Customary practice is sometimes used as a reason for not providing transparency. Lack of transparency makes the management of conflicts of interest almost impossible and it is particularly dangerous for employees if they question established customs and practices. The market makers defence in the Goldmans case is an example of what appears to have become customary. Custom and practice don’t make an action right but they make it very difficult to question what can sometimes be glaringly obvious problems.
Money feeds greed and that is why transparency must be an all important principle in managing conflicts of interest. Ah! but what about commercially confidential information such as might be in the possession of the market maker? Transparency forces the re-examination of the status quo and reduces the potential for howls of protest when things go seriously wrong. What of unintended consequences? They too can be managed in a culture of openness and transparency. It is not idealistic piffle – it is essential for fair dealing.
The central tenet of the charge against Goldmans is that there was no transparency because of the lack of disclosure on conflicts of interest. These related to how the Abacus portfolio was chosen and the failure to correct the assumptions made on the positions being taken on the securities. Goldman’s defence appears to be that there was no requirement for such transparency as they were simply market maker to the transaction and did not need to disclose their knowledge of the conflicts that existed. I suspect we will never know the court’s view on the charges or the validity of the defence, as the prospect of a settlement through the payment of a fine seems the likely course that events will take, if history is anything to go by. The financial establishment understands the well trodden path these allegations take – ‘a cost of being in the business’ is how I once heard it described by a former boss – and that is why lessons are never really learnt because the precedents are few and far between and rarely affect the individuals at the helm of the business. It leads to the turning of a blind eye in favour of the potential for monetary success and reward.
As the chief operating officer of a funds business I fought a hopeless battle over the pricing of a security which was priced differently in two funds we managed. The principle that it could not be right to have different prices for the same security was not considered relevant – it was not deemed necessary to adjust the price because the impact on the net asset value was not considered material. I argued that pricing should be based on the principle that a security at a valuation point should bear the same price across all the funds in the range or be disclosed but this was considered to be unnecessarily pedantic and not required by the rules. Would transparency and disclosure have made a difference in the absence of a uniform price? To my mind they would have because the investor would have been in a position to form their own view on the matter. It should not have mattered whether the difference was material or not. Disclosures in our current environment are often done reluctantly and when made are viewed with suspicion – sometimes because of their rarity and often because they are made under compulsion and lead to questions of what else should be known. In large organisations people do not like to admit to mistakes – the blame cultures that exist are career limiting and the structures can themselves give rise to conflicts of interest and lead to horrible failures of supervision. In an organisation with deep pockets – you pay the fine in settlement without admission of guilt and move on – and corporate memories being notoriously short – mean that expediency and greed often cause history to repeat itself.
Criminal charges can of course alter the landscape as happened with Andersens over Enron (even though that charge was subsequently reversed on appeal) but this needs to be driven by the need to enforce regulations rather than to make political capital.
It all serves to highlight how difficult it can sometimes be to challenge the status quo and why transparency on conflicts is so important to fairness in financial market operations.
©Jaitly LLP