet against the bad securities he packaged. Capitalism is full of wonders, isn’t it?

But Goldman Sachs has been caught in its own web (about time, most of us burned investors would sigh). Think of a baseball manager publicly boasting about his team’s prowess while secretly advising them to throw the World Series — and personally betting that his team would lose.  Think of the 1919 Black Sox Scandal. That’s the kind of crime Goldman Sachs is accused of perpetrating. It ain’t pretty.

I’d like to take a razor to Wall Street. So would several million other small investors who lost half their money in the conflagration of 2008. But as much as I enjoy my revenge fantasies (admit it: so do you), I have no intention of jeopardizing my relatively good standing with the law, an overdue $321 Philadelphia parking ticket notwithstanding.

No, the razor I have in mind is Occam’s Razor, a sturdy 14th-century rule of thumb developed by a 14th-century English monk of the same name. (It was actually Ockham, but that’s another story.) Anyway, Occam’s Razor goes like this: “Entities must not be multiplied beyond necessity.” In other words, eschew superfluity and obfuscation. Strive for the simplest possible structure, because it’s usually right.

Slashing wretched excess to the bones since 1340

I like it that Occam’s Razor abides by its own principle: it’s admirably short and to the point. (A 21st-century version would probably run on for 250 pages in the manner of a Malcolm Gladwell bestseller. He’d call it Slash!)

Applied to the nightmarish and incomprehensible malignancy that is Wall Street today, the old monk’s adage could prove that it still has legs. When someone like Alan Greenspan couldn’t foresee the coming trainwreck, you know that Wall Street desperately needs to be simplified.

If I took Occam’s Razor to Wall Street, the first thing I’d slash would be short-selling, known in the trade as “shorting.”  I’d outlaw it, criminalize it and consign it to the eternal flames.

Anyone who takes a short position in an investment is betting that the price will drop rather than go up. Seems innocent enough on the face of it, but look again: when enough speculators short an investment, they actually accelerate the downward drop.

This is what Goldman Sachs and John Paulson did with those shaky mortgage-backed securities, the difference being that Paulson was up-front with his clients and helped them profit from the collapse. But the fact remains that in order for Paulson & Co. to win, somebody had to lose. Millions of us, as it turned out.

The line between investing and gambling has always been a blurry one. I invest in companies I like, try to make a profit, and sell when I’ve amassed enough of a gain or (more likely these days) loss. But at least I invest in earnest: I want the company to succeed, and I wish my fellow shareholders equal success. In an ideal investing world, everybody wins.

Unlike traditional investing, shorting is a zero-sum game: your win comes only at somebody else’s expense. Even worse, you actively root for other investors to lose. And if you have enough short-sellers on your side, you’re actually undercutting the long-term investors, causing them to lose, and swiping their loot for yourself.

Capitalism, like natural selection, is a fundamentally amoral system. It matters not who’s good or kind or even brilliant — only who’s clever enough to succeed. But shorting is immoral. It helps destroy companies and wealth for the benefit of a few weasels. Wall Street needs to take a razor to it before the American people take a razor to Wall Street.