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I don't understand some crucial details of these deals. If anyone can fill in the gaps I would really appreciate it. From my understanding Goldman Sachs typica

I don't understand some crucial details of these deals. If anyone can fill in the gaps I would really appreciate it. From my understanding Goldman Sachs typically makes money selling these kinds of derivatives through sellers fees. i.e. They are not actually backing the debt behind the derivative, they are just selling it and collecting a fee (typically, around 0.3%). If this is true then the deal simply looks like a bad one for the buyers, but not in any unusual way. They purchased derivatives linked to Apple's stock price the day before the earnings were made public. They bet of good news and they lost. The Goldman deals that were fraudulent were around Goldman recommending their customers buy derivatives they themselves owned and were furiously offloading. Or they were selling derivatives and then betting against those derivatives through AIG. This article would make sense if we could demonstrate that Goldman actually stood to gain from Apple's precipitous stock price fall. But that connection isn't obvious to me. I would love to hear from someone with real knowledge about these things. Also if anyone can pick holes in what I wrote about I would appreciate that too.

niggler 14y ago
The way these deals work is simple: 1) For some reason, they have an outsized position that they want to reduce. Circumstances include: - Proprietary trading group wants to liquidate a position without having to go to the open market - Firm obtains a large position as part of a block deal. In this case, I suspect they engaged in a deal with a hedge fund that had a large exposure to AAPL and wanted to get out. GS would have acquired the position at a significant discount (say, 5% below market price). 2) They need to find clients to soak up the exposure. To do this, they construct investment products that allow them to offset the exposure without having to directly move the inventory. Offering shares directly would have to be essentially free, but products can be sold with some extra fees. To summarize, they have a long position in AAPL and taking the opposite side of a derivatives trade helps balance the net position. Note that if the clients made money then you wouldn't hear about the deals. It's only because clients lost that we are hearing about this.
- yummyfajitas 14y ago
  Indeed - market making deals like this are how GS makes money. On an individual deal, GS may make or lose money. But in aggregate, GS is only after the aforementioned 5% - the goal here is to sell liquidity for 5% and close the position as fast as possible. Further, the fact that a GS analyst said something is irrelevant. The analyst is an independent adviser to GS's brokerage clients, and is not informed what the prop trading dept is doing. In fact, it would be illegal for the prop traders to tell Bill Shoppe what they are doing, or for him to give them advance notice of his analysis.
- thingylab 14y ago
  No. If you have a block of shares, there are much better ways to get rid of them. These deals typically take a long time to structure, market and initiate. Besides, you really don't need a lot of shares to hedge this type of product. You need options that are typically (at least initially) deep-ish out of the money and so have little delta.
  - fmstephe 14y ago
    Could you please elaborate on this comment? Thanks.
    - niggler 14y ago
      If you had a long position of 100 shares, you could reduce your risk exposure buy selling a call option or buying a put option. (each contract has a notional exposure of 100 shares) Buying a put option requires an upfront payment but you will receive money if the price falls below a specified price (the "strike price"). On the other hand, you receive money when selling a call option but may have to pay later (or hand over your shares) if the stock price jumps above the strike. The problem is that this mechanism only works because there's a counterparty willing to do the trade. You can see the option premium (cost) for a variety of strikes on most financial sites (e.g. https://www.google.com/finance/option_chain?q=NASDAQ%3AAAPL https://www.google.com/finance/option_chain?q=NASDAQ%3AAAPL) As more people buy put options, the price of the put option goes up. As more people sell calls, the price of the call option goes down. If you have a small position (say, 1000 shares), your trade wont move the options market much, but if you have a large position your trades will affect the market makers (they also have a book and are looking to reduce their exposures profitably as well)
Patient0 14y ago
I found this article quite informative: https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=newssearch&cd=1&cad=rja&ved=0CC0QqQIoADAA&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FSB10001424127887323854904578263941939124314.html&ei=ktoHUdWWI8fSkwWBhYCACQ&usg=AFQjCNF8WWOTjj0__G-pAuifU8xe8yEtPA&sig2=rFlVmGFvYKQuuVLiClYjIA&bvm=bv.41524429,d.dGI https://www.google.com/url?sa=t&rct=j&q=&esrc=s&... edit: changed to non-paywall link (thanks "mef")
- mef 14y ago
  Non paywall link https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=newssearch&cd=1&cad=rja&ved=0CC0QqQIoADAA&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FSB10001424127887323854904578263941939124314.html&ei=ktoHUdWWI8fSkwWBhYCACQ&usg=AFQjCNF8WWOTjj0__G-pAuifU8xe8yEtPA&sig2=rFlVmGFvYKQuuVLiClYjIA&bvm=bv.41524429,d.dGI https://www.google.com/url?sa=t&rct=j&q=&esrc=s&...

niggler 14y ago

The way these deals work is simple: 1) For some reason, they have an outsized position that they want to reduce. Circumstances include: - Proprietary trading group wants to liquidate a position without having to go to the open market - Firm obtains a large position as part of a block deal. In this case, I suspect they engaged in a deal with a hedge fund that had a large exposure to AAPL and wanted to get out. GS would have acquired the position at a significant discount (say, 5% below market price). 2) They need to find clients to soak up the exposure. To do this, they construct investment products that allow them to offset the exposure without having to directly move the inventory. Offering shares directly would have to be essentially free, but products can be sold with some extra fees. To summarize, they have a long position in AAPL and taking the opposite side of a derivatives trade helps balance the net position. Note that if the clients made money then you wouldn't hear about the deals. It's only because clients lost that we are hearing about this.

yummyfajitas 14y ago
Indeed - market making deals like this are how GS makes money. On an individual deal, GS may make or lose money. But in aggregate, GS is only after the aforementioned 5% - the goal here is to sell liquidity for 5% and close the position as fast as possible. Further, the fact that a GS analyst said something is irrelevant. The analyst is an independent adviser to GS's brokerage clients, and is not informed what the prop trading dept is doing. In fact, it would be illegal for the prop traders to tell Bill Shoppe what they are doing, or for him to give them advance notice of his analysis.
thingylab 14y ago
No. If you have a block of shares, there are much better ways to get rid of them. These deals typically take a long time to structure, market and initiate. Besides, you really don't need a lot of shares to hedge this type of product. You need options that are typically (at least initially) deep-ish out of the money and so have little delta.
- fmstephe 14y ago
  Could you please elaborate on this comment? Thanks.
  - niggler 14y ago
    If you had a long position of 100 shares, you could reduce your risk exposure buy selling a call option or buying a put option. (each contract has a notional exposure of 100 shares) Buying a put option requires an upfront payment but you will receive money if the price falls below a specified price (the "strike price"). On the other hand, you receive money when selling a call option but may have to pay later (or hand over your shares) if the stock price jumps above the strike. The problem is that this mechanism only works because there's a counterparty willing to do the trade. You can see the option premium (cost) for a variety of strikes on most financial sites (e.g. https://www.google.com/finance/option_chain?q=NASDAQ%3AAAPL https://www.google.com/finance/option_chain?q=NASDAQ%3AAAPL) As more people buy put options, the price of the put option goes up. As more people sell calls, the price of the call option goes down. If you have a small position (say, 1000 shares), your trade wont move the options market much, but if you have a large position your trades will affect the market makers (they also have a book and are looking to reduce their exposures profitably as well)

Patient0 14y ago

I found this article quite informative: https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=newssearch&cd=1&cad=rja&ved=0CC0QqQIoADAA&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FSB10001424127887323854904578263941939124314.html&ei=ktoHUdWWI8fSkwWBhYCACQ&usg=AFQjCNF8WWOTjj0__G-pAuifU8xe8yEtPA&sig2=rFlVmGFvYKQuuVLiClYjIA&bvm=bv.41524429,d.dGI https://www.google.com/url?sa=t&rct=j&q=&esrc=s&... edit: changed to non-paywall link (thanks "mef")

mef 14y ago
Non paywall link https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=newssearch&cd=1&cad=rja&ved=0CC0QqQIoADAA&url=http%3A%2F%2Fonline.wsj.com%2Farticle%2FSB10001424127887323854904578263941939124314.html&ei=ktoHUdWWI8fSkwWBhYCACQ&usg=AFQjCNF8WWOTjj0__G-pAuifU8xe8yEtPA&sig2=rFlVmGFvYKQuuVLiClYjIA&bvm=bv.41524429,d.dGI https://www.google.com/url?sa=t&rct=j&q=&esrc=s&...