Frankfurt, May 1st, 2010
Warren Buffett, not surprisingly, is siding with Lloyd Blankfein in Goldman Sachs’ trial before the Senate in the SEC civil suit against the bank. With his company Berkshire Hathaway earning $500m in annual dividends from its $5bn stake in the investment bank, what’s not to like about his partnership with the titans of Wall Street? Besides, as he said last week at his annual shindig in Nebraska, he would never assume to second-guess what investors on the other side of a trade he was involved in were thinking. “They could very well be shorting a product, they do not owe us a divulgence of their position more than any reason why we need to explain what we are doing with our position.”
The Sage of Omaha is perhaps being a touch disingenuous, given his stake in the outcome and in the alleged perpetrator. However, as a trader, he’s fully aware that moral compunctions have no place in the decision as to WHEN to enter or exit the trade. We suspect that his views might be a little more tempered if he was paying advisory fees to the bank, presumably to act on his behalf, only to have them trade against him.
In the decisive moments of the trial, four key Goldman executives were repeatedly asked the question – Did you have a duty to act in the best interests of your clients? Three equivocated, refusing to commit to a ‘yes’ or a ‘no’. Only the fourth, the pivotal witness ‘Fabulous’ Fabrice Tourre, was upfront. “I do not believe we are acting as investment advisers for our clients”, he stated. Loud and clear.
Further questioning of more senior executives, including CEO Blankfein, failed to elicit a committed answer to the question, “Do you think Congress should impose a clear fiduciary duty on brokers to act in the best interest of clients?”. Mumblings, but no response.
Many in the financial community are not shocked by this. Whatever the outcome of the Senate’s findings, the Masters of the Universe at Goldman Sachs are likely to escape with a peremptory fine and a sharp rap on the knuckles. At an average bonus of $1m per employee in the bank’s London offices, most are expected to survive the bruising to the bank’s reputation. Robust resilience, and all that. After all, nobody ever said that ‘doing God’s work’, to quote Blankfein, was easy.
What surprises us at REFIRE is the outrage that is greeting the Goldman Sachs disclosures. Goldman may be the Master Vampire Squid, but in the rarefied world of private equity investing, where the punters pay hefty premiums for blue chip banking names to likewise ‘relentlessly jam their blood funnels into anything that smells like money’, they are not alone.
Take Morgan Stanley, the erstwhile 800- pound gorilla in German property investing. In 2007, the bank invested €10.5bn in Germany alone, making it by far the country’s biggest property investor. Several times then and before, REFIRE had listened to and questioned John Carrafiell, Morgan Stanley’s head of real estate worldwide and the man who set up the ill-fated MSREF VI Fund, as he justified paying premium prices for trophy German properties – despite frequently high vacancy rates and vulnerable tenancy agreements.
Last month investors stared aghast at the disaster wrought upon them by their alpha seeking ‘partners’ at Morgan Stanley, who had managed to lose $5.4bn of their $8.8bn equity. The fund, with its ‘enhanced return strategy’, had buying power of more than $30bn in 2007. This fund volume includes many of its German trophy acquisitions, now being sold off one after another at a loss, or which have been completely written off, with the keys in the post on their way back to the lender.
This destruction of investor wealth is staggering, even by recent standards. What on earth could have led these hard-bitten real estate professionals to spend so much above what would be mathematically justifiable, and to barge in waving thick wads of cash where angels truly would have feared to tread?
Well, let’s see. The Wall Street Journal has uncovered documents that show what Morgan Stanley charged for the ‘promote’, or fees to manage Other Peoples’ Money in the MSREF VI fund. Just in 2007, these came to $104m in acquisition fees, $22m in fund management fees, $13m in financing fees, $36m in real-estate management fees, and $21m in financial advisory fees. There’s your alpha returns right there. For the promoter, of course. Not the investor. To no great surprise, the investing public is left wiser, more experienced – and wiped out.
The Morgan Stanley losses, along with those suffered by Goldman Sachs’ Whitehall Funds and RREEF, to name just two others who have taken a financial bath recently, will be written off, along with a certain loss of face. The banks will recover. The managers involved, unlikely to be personally out of pocket, have mostly already moved on to manage other funds. The show will go on.
Others can (and do) reflect on the positive side of the arrival of all that fresh money. The German open-ended funds were big beneficiaries of the folies de grandeur indulged in by the living deities. In a stroke of perfect timing, the funds managed to shift most of their unwanted properties into the hungry maws of the highly leveraged Anglo-Saxons, and were away scot-free, as it were. (No disrespect – or pun – intended to RBS, who just happens to be left holding the can in both the Goldman Sachs trial and the Morgan Stanley ‘jingle mail’ Pegasus portfolio debacle).
The big German funds are now the new powerhouses, flush with investors’ euros and welcomed across Europe with open arms (and pockets). For now, nowhere is the welcome likely to be bigger than in Athens (we’re dismissing, as an apocryphal tale, the report of a Berlin taxi driver who recently refused a colleague’s Greek euro coins when paying his fare…) In fact, we’re betting on gift-bearing Germany’s popularity remaining high for some time to come, as an investment and currency hedge. Ceteris paribus, we too would be favouring those euros that have some residual Deutschmark genes in their DNA. But that’s a whole other story…
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