[Congressional Record (Bound Edition), Volume 156 (2010), Part 7]
[Senate]
[Pages 8900-8901]
[From the U.S. Government Publishing Office, www.gpo.gov]




                           WALL STREET REFORM

  Mr. LEVIN. Mr. President, among the most difficult issues we dealt 
with in the debate over the Wall Street reform bill we approved last 
week is that of proprietary trading and conflicts of interest in the 
financial system. This trading, often involving risky investments with 
large amounts of borrowed money, was a significant contributor to the 
financial crisis of 2008--a crisis from which we have yet to fully 
recover. The bill the Senate has approved includes important language 
dealing with proprietary trading and with conflicts of interest.
  In the hope of strengthening that language, Senator Merkley and I 
introduced an amendment which would have made Congress's intent clear: 
to end risky proprietary trading at commercial banks, to demand that 
the largest nonbank financial institutions maintain sufficient capital 
for their trades to prevent taxpayer bailouts, and to end the 
outrageous and destructive conflicts of interest which marked so much 
of Wall Street's behavior leading up to the crisis.
  It is this last issue on which I have focused much of my attention. 
As we move toward negotiations between the House and Senate and final 
passage of a Wall Street reform bill, hopefully the final product will 
deal with these conflicts of interest. Failure to do so would accept 
the status quo under which Wall Street firms can assemble complex 
financial instruments, instruments they have financial incentives to 
see fail, sell those instruments to clients, and then profit by betting 
against the products they built and sold.
  The hearings I chaired in the Permanent Subcommittee on 
Investigations probing the causes of the financial crisis exposed 
recklessness and greed up and down the financial system. In our last 
hearing, examining the role of investment bank Goldman Sachs in the 
crisis, we demonstrated how Goldman profited by betting against 
financial instruments it had assembled.
  In late 2006, Goldman Sachs made a strategic decision to begin 
unloading mortgage-related holdings and to short the mortgage market; 
that is, to bet against the market and to profit from its fall. To do 
so, Goldman assembled a series of financial instruments it would profit 
from if there were a collapse of the mortgage market.
  One e-mail chain from May 2007, for instance, shows how Goldman bet 
against certain mortgage-backed securities that it had assembled and 
sold to investors. In the e-mails, Goldman employees discussed how 
certain securities that Goldman had underwritten and were tied to 
mortgages issued by Washington Mutual Bank's subprime lender, Long 
Beach, were losing value. Reporting the wipeout of one security, a 
Goldman Sachs employee then reported the ``good news''--that the 
failure would bring the firm $5 million from a bet that it had placed 
against the very securities it had assembled and sold.
  In addition to shorting existing mortgage-backed securities, Goldman 
constructed a series of even more complicated financial instruments to 
bet against the mortgage market. These were known as collateralized 
debt obligations or CDOs. One example is a synthetic CDO put together 
in late 2006 known as Hudson Mezzanine. A synthetic CDO is a financial 
instrument whose value is based on a collection of referenced assets, 
but it does not contain the assets themselves. It is essentially a bet 
on whether referred-to assets will rise or fall in value.
  Goldman constructed this $2 billion CDO to reflect the value of 
subprime mortgage securities similar to those that Goldman held in its 
own inventory. Goldman's sales force was told that Hudson Mezzanine was 
a top priority and it worked aggressively to sell Hudson securities to 
clients around the world. Internal e-mails released by our Permanent 
Subcommittee on Investigations showed that one Goldman client was 
unhappy that the firm was spending so much time on Hudson and not on a 
deal the client wanted to make. In the documents Goldman used to sell 
Hudson Mezzanine to clients, the firm even suggested to investors that 
Goldman stood to benefit if the investment performed well, telling 
those customers: ``Goldman Sachs has aligned incentives with the Hudson 
project by investing in a portion of the equity.''
  In fact, that was not true. Goldman Sachs' interests were not aligned 
with its customers. They were in conflict. Goldman was the sole 
counterparty in the Hudson CDO and made a $2 billion bet; that is, a $2 
billion bet, that the assets referenced in the CDO would fall in value. 
Goldman won that bet big time. The CDO, filled with toxic subprime 
assets that Goldman had selected, assembled, and sold, began losing 
value. When Goldman first sold the securities to its clients, more than 
70 percent of Hudson Mezzanine had AAA ratings, but within 9 months 
those AAA ratings were downgraded, and within 18 months Hudson was 
downgraded to junk status, and Goldman cashed in at the expense of its 
clients.
  To sum up, in late 2006, Goldman decided to bet against the housing 
market it had helped to create. It shorted mortgage-backed securities 
it had sold to investors, and designed and built CDOs that enabled it 
to make billions of dollars in bets against the housing market and its 
own CDOs, collecting money when the products it had peddled to its 
clients failed.
  That kind of proprietary trading is not ``market making.'' It is not 
matching buyers and sellers. It is one firm acting as a principal 
looking out for its own self-interest and making bets that were 
collected at the expense of its clients. Goldman served its own 
interests, and if clients got burned in the process, so be it.
  But Goldman's actions did more than hurt its clients. It helped 
undermine an entire financial market which, in turn, damaged numerous 
financial institutions that ended up requiring a $700 billion taxpayer 
bailout to stop the bleeding. Hudson Mezzanine and other synthetic 
vehicles Goldman used to bet against mortgages were particularly 
damaging because they were not constrained by the number of mortgages 
in the market. They contained no real assets but were strictly bets on 
whether referenced assets would fall in value.

[[Page 8901]]

The creation and sale of those synthetic instruments presented money-
making opportunities for Goldman but magnified the risk in the 
financial system and made the crisis more severe when it hit.
  It is time for Congress to put an end to the conflicts of interest 
that undermine our financial markets and pit investment banks against 
their clients.
  The Merkley-Levin amendment contained a provision targeted at 
cleaning up this mess and preventing it from happening again. It would 
have barred any financial institution that underwrote an asset-backed 
security from placing bets against the securities it created. The 
amendment would have also imposed new limitations on proprietary 
trading, limitations which are also critical to repairing financial 
markets and which are contained in more limited form in the Dodd bill.
  The Senate Parliamentarian ruled that the Merkley-Levin proprietary 
trading and conflicts of interest provisions were germane to the Dodd 
bill. That is because the Merkley-Levin conflicts provision targets the 
same problem as the Dodd proprietary trading section--stopping 
financial firms from putting their own interests ahead of their 
clients. Our proprietary trading provision and our ban on conflicts of 
interest are essential to restoring client confidence in U.S. markets. 
They are within the scope of the conference and ought to be included in 
the conference report.
  The financial landscape today is littered with the damage done by 
financial firms which pursued short-term profit at the expense of their 
clients, U.S. taxpayers, and the economy as a whole. Those financial 
firms cannot be allowed to continue to sell securities to clients and 
then bet against them. It is essential to remove these schemes that 
have undermined U.S. financial markets. I urge my colleagues in both 
Chambers, as they discuss final Wall Street reform legislation, to keep 
in mind how damaging these schemes have been, to strengthen the Dodd 
proprietary trading provisions, and to include a ban on conflicts of 
interest.
  I thank the Presiding Officer.
  I yield the floor, and I suggest the absence of a quorum.
  The ACTING PRESIDENT pro tempore. The clerk will call the roll.
  The legislative clerk proceeded to call the roll.
  Mr. SESSIONS. Mr. President, I ask unanimous consent the order for 
the quorum call be rescinded.
  The ACTING PRESIDENT pro tempore. Without objection, it is so 
ordered.

                          ____________________