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Government watchdog to probe SEC's Goldman lawsuit


Pedestrian pass the offices of Goldman Sachs in London April 20, 2010. REUTERS/Toby Melville
Pedestrian pass the offices of Goldman Sachs in London April 20, 2010. REUTERS/Toby Melville

By Robert MacMillan

NEW YORK (Reuters) - A U.S. government watchdog will investigate the Securities and Exchange Commission's fraud lawsuit against Goldman Sachs Group Inc, the SEC's inspector general said on Friday, while two shareholders sued the bank over the fraud allegations.

"We need to understand what led to the decision to announce or bring the case on (April 16,)" SEC Inspector General David Kotz said on Fox News.

Republicans have implied political motives were behind the SEC's decision to sue Goldman over its marketing of a batch of subprime mortgage debt.

The SEC denied that politics was part of their decision or timing. "We've made clear we don't coordinate our enforcement actions with political organizations and look forward to cooperating with the inspector general's investigation," SEC spokesman John Nester said.

Earlier on Friday, Republican lawmaker, Darrell Issa, sent Kotz a letter asking him to probe the circumstances around the SEC's Goldman case.

The dominant U.S. investment bank, beset by media and public questions about whether it duped investors, also is preparing for a U.S. Senate hearing next Tuesday that will feature its Chief Executive Lloyd Blankfein and the bond trader Fabrice Tourre, the sole Goldman employee whom the SEC has accused of fraud. Tourre is on paid leave. The bank has said it had concluded that Tourre had done nothing wrong.

In Washington, a Senate investigations subcommittee hearing revealed disputes in a series of emails between Goldman and ratings agencies over their ratings of Goldman's Abacus debt products.

It was Goldman's marketing of a batch of subprime mortgage loans called Abacus 2007-AC1, that led the SEC to charge it and the 31-year-old Tourre with fraud.

The SEC said that Goldman did not tell investors that billionaire hedge fund manager John Paulson was betting against the product, which he also helped structure.

FRUSTRATION

One email from a Standard & Poor's official to colleagues expressed frustration at having to push Goldman to improve its Abacus products, or "trades," as the email calls them.

"I can't tell you how upset I have been in reviewing these trades. And not only have these trades consumed tons of my time, but they have generated an enormous amount of stress since I'm the one that has to break the news that these trades are wrong ... which makes us look like idiots," it said.

The emails also showed that S&P, a unit of McGraw-Hill pushed back against Goldman's request for the agency to depart from its standards in rating an Abacus product.

Other emails revealed S&P's lack of confidence in an unnamed S&P employee who rated some Abacus products, saying the employee "neglected to catch other important criteria issues ... or ignored them after being told to correct them."

The investigations subcommittee also subpoenaed Goldman as early as June 30, 2009, long before the SEC sued, according to a congressional aide. The panel also named Tourre as a witness for its April 27 hearing before the SEC charged him.

A Moody's Corp official told a U.S. Senate panel that he would have liked to have known that billionaire hedge fund manager John Paulson was shorting the Abacus product when Moody's was rating it.

"I did not know that. I'm fairly sure that my staff did not know either" about Paulson's involvement, said Eric Kolchinsky, the former Moody's executive.

Goldman also may have used the Abacus product to unload other complex bonds that it created, according to a deal document obtained by Reuters. Some of the proceeds from the sale of the Abacus 2007-AC1 notes were used to buy a $192 million portion of another security that Goldman also arranged and marketed in early 2007.

A Goldman spokesman declined to comment.

Goldman has said it did nothing wrong in marketing the Abacus deal.

SHAREHOLDERS SUE

In complaints filed in New York State Supreme Court in Manhattan, Robert Rosinek and Morton Spiegel accused Goldman executives and its board of breaching their fiduciary duties by letting the bank enter transactions involving risky collateralized debt obligations tied to subprime mortgages.

They said the defendants "engaged in a systematic failure to exercise oversight" over Abacus, did not properly vet how the transactions were structured and marketed, and failed to ensure that Goldman did not represent "conflicting interests."

Goldman's troubles could worsen in Britain, meanwhile. British Prime Minister Gordon Brown said during a campaign stop in Coventry that any bank found guilty of wrongdoing might have to pay millions of dollars in compensation.

Separately, a Goldman Sachs director told hedge fund founder Raj Rajaratnam about Berkshire Hathaway's $5 billion investment in Goldman before the deal became public, the Wall Street Journal reported on Friday, citing an unnamed source.

Federal prosecutors notified Goldman director Rajat Gupta in a letter that they had intercepted his phone conversations with Rajaratnam, the Journal reported.

Gupta's attorney said in a statement on Friday that his client had done nothing improper.

The founder of Galleon Group hedge fund was arrested last October 16 and is fighting criminal charges that he traded illegally in 12 stocks. He is free on bail.

(Reporting by Kim Dixon, Dan Margolies, Karey Wutkowski and Rachelle Younglai in Washington, Sakthi Prasad in Bangalore, Grant McCool and Matthew Goldstein in New York and Matt Falloon in Coventry, England. Writing by Robert MacMillan in New York; editing by Carol Bishopric)

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