Which Williams College graduate made the most money for his employer in 2007? Excellent question! Chase Coleman ’97 probably did best overall (other suggestions?) but, since he owns his own firm, he is ineligible for this contest. My guess is Michael Swenson ’89.

The front page of the Wall Street Journal reports (hat tip to Rahul Bahl ’09 of the Purple Bull Investment Club):

The subprime-mortgage crisis has been a financial catastrophe for much of Wall Street. At Goldman Sachs Group Inc., thanks to a tiny group of traders, it has generated one of the biggest windfalls the securities industry has seen in years.

Note the use of the word “tiny.” The first question to ask for any news story with anonymous sources is: Who is leaking and why? The word “tiny” suggests that it is those traders themselves. They want the world to know that their small group made Goldman Sachs a lot of money.

The group’s big bet that securities backed by risky home loans would fall in value generated nearly $4 billion of profits during the year ended Nov. 30, according to people familiar with the firm’s finances. Those gains erased $1.5 billion to $2 billion of mortgage-related losses elsewhere in the firm. On Tuesday, despite a terrible November and some of the worst market conditions in decades, analysts expect Goldman to report record net annual income of more than $11 billion.

First question that occurs to every finance professional: “Four billion!! How much did they get paid?” If this group were running its own hedge fund, they would receive around 20% of this profit or $800 million. Not bad! Paulson & Co made a killing with similar bets this year. But these Goldman traders aren’t running their own hedge fund. They work for Goldman and manage capital that Goldman provides. They won’t get paid anywhere near 20%. But there is a big range between 0% and 20% of $4 billion. Where the group ends up depends on their power and prestige within Goldman.

Goldman’s trading home run was blasted from an obscure corner of the firm’s mortgage department — the structured-products trading group, which now numbers about 16 traders. Two of them, Michael Swenson, 40 years old, and Josh Birnbaum, 35, pushed Goldman to wager that the subprime market was heading for trouble. Their boss, mortgage-department head Dan Sparks, 40, backed them up during heated debates about how much money the firm should risk. This year, the three men are expected to be paid between $5 million and $15 million apiece, people familiar with the matter say.

Not bad! Yet, for a finance professional, absolutely insulting! I make you $4 billion and all I get is $10 million?!? That’s just — hold on while I get out my trusty HP-12C0.00025 0.25% of the total profits. The injustice! Damn the Man for his exploitation of the common worker.

And who are these “people familiar”? Recall our previous discussion of ace banker Jimmie Lee ’75. Only a handful of people have the inside knowledge to tell reporter Kate Kelly this story. Are the traders themselves making a public pitch for more money? Are they getting their story out so that they can leave Goldman and start their own hedge fund? Is someone else within Goldman trying to make them look good or bad? Tough to know, but the leakers have an agenda. I guess B. Now that Goldman is a public company, it is no longer as tight-lipped as before. But, still, you don’t go blabbing to a Wall Street Journal reporter unless your bags are packed.

Mr. Swenson, known as Swenny on the trading desk, is a former Williams College hockey player with four children and an acid wit. A veteran trader of asset-backed securities, he joined Goldman in 2000. In late 2005, he helped persuade Mr. Birnbaum, a Goldman veteran, to join the group. Mr. Birnbaum had developed and traded a new security tied to mortgage rates.

Mr. Swenson and Mr. Sparks, then No. 2 in the mortgage department, wanted Mr. Birnbaum to try his hand at trading related to the first ABX index, which was scheduled to launch in January 2006. Because securities backed by subprime mortgages trade privately and infrequently, their values are hard to determine. The ABX family of indexes was designed to reflect their values based on instruments called credit-default swaps. These swaps, in essence, are insurance contracts that pay out if the securities backed by subprime mortgages decline in value. Such swaps trade more actively, with their values rising and falling based on market sentiments about subprime default risk.

Messrs. Swenson and Sparks told Mr. Birnbaum the ABX was going to be a hot product, according to people with knowledge of their pitch.

Those “people with knowledge” again!

Last December, David Viniar, Goldman’s chief financial officer, gave the group a big push, suggesting that it adopt a more-bearish posture on the subprime market, according to people familiar with his instructions. During a discussion with Mr. Sparks and others, Mr. Viniar noted that Goldman had big exposure to the subprime mortgage market because of CDOs and other complex securities it was holding, these people say. Emerging signs of weakness in the market, meant that Goldman needed to hedge its bets, the group concluded, these people say.

Viniar and his buddies could be the leakers. He wants to claim credit (and get paid) for Swenson’s success. In fact, most of the profit is due to his making a “big push” for a “more-bearish posture.” Swenson, Sparks and Birnbaum were just implementing his ideas, or so his pitch would go at bonus time.

The timing was nearly perfect. Goldman’s bets were focused on an ABX index that reflects the value of a basket of securities that came to market in early 2006, known as the 06-2 index. Goldman bet that the riskiest portion of that index — a sub-index that reflects the value of the slices of the securities with the lowest credit ratings — would plunge in value. This January, as concerns about subprime mortgages grew, that sub-index dropped from about 95 to below 90. The traders handling the ABX trades were sitting on big profits.

Like other Wall Street firms, Goldman weighs its financial risk by calculating its average daily “value at risk,” or VaR. It’s meant to be a measure of how much money the firm could lose under adverse market conditions. Because the ABX had become so volatile, the VaR connected to the trades was soaring.

Goldman’s co-president, Gary Cohn, who oversees the firm’s trading business, became a frequent visitor, as did the firm’s risk managers. More than once, Mr. Sparks was summoned to Mr. Blankfein’s office to discuss the market. Goldman’s top executives understood the group’s strategy, say people with knowledge of the matter, but were uncompromising about the VaR. They demanded that risk be cut by as much as 50%, these people say.

Messrs. Swenson and Birnbaum, however, argued that the mortgage market was heading down, and Goldman should take full advantage by maintaining large short positions, people familiar with the matter say.

“People familiar” sure do get around. First, note that success in finance is not just a matter of brains. It also requires a certain megalomaniac ambition, a deep-in-your gut certitude that you are right and the rest of the market is wrong, a competitive spirit that yearns for an honest accounting of the winners and losers in the game of (business) life, a comfort with wagering millions of dollars on your vision of the future. I don’t think that playing hockey gave this to Swenson. Instead, that drive made him a better hockey player.

Led by Mr. Lehman, the co-head of the structured-products trading group, Goldman began selling off the majority of its CDO holdings. The losses pushed the mortgage group into the red for the second quarter.

By then, the subprime-mortgage market was cratering. Dozens of lenders had filed for bankruptcy protection, and legions of subprime borrowers were losing their homes. At Bear Stearns Cos., two internal hedge funds that had invested in risky portions of CDOs and other securities were struggling. Merrill and Citigroup Inc., among others, were sitting on billions of dollars in depreciating mortgage holdings.

Although it had become more expensive to wager against the ABX index, Messrs. Swenson and Birnbaum got a green light to once again ratchet up the firm’s bet that securities backed by subprime mortgages would fall further. In July, the riskiest portion of the index plunged.

The structured-products traders were working long hours. Mr. Swenson would leave his home in Northern New Jersey in time to hit the gym and be at his desk by 7:30 a.m. When Mr. Birnbaum arrived from his Manhattan loft, they’d begin executing large trades on behalf of clients. There was no time for breaks. They took breakfast and lunch at their desks — for Mr. Swenson, the same chicken-and-vegetable salad every day from a nearby deli; for Mr. Birnbaum, an egg-white sandwich for breakfast, a chicken or turkey sandwich for lunch.

Ahh! The glamorous world of finance. You, too, young Eph can grow up, move to the big city with its bright lights, and eat lunch at your desk. Yet don’t these details — porn for the finance set — give away the game? How many people know what Swenson has for lunch each day? Of those, how many would talk to a Wall Street Journal reporter without his permission/encouragement?

Goldman pressed forward with its bearish bets on the ABX index, people familiar with its strategy say. In October, Goldman’s mortgage unit moved from one downtown Manhattan office building to another. Despite their stellar year, traders were crowded into a low-ceiling floor where 150 employees shared one small men’s room.

In late November, Mr. Sparks summoned Messrs. Birnbaum and Swenson to his office for separate visits. He thanked each trader for what he had done for the firm.

Golly gee whillikers, Mr. Sparks! Now that I have been thanked for my contributions to Goldman Sachs, I can die happy! Or, I can tell the whole story to the Wall Street Journal and use the resulting publicity to help launch my own hedge fund. Let me ponder this for a few minutes . . .

But there has been no time to relax. Two weeks into Goldman’s new fiscal year, credit markets are looking bleaker than ever. Already, analysts are trimming their estimates of how much Goldman and other Wall Street firms will make in the coming year.

Boo-hoo! No time to relax for those poor Goldman Sachs millionaires! Doesn’t your heart just bleed?

Read the whole article for a very plausible description of life in the world of high finance. Williams ought to invite Swenson to give a talk on campus.

Exercise for the reader: How do Swenson’s (and Goldman’s) activities make the rest of us better off?


1) Thanks to Seth below for pointing out my math error. Good thing that I don’t (try to) make a living in quantitative investing! [Seth is better than you in math and comedy. — ed.]

2) Sad, pathetic Amherst grad Bess Levin has gone from jealously over Erin Burnett’s beauty to envy about Micheal Swenson’s ’89 wealth. Maybe stealing some books from Sawyer would cheer her up. See also smart commentary from Deal Journal.

3) The answer to the reader exercise is that, by betting against subprime and the related products, Swensen and traders like him prevented the credit bubble from growing even more inflated and thereby more destructive. We are still looking at a nasty recession (maybe) in 2008, but the current carnage would have been much worse if the the bubble has inflated for another year or two. By helping to prevent that, Swensen et al both made money for themselves and caused our marvelous free market to allocate capital more efficiently than it would have in the absence of their trading. The more money-hungry, successful traders that there are, the more efficient is capital allocation.

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