Frank Partnoy makes a great point: the word “client” has been over-used by investment banks so much that by this point it “has become Orwellian doublespeak”. But the problem is much deeper than one of semantics. When all counterparties are considered clients, then that creates a corporate culture where all clients are considered little more than counterparties. And that, in turn, can be evil and poisonous.
Partnoy says that “the firm’s salespeople know who is a client and who is a mere a counterparty”, and to a certain degree he’s right. A sovereign wealth fund dealing with the equity derivatives desk is a counterparty; a private individual whose money is being managed by Goldman Sachs Asset Management is a genuine client. If you’re paying Goldman fees, you’re quite unlikely to be called a “muppet”, and no one in the firm is going to try to “rip your eyes out”.
But that doesn’t mean that Goldman will always be acting in your own best interest, rather than its own. Stockbrokers, famously, receive substantial fees from their clients, but don’t have a legal fiduciary duty to those clients, and do have a demonstrated tendency to steer their clients into the investments which end up paying them the highest commissions.
And even companies paying for M&A advice are sometimes .
In other words, no one can complacently assume that they’re a favored client of Goldman Sachs and that therefore Goldman will be ripping off others on their behalf, rather than ripping off its own client. Not even people writing large checks to Goldman every quarter.
I’ve been talking to bankers in the days since came out, and there’s a pretty much unanimous feeling that bankers’ loyalty to clients, at least at Goldman and other big investment banks, has been declining across all aspects of the business, for many years. Greg Smith was in equity derivatives — an area where it’s incredibly easy for salespeople to hide fees if they’re inclined to do so. In fact, it’s so much easier for a bank to build its fee into the pricing of complex bespoke products than it is to charge that fee directly, all banks do exactly that. It’s like buying “commission-free” currency when you go on holiday: you know full well that the bureau de change is still making money; it’s just making that money by giving you a bad price for your dollars, rather than by charging you a high commission.
But in a business devoted to making ever-increasing sums of money, it’s very easy for those hidden fees to get bigger and bigger over time. I talked to one former equity derivatives executive a couple of days ago, who said with surprising vehemence that in his day, the big clients were God: you built in fees, yes, but you never ripped them off or tried to steer them into something which was not in their best interest. Now of course what he was saying was self-serving, but I think it had an element of truth to it, too.
There’s been a lot of talk in the past couple of days about how Smith was not much of a star at Goldman: he was the sole person trading US equity derivatives in London, which is always going to be a marginal job at best, and he hadn’t risen very far up the greasy pole given how long he worked at the firm. Certainly it’s a bit of a stretch to call him an “executive” at Goldman, as that term is generally understood: he didn’t even have any employees. But at the same time, his relatively lowly position in the company is entirely consistent with a tale of a smart but ethical professional who didn’t make as much money for the firm as his peers did, just because he didn’t rip off his clients to the degree that they did.
All of which is to say that it’s worth taking seriously about the latest spate of deregulation in the securities markets. I think that there’s a lot to like in the JOBS act, especially the idea that we should stop forcing companies to go public just because they have 500 shareholders, including employees. Companies should be encouraged to give out equity to their employees, without worrying that if they do so, they’re on some kind of IPO train which can’t be derailed. At the same time, however, there’s a lot of deregulation in the JOBS act which seems aimed primarily at giving banks a greater opportunity to make money, largely at the expense of investors in the primary markets. has some strong and important points: the primary markets are rife with information asymmetries, and someone needs to protect the interests of investors, rather than allowing banks to rip them off with legislated impunity. All big banks are public companies. Public companies are always under a lot of pressure, from their own shareholders, to grow. But as a country, we have a public interest in seeing those banks shrink. The tension is clear. And if regulators try to get banks to shrink, the banks in turn are going to make even greater efforts to extract the highest profits possible from the businesses they retain. Which is another way of saying that they’re going to rip off their clients even more. So let’s be assiduous when it comes to regulation, because neither banks nor their boards are going to lift a finger to protect client interests. Not when they’re trying to maintain and maximize their own profitability.
