Exclusive: Abacus might have had other benefits for Goldman

A Goldman Sachs sign is seen at the New York Stock Exchange, April 21, 2010.

NEW YORK (Reuters) - Goldman Sachs Group (GS.N) may have used a subprime mortgage-linked security that is the focus of a U.S. civil fraud lawsuit against the bank to unload other complex bonds it created, according to a deal document obtained by Reuters.

Some of the proceeds from the sale of Abacus 2007-AC1 notes were used to buy a $192 million portion of another security that Goldman also arranged and peddled in early 2007.

The 196-page prospectus for Abacus reveals that the initial collateral for the deal's so-called funded notes was supposed to include a big chunk of another security underwritten that same year by Goldman Sachs called Greywolf CLO 1.

Goldman arranged and marketed the Greywolf CLO for Greywolf Capital Management, a Purchase, New York, investment management firm founded by a group of former Goldman distressed bond traders.

Derivatives consultant Janet Tavakoli said the use of Abacus funds to buy Greywolf assets may have posed a conflict of interest for Goldman. The Greywolf link could prove problematic if institutional buyers were not told Goldman underwrote the Greywolf deal, or did not know that Goldman had relevant information about the quality of the Greywolf portfolio, she said.

"Goldman's paw prints were all over this," said Tavakoli. "There is a conflict of interest between investors and underwriters who are putting their own deals into CDOs."

The Abacus prospectus said a copy of the Greywolf CLO prospectus was also provided to prospective investors. But the Greywolf offering document was not attached to the Abacus prospectus obtained by Reuters.

A Greywolf spokesman declined to comment. A Goldman spokesman also declined to comment.

The U.S. Securities and Exchange Commission claims Goldman misled institutional investors in the Abacus deal by failing to disclose that hedge fund manager John Paulson was shorting the synthetic collateralized debt obligation and also had help to pick the underlying portfolio of 90 mortgage-backed securities.

Goldman has said it did nothing wrong in marketing the Abacus deal and has begun mounting a vigorous defense.

The SEC has not raised any allegations about the use of the Abacus proceeds to buy Greywolf CLO assets.

TIMBERWOLF

The Greywolf CLO deal closed on January 18, 2007, roughly four months before Goldman began looking for institutional investors to sink money into Abacus, which tracked the performance of a bundle of mortgage bonds-backed, mostly subprime loans.

Greywolf CLO, meanwhile, was a $502 million collateralized loan obligation, a complex bond backed by debts often used to finance corporate buyouts. The deal was one of the first complex securities put together and managed by Greywolf, which later went on to do a $1 billion CDO backed by mostly subprime assets called Timberwolf 1.

The Timberwolf deal also was underwritten by Goldman Sachs. In March 2007, Goldman sold a $300 million slug of the Timberwolf deal to the now-infamous Bear Stearns hedge funds, which was the single biggest investor in the transaction, said people familiar with the now-defunct hedge funds.

A week after closing the deal with Bear, Goldman began marking down the value of Timberwolf securities, said people familiar with the situation but who declined to be identified because they still work on Wall Street.

Greywolf, which manages about $700 million in assets, is led by Jonathan Savitz, who helped run Goldman's distressed trading desk before leaving to start the firm in 2003. In August, Greywolf lost one of its key employees when partner Greg Mount died. At Goldman, the 44-year-old Mount had helped build the investment firm's CDO business.

The Abacus prospectus does not disclose from whom the $192 million "tranche" of the Greywolf deal was being purchased. The Abacus prospectus said the decision to purchase the Greywolf assets was made by Goldman Sachs Capital Markets, a division of the investment firm.

But it is not unusual for an underwriter of a security to retain some of the deal on its balance sheet until it is able to sell it.

In fact, Goldman claims it lost more than $90 million on the Abacus deal because it had retained a portion of the notes, some of which were purchased by Germany's IKB Deutsche Industriebank AG IKBG.DE.

The Greywolf deal was given a Triple A rating by Moody's Investors Service in February 2007. The Abacus deal also got a Triple A rating from Moody's.

But Greywolf fared better.

In March 2009, Moody's downgraded the security. But a few months later, the Greywolf deal saw new life when Morgan Stanley (MS.N) repackaged some of its pieces into a new $130 million CLO.

By contrast, the Abacus deal was dead by summer 2008.

The SEC said institutional investors lost $1 billion on the deal, while Paulson's hedge fund, Paulson & Co, made $1 billion from shorting the transaction.

Securities regulators have said there is no indication that anyone from Paulson did anything wrong in the Abacus transaction.

(Reported by Matthew Goldstein, editing by Matthew Lewis)