“It’s simply easier to to lose the money of others and get paid for it than to make money and be accountable for it. If that were YOUR incentive, then you would do it too.” — Neil Garfield

February 5, 2011, 5:04 pm Investment Banking

Stock-Hedging Lets Bankers Skirt Efforts to Overhaul Pay


Intent on fixing a banking system that contributed heavily to the recent financial crisis, lawmakers and regulators pushed Wall Street to overhaul its pay practices. Big banks responded by shifting more compensation into stock, a move intended to align employees’ interests more closely with those of investors and discourage excessive risk-taking.

But it turns out that executives have a way to get around those best-laid plans. Using complex investment transactions, they can limit the downside on their holdings, or even profit, as other shareholders are suffering.

More than a quarter of Goldman Sachs’s partners, a highly influential group of around 475 top executives, used these hedging strategies from July 2007 through November 2010, according to a New York Times analysis of regulatory filings. The arrangements were intended to protect their personal portfolios when the firm’s stock was highly volatile, especially at the height of the crisis.

In some cases, executives saved millions of dollars by using these tactics. One prominent Goldman investment banker avoided more than $7 million in losses over a four-month period.

Such transactions are at the center of a debate over whether Wall Street executives should be allowed to hedge their stock holdings. The concern with hedging is that executives can easily break the ties between compensation and company performance. Employees who hedge their holdings are less concerned about a falling share price. That’s why the government barred top executives at banks that received multiple bailouts from using the strategies until they paid back the funds.

“Many of these hedging activities can create situations when the executives’ interests run counter to the company,” said Patrick McGurn, a governance adviser at RiskMetrics, which advises investors. “I think a lot of people feel this doesn’t have a place in a compensation structure.”

More broadly, critics say, the practice of hedging represents another end run around financial reform.

For example, new rules that cracked down on debit card fees have led several big banks to eliminate free checking. Firms also plan to make up missing revenue by adapting their businesses to the tougher new regulations on derivatives and trading with the banks’ own capital.

“Wall Street is saying it is reforming itself by granting stock to executives and exposing them to the long-term risk of that investment,” said Lynn E. Turner, a former chief accountant at the Securities and Exchange Commission. “Hedging the risk can substantially undo that reform.”

Most public companies, including Wall Street firms, have policies that ban the practice for only their most senior executives, though the number of executives affected varies by company.

At The New York Times, executive officers and other employees who have access to material nonpublic information about the company may not engage in hedging without written approval — a group that includes more than 100 people, as well as anyone they supervise.

Shareholders can figure out the investment practices of the highest-ranking officers of a public company, who are required by law to report. Even those disclosures are buried deep in the footnotes of regulatory filings. Whether lower-level executives are hedging is nearly impossible to determine.

But the unusual structure of the Goldman partnership requires the company to disclose the investment activities of partners in filings. The documents provide a window into what a broad range of senior executives were doing with their own shares.

Hedging — a commonly used tactic for years, especially during times of weakness or volatility — makes sense for executives at public companies who have amassed a large concentration of stock. They allow employees to limit losses, raise cash, or diversify their portfolios without selling the underlying holdings. Any individual investor can use hedging tactics for the same reasons, but few do because the transactions are complicated and make more sense for those who own a large amount of stock.

“Goldman Sachs shares represent the largest component of the wealth for many of our employees,” said Michael Duvally, a Goldman spokesman. “Hedging or outright sales, when allowed, can be a prudent part of a portfolio diversification strategy.”

By maintaining their stake, executives can continue to vote on shareholder proposals that influence the direction of the business. Hedging also helps investors to avoid the tax obligations associated with offloading stock.

There are various types of hedging strategies, many of which involve stock options. In one transaction, known as a covered call, a long-term shareholder can make income off a stock for a few months, provided it stays below a certain level. But if the price soars, the investor will not benefit from most of the rise.

In another hedge, known as a collar, an investor uses options to lock in the potential profits and losses on a stock. Although the move caps the potential upside, it also limits the risk.

Institutional hedging policies vary across Wall Street. Bank of America bans all employees from hedging their company stock, although management can make exceptions for “legitimate, nonspeculative purposes.”

But most big banks — including JPMorgan Chase, Morgan Stanley and Goldman Sachs — prohibit only their highest-ranking executives from such transactions. At Goldman, the chief executive, Lloyd C. Blankfein, and nine other top officers are not permitted to hedge their holdings, Mr. Duvally said.

The rest of Goldman’s employees can hedge shares they own outright. But they can’t make such moves with restricted stock. The partners, some of whom shape the firm’s strategy as heads of major business units, are required to hold 25 percent of their equity awards and are not allowed to hedge that portion of their holdings.

“Our equity awards vest over a multi-year period, are subject to clawbacks and cannot be hedged until they are delivered to our employees,” Mr. Duvally said. “These policies align equity compensation with the firm’s performance.”

The filings illustrate how routinely Goldman’s executives used the strategies. From July 2007 through November 2010, at least 135 partners used options to protect themselves from stock drops or to profit if shares held steady.

Several used such transactions routinely. Among them: David J. Greenwald, Goldman’s deputy general counsel overseeing its international businesses; Peter C. Aberg, a senior executive in the mortgage group; and Jack Levy, co-chairman of mergers and acquisitions. Howard Wietschner, the co-head of a hedge fund advisory group, had at least 32 such arrangements.

Shareholders over the same period endured roller coaster volatility. Goldman shares peaked at $248 in fall 2007 before dropping to $52 a year later after Lehman Brothers failed. At $164.83 on Friday, the stock still has not reached its former highs.

Regulators are taking a hard look at the practices. The Financial Stability Board, a group of global banking supervisors, wants firms to restrict employees from using the strategies. The Federal Reserve is examining hedging in its review of bank compensation.

And the Federal Deposit Insurance Corporation is expected to propose on Monday a new rule requiring big banks to defer at least 50 percent of annual stock and cash bonuses. That compensation would be released over the course of three years, so that executives don’t reap big, short-term windfalls even if their bets don’t pan out.

As part of the Dodd-Frank financial reform bill, the S.E.C. is hashing out regulations that would require all public companies to disclose their policies. Congress inserted the rule in the bill to discourage executives from hedging. The final S.E.C. proposal is anticipated during the second half of 2011.

For Goldman partners, the most popular hedging strategy was covered calls. Take Christopher Cole, chairman of Goldman’s investment bank and a member of the management committee. From 2007 to 2009, he made at least 11 such transactions, earning more than $675,000, according to the filings.

Not all strategies proved successful. With the stock around $98 in early February 2009, Milton R. Berlinski, who oversees a group that caters to private equity firms, made a risky bet called a short strangle. The maneuver would pay off if the stock stayed between $60 and $110 over the next six months. By mid-July 2009, Goldman shares were trading north of $156, meaning Mr. Berlinski took a loss.

Byron D. Trott, a Goldman partner best known as Warren E. Buffett’s investment banker, fared much better on one deal. In October 2008, Mr. Trott hedged 175,000 shares, using a collar to limit his profit potential but insulate him should the stock plummet over the next four months.

The transactions, set up months before, were executed just a few weeks after Mr. Buffett agreed to hand over $5 billion to Goldman in exchange for a potentially lucrative stake — a transaction Goldman hailed as a “strong validation of our client franchise and future prospects.” Mr. Trott, who did not return calls for comment, helped facilitate the investment. Goldman’s stock, which was trading around $128 that October, dropped to $73 by January. With the hedge, Mr. Trott lost roughly $2 million on the stake, less than a quarter of what he would have otherwise.

Two months later, Mr. Trott departed Goldman to start his own advisory firm.

14 Responses

  1. The basics of money are really printed right on those pieces of paper called money. They state at the top “Federal Reserve Note” , they state “This Note is legal tender for all debts, public and private”. Back in 1934 they stated “This note is legal tender for all debts, public and private, and is redeemable in Lawful money at the United States Treasury, or at any Federal Reserve Bank”. So how many people really understand those statements. I mean, if I buy a loaf of bread from you for 1 dollar, and you agree that is proper exchange value, so I give you one dollar and you give me the loaf of bread and we are both happy. There is no debt there, we just exchanged. One would think that. But there is a debt there, it is just unseen and hidden since 1913. Somewhere someplace sometime somebody had to borrow that 1 dollar note, which is just a piece of paper denoting a 1 dollar debt – a debt instrument, a NOTE.

    How come your quarter says United States of America. It does not say Federal reserve note nor that it is legal tender for all debts, public and private. did you know that legally you cannot pay a bill with lots of coin money. I think the limit on quarters is something like 4 dollars, I forget now.
    Once I called my credit card company and told them I couldn’t get out of the house, my car broke. I asked them to send somebody over to my house and I would pay them cash for my credit card bill now due. The person said no we can’t do that. I said so are you refusing my offer. She wouldn’t answer the question. So I didn’t pay and haven’t to date. Oh well, I offered.

  2. In response to land sales to China I see this as similar to the “trojan horse” . Watch out !!! Who is responsible (individuals)for these actions??? . We need to know.

  3. We’ve been sold into slavery as well along with our national sovereignty. Their selling acres upon acres of land in 257 locations all over the US to Communist China designated as “FOREIGN-TRADE ZONES” (FTZ) >

  4. Test 123

  5. “Dickens saw clearly over 150 years ago what many Americans today still do not; debt is an abstract idea, an absurd game which confuses and ensnares innocent people. Debt based systems con the citizenry into trading away their tangible wealth and labor for the promise of future settlements that will never come. Debt serves only to weaken the masses, and empower creditors.”

    Awaken folks…it’s time to stop playing their game i.e. paying their bills. Cut yourself loose. Deny this bogus system…cut off the head of the shadow elite.

  6. And that article is there you go is why the majority of people are poor comparatively. The wall street/bank game is on the secondary market up from main street. As main street invests in wall street, wall street leverages it one way or the other via debt instruments, but wall street products only produce more money or debts on main street and main street person has no clue as it is so complicated. Wall street does not exchange with main street as they hoard the money, the credits, on their balance sheets which get transfered to individual wall street/bank players personal accounts eventually. Wall street/banks do not exchange back with main street but only a little like a carrot on a stick, and main street keeps working the natural resources.

  7. The proprietary relationships Wall Street banks have with hedge funds conceal profit (Wall Street supports and invests in these hedge funds)– for which employees are now being compensated. All that is occurring is a shifting of “investors” from security investors (already paid) to distressed debt investors (not really investors because default debt cannot support a real security)- who Wall Street needs and relies upon.

    Sort of like — shifting of home ownership from victims to someone else who gets to buy house at the actual value (not inflated value) — and with a great interest rate — and, often for 3% down!!!


  8. Your’re in movies, Sir!

    Great journal you have.

    And I will travel anywhere to make videos to document this abuse.

  9. I have a different question : Who can claim the PMI
    money. Only the original lender or the Server also .
    What about , if by HELOC was not made an appraisal . How the get the Quote ?

  10. Another Conflicts of Interest to profit themselves. They are creating insurance policies themselves to be bailed again and again and again….


    GO HERE TO SEE > http ://

  12. An insurer is compelled to a duty to defend
    It’s difficult to know when to pull the trigger and then how the resolution should occur according to the FDIC position.

    By M Soliman

    The FDIC employs its statutory process to use for resolution. Ordinarily, the FDIC will follow least cost, and there’s a very strict statutory regimen that shareholders and unsecured debt holders need to take losses before the FDIC takes losses, and that uninsured depositors take losses. According to the FDIC – Of course, insured depositors never take losses; S Blair.
    Therefore a process is in place for doing this. The FDIC has receivership and the resolution staff that understand liquidation and how to close institutions, how to do that in an orderly way to avoid upheaval, and therein is the mindset to impose its will at any cost to try to sell it off Bank “A” assets to another institution to keep it running, as opposed to putting it into some type of a bridge bank [temporary] situation, which is what the FDIC had to do with Freddie Mac, or by selling it off in pieces.

    To this extent the FDIC boasts of its role as an insurer yet fails to acknowledge an insurer is compelled to a duty to defend if the face of the complaint before the court alleges something covered and does not allege exclusion to coverage. Extrinsic facts not alleged in the complaint do not affect the insurer’s duty to defend in these jurisdictions.

    The California superior courts refer to this approach as the four-corners. “In determining its duty to defend, an insurer, the Federal Deposits Issuance Corporation “FDIC” must not only look to the petition or complaint filed against its insured, but must also investigate and ascertain the relevant facts from all available sources.” In a four-corner jurisdiction, the actual facts (as opposed to the alleged facts) play an important role in determining an insurer’s defense obligation, particularly when the insurer knows about such facts.

    Plaintiffs suing in a judicial foreclosure are always a claimant to government insurance claims proceeds upon which defendant is eligible to entitlement and right of claim. If having already been decided by formal adjudication and granting of a writ of possession, the plaintiffs fail to merit their pleading fails for purposes of preclusion and for ” final judgment between parties; Before the court is a claim between those same parties for matter of possession that is decided conclusive as to that issue; therefore the court is retrained from allowing plaintiff’s to bring Res Judicata into the matter having failed to disclose a writ of possession already entered by adjudication hearing.

    Claimants are represented by a collections firm who are agents under the FDIC and not a fiduciary and not an appropriate substitute ‘trustee”. Claimants can neither accept a payment at this time for resolution of the outstanding balance nor can they foster a cure to the outstanding delinquent balance. Claimants cannot impose upon the Court its rights to claims whereby the pleading is brought in ambiguous complaint and is subject to a subrogor duty to defend the claimant and defendants’ rights to file an actionable claim for award, itself, prior to any monetary amount being awarded by the FDIC…
    In all states the court is bound to consider the matter being brought by a collections firm under the FDCPA on behalf of an alleged claimant, subject to the four corners rule.

    Defendant further alleges the award is in fact a settlement in receivership and for subrogation claims is in a matter for which the Plaintiffs are seeking to perfect title for claims under California foreclosure law CC2924.1. Upon the court granting “possession” and not title, will the alleged claimant “plaintiff” thereby have become fully vested in its right to submit its demand for reimbursement upon which it shall tender its “voucher” the promissory note it repossess at the conclusion of sale. Under the FDIC “Loss Risk Share” program is the basis for determining a preset “credit bid” offered “rigged” in violation of the CA CC 2924.1. The FDIC avoidance powers and Repudiatory rights quash any claim and counter claims arguments and can stay any state decision bestowed by the court onto the matter.

    Claimants are the plaintiffs who enforce their right of claims unto the court proffering ambiguous filing action for possession upon which the claim at stake is an adjusted amount set as a purchase price by the insurer the FDIC.

    Therein the claim is furthered towards payment to the plaintiff’s as a debt collector by the Grantee at sale who is by its own admission one and the same with the beneficiary who brought foreclosure. None of the bells and whistles applied in this Federally funded grandiose scheme takes into account that mortgage backed securitization platform defined by “Derecognition” is ill-fated upon which the American citizen loses their home and then pays a tax on the charges to the loan in conjunction with an increase in personal taxable income under the massive bailout plan known as TARP.

    In other words the cost of TARP, increased taxable basis, losing one’s home and cost associated with materially misrepresented modifications that veil a pre-foreclosure “sham” brought and concluded by skilled collections agencies deceptive efforts. The effort is in fact reverse engineering the damage done by “repossessing “the borrowers “lost note”

    These efforts protected under the FDCPA assumes a creditor’s rights to unsecured debt are sufficient to accomplish the government’s plan of action upon taking possession of the infamous lost note held by the registrant bank – condition subsequent. In other words the note reclaimed at sale is not a by lawful foreclosure versus recapturing the interest in title to real property which is a chattel. All the attorneys need to do is get wind of the fact the missing condition precedent which is no note means no right to bring a foreclosure.

    A high volume of these toxic assets preferred and common shares issued against entities holding the rights to revenue from borrowers will show the foreclosure sale having been conducted under the Latin term “Pro tanto”. Therein is the sole “parties defense for misrepresenting how homes were stolen back over the last three years – by Poor tanto forfeiture and not adhering to proper foreclosure laws. Pro Tanto meaning for what it is worth has a deeper meaning as one can wake up to find upon learning the Mexican government has reversed or terminated your title to “live” in real property whereby you thought you’re owned the title to real property. Forfeiture and pro tanto are often linked to confiscating real property against innocent victims who learn the tenants paying their rent in cash and early every month were from a lessor deemed a skilled chief by the DEA Finally, historical accounts of the indigenous people and government approach to earlier version of a cleanup call from over a century ago are proof of how the government and American Indian had to suffer the effect of forfeiture “pro tanto”.

  13. Of course they are profiting…
    The very basics of securitization:

  14. I truly think that the continuation of huge bonuses for financial firms of all types that are in effect insolvent is due to the fact that those same financial firms don’t want “disgruntled ex-employees” decide to spill the beans about the inner workings of the entire scam.

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