In a testy exchange at today's Senate grilling of Goldman Sachs executives, Sen. Carl Levin, D-Mich., confronted a former Goldman trader with an e-mail in which another former Goldman executive described a mortgage-backed deal as "sh**ty."
The transaction in question was Timberwolf Ltd., a $1 billion collateralized debt obligation holding pieces of other CDOs. In an e-mail to Daniel Sparks, then head of Goldman's mortgage desk, Thomas Montag, Goldman's former head of sales and trading, called a set of mortgage-linked investments sold by the firm as "one shi**y deal," according to an e-mail that Sen. Levin quoted. Within five months, Timberwolf lost 80 percent of its value.
"Do you think it was a sh**ty deal?" Levin asked Sparks, one of seven Goldman executives appearing today. Sparks said he did not recall the e-mail, and did not directly answer the question.
"If you can't give a clear answer to that one Mr. Sparks then we're not going to get any clear answers from you today," Levin said.
In his opening remarks, Levin called the allegations against the Wall Street firm "deeply troubling."
"The evidence shows that Goldman repeatedly put its own interests and profits ahead of the interests of its clients and our communities," Levin said. "Its misuse of exotic and complex financial structures helped spread toxic mortgages throughout the financial system. And when the system finally collapsed under the weight of those toxic mortgages, Goldman profited from the collapse."
Speaking publicly for the first time since the Securities and Exchange Commission brought fraud charges against him and his employer, Goldman Sachs, the trader at the center of the case, Fabrice Tourre, strongly asserted his innocence, insisting repeatedly to a Senate panel that he didn't mislead clients in a controversial mortgage derivative product the SEC claims was designed to fail.
"I deny -- categorically -- the SEC's allegation," Tourre said. "And I will defend myself in court against this false claim."
Tourre was among the first of a number of Goldman executives to testify before the Senate panel today amid accusations that the firm helped create the housing bubble that preceded the worst financial crisis since the Great Depression of the 1930s.
The subcommittee said Monday that its 18-month investigation found that Goldman helped create the housing bubble by selling securities backed by risky subprime mortgage loans and then profited off that bubble's bursting by secretly betting against the market.
"Goldman continues to deny that it shorted the mortgage market for profit, despite the evidence," Sen. Levin, the chairman of the panel, said, kicking off the session. "Why the denial? My best estimate is that it's because the firm cannot successfully continue to portray itself as working on behalf of its clients if it was selling mortgage-related products to those clients while it was betting its own money against those same products or the mortgage market as a whole," said Sen. Levin.
"It's gambling, pure and simple, raw gambling," said Sen. Claire McCaskill, D-Mo. "They're called synthetic because there's nothing there ... you think you're so smart? Any street gambler would never place a bet with a bookie or a house that has the record that this committee has uncovered."
Goldman, Levin said, made billions by betting against the market and didn't disclose the bets to their customers who were buying their securities.
"I think people who buy bonds and securities have a right to expect that the people who are selling those bonds want them to succeed," Levin said, and by betting against the market it helped create, Goldman "dumped a lot of toxic mortgaged-backed securities and mortgage-related securities into that market. It helped to create a huge housing bubble with the synthetic instruments, these exotic instruments that they created. And so, there's some real responsibility here, it seems to me."
Goldman's profits rose considerably after the financial collapse in 2007, just as other investment banks saw a drop.
In prepared testimony released Monday, Blankfein defended the firm and said the allegations are false.
"We didn't have a massive short against the housing market and we certainly did not bet against our clients. Rather, we believe that we managed our risk as our shareholders and our regulators would expect," he said.
Blankfein said while Goldman did find the last two years of the financial crisis to be profitable, it lost about $1.2 billion "from activities in the residential housing market."
Blankfein will be walking a fine line: defending his firm's actions while acknowledging public anger over its actions.
In his prepared remarks the 31-year old trader Tourre explains what happened with the ABACUS 2007-AC1 transaction that is the basis for the SEC's fraud charges.
Tourre states that the transaction "was not designed to fail," and that Goldman lost $100 million on it. He also claims that ACA – one of the investors in the deal – "had sole authority" for picking the securities that went into the portfolio, and that ACA was informed that the hedge fund Paulson & Co. was expected to make a negative bet on it.
"They're in crisis mode," William Cohan of Fortune Magazine and author of "House of Cards," told "Good Morning America's" George Stephanopoulos today. "He's trying to be conciliatory. He's trying to finally tell the American people that he's grateful for what they did but, they're in a very difficult position."
Levin's committee has forced Goldman to turn over 2 million pages of documents that Levin said proves his case and shows that Goldman overall made $3.7 billion from the financial crisis.
"We're going to ask them some very tough questions and hope that they give us candid answers," he said.
Goldman Sachs isn't exactly used to the hot seat. It may be the most successful investment bank in history, and the most politically connected. Goldman executives have served on Capitol Hill and in the White House, and as treasury secretaries for Democrats and Republicans. They've also given massive amounts of political donations, much of it to Democrats.
"Goldman Sachs is a powerhouse on a level all together different from a vast majority of political players and they've given $31 million over the last 20 years," said Sheila Krumholz, executive director at the Center for Responsive Politics.
Goldman, Krumholz said, was the second largest contributor to the Obama campaign last year, giving nearly $1 million.
"They're trying to make sure they have a foot in the door for the time when they need it, such as now," she added. "They're not going to waste this moment and pull back on their efforts in Washington. I expect that we'll see growth, if not a surge, in both contributions and lobbying once these numbers are available."
Why Tourre Is Talking
The hearing comes a little more than a week after the Securities and Exchange Commission filed a civil lawsuit against Goldman, alleging that the firm defrauded its investors.
The SEC's claim states that Goldman Sachs structured a collateralized debt obligation (CDO) -- an instrument tied to the performance of certain securities -- that was secretly designed to fail and that the firm failed to disclose that to its investors. Paulson & Co., the hedge fund that helped pick the investment's portfolio, later made $1 billion by betting against the deal.
Goldman has denied the charges. Tourre, now an executive director in Goldman's London office, is the only individual defendant named in the SEC's suit.
With civil charges pending against him, it might be smart for Tourre to keep his mouth shut or plead the Fifth when he appears before a Senate subcommittee along with his fellow Goldman Sachs executives -- but that likely won't happen.
"It would be a public relations nightmare for Goldman for him to take the Fifth," said John Coffee, a professor at Columbia Law School who frequently testifies before Congress on securities law. "Their style is to come out fighting and say they did nothing wrong, and taking the Fifth is seen as admission of guilt by the public."
Goldman E-mails Figure in SEC, Senate Investigations
Coffee and others say that Tourre will feel pressure to speak up and defend himself and Goldman because the investment giant is likely covering his legal bills and because, with so much negative publicity surrounding him, the 31-year-old trader would be hard-pressed to find employment elsewhere.
"He's not very bankable right now," said white collar criminal defense lawyer Charles Miller. "I doubt if anybody would hire him, no matter what happens" at the hearing.
Tourre made headlines earlier this month after the SEC's lawsuit revealed an e-mail from him that seemed to indicate he didn't fully understand the complex deals he was making.
"More and more leverage in the system, The whole building is about to collapse anytime now...Only potential survivor, the fabulous Fab(rice Tourre) ... standing in the middle of all these complex, highly leveraged, exotic trades he created without necessarily understanding all of the implications of those monstruosities (sic)!!!" Tourre wrote to a friend in January 2007, according to the SEC's complaint.
The Senate subcommittee has released additional e-mails related to the deal Tourre worked on in recent days.
In an e-mail exchange between Tourre and Daniel Sparks, the former head of Goldman's mortgage department, in early 2007, the two employees wrote, "Gerstie and I are finishing up engagement letters with ACA and Paulson for the large RMBS COO ABACUS trade that will help Paulson short senior tranches." "Still reputational risk."
Levin said the documents show that Goldman knew that Paulson had designed the portfolio and bet against it.
Blankfein addressed the SEC lawsuit in his prepared testimony.
"While we strongly disagree with the SEC's complaint, I also recognize how such a complicated transaction may look to many people," he said. "To them, it is confirmation of how out of control they believe Wall Street has become, no matter how sophisticated the parties or what disclosures were made. We have to do a better job of striking the balance between what an informed client believes is important to his or her investing goals and what the public believes is overly complex and risky."
Goldman's Shorts 'Saved the Day'
Levin said that the e-mails recovered by the committee contradict Goldman's claims that it did not make a directional bet on the mortgage market. In fact, Levin said, the e-mails show that the bank had made a "tactical decision" to short the market, a decision that ultimately helped it rake in a hefty profit.
In early 2007, Goldman e-mails reveal, the firm decided to take short positions -- in other words, to bet against -- the mortgage market, after the firm had sold billions of dollars worth of securities comprised of risky loans that would soon go sour.
In a 2007 performance review, Goldman's Josh Birnbaum, former managing director of the structured products group, wrote, "I concluded that we should not only get flat, but get VERY short. ... Much of the plan began working by February as the market dropped 25 points and our very profitable year was underway."
An e-mail from Blankfein in early 2007 asked, "Could/should we have cleaned up these books before and are we are doing enough right now to sell off cats and dogs in other books throughout the division."
As 2007 went on, the housing market worsened -- and Goldman's profits grew. The downturn, said Goldman's chief financial officer David Viniar in an e-mail in July 2007, "tells you what might be happening to people who don't have the big short."
"Short mortgages," Viniar e-mailed to Blankfein, "saved the day."
The more the loans backing the securities they had sold started to sour, the more Goldman profited.
In October 2007, a presentation by chief risk officer Craig Broderick said, "Starting early in '07 our mortgage trading desk started purring on big short positions ... and did so in enough quantity that we were net short, and made money (substantial $$ in the 3rd quarter) as the subprime market weakened."
Said Levin, "Goldman profited while the market dropped, taking many Goldman clients with it, not to mention the damage that was done to the U.S. economy."
The firm's gains left its employees gloating.
"The 2007 year is the one that I am most proud of to date ... extraordinary profits (nearly $3bb to date)," wrote Michael Swenson, now a managing director at Goldman, in a performance review. "[D]uring the early summer of 2006 it was clear that the market fundamentals in subprime and the highly levered nature of [collateralized-debt obligations] was going to have a very unhappy ending."
The Goldman e-mails, Levin said, fly in the face of the bank's public statements that it did not make "a significant amount of money in the mortgage market."
"There is no doubt they made huge money betting against the market in 2007," Levin said, arguing that the bank had made $3.7 billion in all.
Over the course of the panel's 18-month investigation into Goldman, which has included two subpoenas, committee aides said they had obtained around 2 million documents. Asked if the panel had met with witnesses such as Tourre over the weekend, an aide would only say that they have met with a number of Goldman executives over the past few weeks.
Levin said Monday he would wait until after the hearing to decide whether to refer the panel's findings to the Justice Department and the SEC for possible criminal charges.
Today's showdown with Goldman Sachs comes just as Congress is considering the most sweeping new regulations for Wall Street since the Great Depression. This, the bill's proponents hope, will create an urgency to get financial overhaul through Congress.
"We've got to eliminate conflict of interest -- that really goes to the heart of the problem here -- is to whether you can be both selling securities to people at the same time you're betting against those securities," Levin said. "People really want reform here, they want to correct these abuses and I hope that Congress has the willpower and backbone to do it."
But experts are unsure whether legislation will actually change the way Wall Street firms operate.
"I predict that after the legislation is passed, Goldman will quietly, or not so quietly, find a way to settle. Whether they'll change the way they do their business, why do scorpions sting?" Cohan said. "I don't think that there's going to be much changing going on unless you really get at the incentives of what drives Wall Street's behavior."
ABC News' Huma Khan contributed to this report.