A Public Exit From Goldman Sachs Hits a Wounded Wall Street

Wall Street traders come and go all the time, but few have quit with the flair of Greg Smith. The way he resigned from Goldman Sachs, and what he had to say, could reignite a debate over how much Wall Street has changed in the wake of the financial crisis.

Very little, he said in an Op-Ed article in The New York Times on Wednesday. Mr. Smith, a London-based executive director of the firm overseeing equity derivatives, decried a drastic change in culture at the firm since he joined it 12 years ago, with profits now coming before the interest of clients who, he wrote, are often derided as Muppets by people at Goldman.

Mr. Smith is saying publicly what others whisper privately, which is why his cri de coeur may be so provocative. Even on Wall Street — where making money is good, and making more money is better — a few shibboleths still command respect, including the one that the customer should come first, or at least second, not dead last. Since the financial crisis, in fact, nearly all the big banks have claimed to be client-centric as they seek to rebuild public trust.

At meetings at Goldman on the other hand, “not one single minute is spent asking questions about how we can help clients,” Mr. Smith wrote, “It’s purely about how we can make the most possible money off of them. If you were an alien from Mars and sat in on one of these meetings, you would believe that a client’s success or progress was not part of the thought process at all.”

“People who care only about making money will not sustain this firm — or the trust of its clients — for very much longer,” he warned.

A Goldman Sachs spokesman responded to the piece early Wednesday, saying, “We disagree with the views expressed, which we don’t think reflect the way we run our business. In our view, we will only be successful if our clients are successful. This fundamental truth lies at the heart of how we conduct ourselves.”

Mr. Smith’s criticism, much more than stories about bonuses or brickbats from the likes of Occupy Wall Street, could be especially painful for Wall Street now. Memories are still fresh of the Securities and Exchange Commission suit filed in April 2010 accusing Goldman of fraud, after it sold clients complicated mortgage backed securities that later soured, and never mentioned that it had bet against them.

The parade of senior Goldman executives who testified before Congress after the case arose seemed to put a public face on what had been a broader sense of distrust of Wall Street in the aftermath of the financial crisis, focusing ever more attention on a firm whose patriarchs had been adamant about having high standards.

Wall Street, of course, has always sought profits — but if greed were to be countenanced, it should be long-term greed, not short-term greed, in the words of former chairman of Goldman Sachs, Gus Levy. With long-term greed, money was made with clients, not from them.

Veterans of Goldman and other top-tier firms say there was a time when long-term greed was the order of the day, at least publicly, and it benefited firms and their partners if not enormously, then certainly generously. But over the last 25 years, as that incentive structure metamorphosed, longtime observers say, Wall Street has been remade in ways that Mr. Levy would hardly recognize.

The shift in incentives has followed the evolution of the business itself, industry insiders and other observers said. Partnerships, where the leaders of the firm had their own fortunes on the line, became publicly-traded giants. Proprietary trading evolved into a Midas-like source of money, challenging investment banking and client relationships. And with a free hand thanks to Washington, investment banks could take on ever more risk, amplified by debt.

“When these firms changed from partnerships to public companies, the ethos changed dramatically,” said Charles M. Elson, a professor of corporate governance at the University of Delaware. “The notion of client loyalty went out with the old structure. And as these became public companies, clients looked for the cheapest deal, and the firms looked for as many clients as possible.”

With the rapid growth of proprietary trading beginning the 1980s, where firms used their own capital to make bets, a short-term mentality came to dominate firms, according to Mr. Elson. “You make a much bigger buck on a transaction than on the long-term relationship,” he said. “You have profiteers as opposed to advisers.”

Compensation followed. Before 1990, pay for the chief executives of financial firms were on par with those of chief executives of the largest traded companies, or even slightly lower.

By 2005 the pay was roughly 250 percent bigger on average, said Ariell Reshef, a professor of economics at the University of Virginia.  Broadly speaking, between 1980 and 2005, bonuses and salaries in finance increased 70 percent more than average pay elsewhere.

To be sure, longtime bankers say it is not like short-term greed was absent in the past. It has been around since traders gathered under a buttonwood tree and founded the New York Stock Exchange in 1792. But the astounding size of Wall Street’s biggest firms — and the fortunes to be made — have altered the calculus.

“I think there was plenty of skullduggery going on,” said Jerome Kohlberg Jr., who worked at Bear Stearns for 21 years before leaving to found Kohlberg Kravis Roberts in 1976 with Henry R. Kravis and George R. Roberts. Still, the trend has accelerated in recent years, according to Mr. Kohlberg.

“When I first started on Wall Street, it was a small group and everyone knew everyone else,” he said. “If you stepped out of line, people would not do business with you.”

Not everyone agrees with Mr. Kohlberg’s view. Anticipating arguments that are likely to be made in the coming days, one billionaire hedge fund manager who insisted on anonymity argued that conflicts have always come with the territory, and that clients should be sophisticated enough to know that. “These aren’t dumb people,” he said.

The key, he said, is to anticipate the conflicts, and if need be, use them to your advantage. “Find the one that has the biggest conflict and get him on your side,” he said. “You want somebody who understands both sides.”

“The guy on both sides of the equation will find a deal to get the deal done,” he added. “Is he getting his bread buttered on both sides? Who cares. Just get the deal done.”

Wall Street could now pay a steep price for short-term thinking, experts said, even if salaries and behavior have not caught up with public disillusionment. Hemmed in by new regulations, the big banks are being forced to give up proprietary trading. Fewer graduates of elite Ivy League schools are flocking to careers in finance. And the anger is mounting, whether it is the activist types behind Occupy Wall Street, or increasing distrust even among the most affluent consumers.

Over all, the percentage of people who have little or no faith in the fairness of investment companies rose to 41 percent in 2011 from 26 percent in 2008, according to Yankelovich Monitor 2011. Only credit card companies, corporate chief executives, the federal government, and lawyers fared worse. Even banks and insurance companies did better.

Nor is the outrage a matter of populist revolt. The feelings were identical in households whether they earned $100,000 or $50,000.

While Mr. Smith’s career at Goldman is over, he insisted it was not too late for his former firm and the rest of Wall Street.

“Make the client the focal point of your business again,” he wrote. “Without clients you will not make money. In fact, you will not exist. Weed out the morally bankrupt people, no matter how much money they make for the firm. And get the culture right again, so people want to work here for the right reasons.”