Why did Fabrice Tourre’s security exist?
I refer to the security that he helped to create while he worked at Goldman Sachs. A jury concluded on Thursday that he misled investors, as the Securities and Exchange Commission alleged.
The important thing to understand is that the securitization at issue in no way helped to create capital for anything. It was a pure gamble. One side bet that the mortgage market would collapse. The other bet it would not. I don’t see any difference between that and betting on a football game.
Consider the mortgage securitization market. First, there are mortgages, which help people buy homes. Those mortgages are packaged in a securitization and sold to investors. Some investors buy tranches that give them low yields with little chance of loss. Others get tranches with higher yields, but will lose their principal if enough borrowers default. The money put up by the investors helped to finance home buyers, which is the kind of thing a financial system should do. (It did it badly, but that is not the issue here.)
The next level of security packaged a bunch of tranches from different deals and sold securities based on those assets. By raising money to finance tranches in the first level of securitizations, it indirectly helped to finance home buyers.
Note that nobody needed to bet against either of those securitizations. The money put up by the buyers was going to home owners, or at least to those who had previously lent to those buyers.
But the securitization that Mr. Tourre helped to create was “synthetic.†It did not raise money that went, directly, or indirectly, to homeowners or to those who had lent money to them. Instead it picked a bunch of tranches from previous securitizations â€" tranches that no one involved in this deal had to own â€" and fashioned a new securitization in which one set of investors bet those securities would work out O.K., and another set bet they would not.
It proved to be a wonderful bet for one side, and a horrid one for the other. Something similar happened in the Super Bowl last year, when betters who were smarter, or luckier, than others bet that Baltimore would defeat San Francisco. They made money, bettors on the other side lost money, and the bookies in the middle took a cut.
If people want to gamble, I see no particular reason to stop them. Sports betting is legal in Nevada. But I don’t think that banks that have access to insured deposits should be using that money to put together a sports betting book and taking out the bookie’s cut, whether or not they accurately explain the wager to the customers.
