Bless You, Greg Smith!

Today’s reading comes from the Book of Greg Smith… We hope you will find it both illuminating and edifying.

Who is Greg Smith? Well…he is not exactly a prophet…and he probably isn’t a perfect saint. But he seems to know something about the difference between good and bad…between moral and immoral…and between ordinary Wall Street greed and putrid Goldman-Sachs-style greed.

Greg Smith was Goldman’s head of US equity derivatives business in Europe, the Middle East and Africa. He ended his 12-year career at Goldman yesterday with a very fascinating “Farewell Letter.” This missive appeared in The New York Times under the simple title, “Why I Am Leaving Goldman Sachs.” It was a masterful exposé…a stinging rebuke of Goldman’s notorious money-first-client-last “ethic.”

Faithful Daily Reckoning readers may recall that your California editor has highlighted Goldman’s low-brow behavior on numerous occasions. And he has made no secret of his contempt for the modern “Goldman culture.”

But your editor is just a guy who’s trying to peek over the hedgerows…an outsider…a “Muppet,” according to the Goldman lexicon. He assailed Goldman’s moral bankruptcy from the outside looking in, because that was the only option available. But now comes Greg Smith to assail the firm’s moral bankruptcy from the inside looking out.

“Today is my last day at Goldman Sachs,” Smith wrote. “After almost 12 years at the firm…I believe I have worked here long enough to understand the trajectory of its culture, its people and its identity. And I can honestly say that the environment now is as toxic and destructive as I have ever seen it. To put the problem in the simplest terms, the interests of the client continue to be sidelined in the way the firm operates and thinks about making money…

“I truly believe that this decline in the firm’s moral fiber represents the single most serious threat to its long-run survival,” Smith continued, “I attend derivatives sales meetings where not one single minute is spent asking questions about how we can help clients. It’s purely about how we can make the most possible money off of them.”

“Remember,” your California editor observed a few weeks ago, “[Goldman] was the firm that continuously packaged and sold mortgage-backed securities (MBS) to its clients, while simultaneously building a meaningful short position in the identical (or very similar) mortgage-backed securities. This practice was perfectly legal, but it was also perfectly scummy.

“It was a little like selling tickets for an ocean cruise, then buying a disaster insurance on that particular cruise because you had some knowledge that the ship was barely seaworthy. Hey, you didn’t force anyone to buy a ticket for the cruise; you simply designed the cruise, then marketed it and sold tickets.

“So if Goldman devoted itself to a series of perfectly legal — but morally bankrupt — business practices during the go-go years of 2005 to 2008,” your editor wondered, “would it not be tempted to do even more of the same during the grim conditions of 2011-12?”

Yes, is the answer, according to Smith.

“It makes me ill how callously people talk about ripping their clients off,” Smith’s expose continued, “Over the last 12 months I have seen five different managing directors refer to their own clients as ‘muppets,’ sometimes over internal e-mail. Even after the S.E.C., Fabulous Fab, Abacus, God’s work, Carl Levin, Vampire Squids? No humility? I mean, come on… It astounds me how little senior management gets a basic truth: If clients don’t trust you they will eventually stop doing business with you. It doesn’t matter how smart you are.”

Obviously, conning Bert and Ernie out of their money can be an extremely lucrative business for years. In fact, it has been. But the supply of Muppets with money is not unlimited. Eventually, even Big Bird grows tired of being completely plucked over by his financial “advisor.”

Some investors seem to be worrying that a Day of Reckoning for Goldman may be arriving sooner, rather than later. During the last several months, Goldman’s stock (NYSE:GS) has been trailing noticeably behind both the S&P 500 Index and the Financial Select Sector Index.

Share Price of Goldman Sachs vs. S&P 500 and IXM Index

“I hope this [letter] can be a wake-up call to the board of directors,” Smith concluded. “Make the client the focal point of your business again. Without clients you will not make money. In fact, you will not exist.”

True that!…In fact, we made a very similar assertion a few weeks back when we published back-to-back columns entitled, Goldman Sachs is Probably Not a Buy and Goldman Sachs is a Sell.

Eric Fry
for The Daily Reckoning