Government Sachs and the art of price rigging

Excellent investigation by the Times on how Goldman Sachs, through its ownership of metal warehousing owner Metro International, rigs the Aluminium spot market prices. In brief,

Before Goldman bought Metro International three years ago, warehouse customers used to wait an average of six weeks for their purchases to be located, retrieved by forklift and delivered to factories. But now that Goldman owns the company, the wait has grown more than 20-fold — to more than 16 months, according to industry records. Longer waits might be written off as an aggravation, but they also make aluminum more expensive nearly everywhere in the country because of the arcane formula used to determine the cost of the metal on the spot market...

Metro International holds nearly 1.5 million tons of aluminum in its Detroit facilities, but industry rules require that all that metal cannot simply sit in a warehouse forever. At least 3,000 tons of that metal must be moved out each day. But nearly all of the metal that Metro moves is not delivered to customers, according to the interviews. Instead, it is shuttled from one warehouse to another.

Because Metro International charges rent each day for the stored metal, the long queues caused by shifting aluminum among its facilities means larger profits for Goldman. And because storage cost is a major component of the “premium” added to the price of all aluminum sold on the spot market, the delays mean higher prices for nearly everyone, even though most of the metal never passes through one of Goldman’s warehouses.

Aluminum industry analysts say that the lengthy delays at Metro International since Goldman took over are a major reason the premium on all aluminum sold in the spot market has doubled since 2010. The result is an additional cost of about $2 for the 35 pounds of aluminum used to manufacture 1,000 beverage cans, investment analysts say, and about $12 for the 200 pounds of aluminum in the average American-made car.

Here is a firm that advises its clients to buy securities, even as its analysts value them of doubtful quality, and its proprietary trading desk shorts the very same securities. It manages to convince gullible firms to hire it as an IPO advisor, prices the IPO cheap and gifts its preferred institutional investors and high value clients some easy money, and all this at the unsuspecting firm's expense and for a fee! At a global level it even offers its services to help a country hide the true extent of its indebtedness by constructing a web of shells and transactions. 

It is alleged to have influenced the decision-making process (and the decision-maker himself personally) at the peak of the sub-prime crisis, by extracting several suspiciously favorable decisions, which helped it survive the crisis. They include a costly bailout of insurance giant AIG, whose CDS insured Goldman's investments in risky CDO securities, which transferred $13 bn of tax payer cash to shore up a liquidity strapped Goldman, among others. Its CEO goes on to become arguably the most important actor in the global financial markets, apart from determining the financial policy of the world's largest economy. Now comes this blatant case of the simplest market manipulation, price rigging. And nobody has gone to jail for any of these "transgressions", and looks likely too!

Not only does it get away with all this, it also becomes one of the biggest beneficiary from the global financial crisis. Two of its biggest long-time rivals, Bear Stearns and Lehman Brothers, are eliminated, not to speak of hundreds of smaller ones, and many others weakened, including its leading competitors like Citibank, leaving Goldman with even greater concentration of market power. It was allowed to covert from an investment bank to a bank holding company, thereby giving it access to both the cheap liquidity window of the Fed if it was credit stressed as well as the FDIC deposit insurance guarantee. The half a decade of extra-ordinary monetary accommodation has enabled a handful of big banks like Goldman to access plentiful cheap capital to leverage up their trading strategies. Finally, these same banks have become systemically riskier and therefore even more too-big-to-fail, thereby enjoying an implicit subsidy that enables it to access capital at cheaper rates than otherwise.

Update 1 (11/9/2014)

Barry Ritholtz points to the failure of state and federal prosecutors in the US to press criminal charges and indict bankers accused of various financial market fraud - expediting foreclosures by fabricating documents, market manipulation through price rigging in commodities market and interest rate fixing, fraudulent mortgage origination/underwriting, manipulating derivatives market by blocking information flows and growth of exchange trading, money laundering, cooking books thereby committing accounting fraud, etc. In this context, he highlights the bankers ability to prevent indictment by entering into financial settlements with prosecutors. Since the fines, however large, gets paid out of the shareholders capital and does not pinch the managers, there is limited incentive to avoid such payments. In other words, shareholders bailout the bankers from being prosecuted for their criminal actions.