Interesting articles in todays’ NYT about AIG (“Behind Insurer’s Crisis, Blink Eye to a Web of Risk“) and Goldman Sachs (“Wall St, R.I.P: the End of an Era, Even at Goldman“), and their compensation. AIG is a huge company (116,000 employees) that is even today mostly profitable. But a small unit (less than 400 employees) got into the financial risk taking business, believing it was all profit and no risk. Quoting the unit’s CEO:
“It is hard for us, without being flippant, to even see a scenario within any kind of realm of reason that would see us losing one dollar in any of those transactions.”
The fallacy of that should have been obvious, especially to any scenario thinker. If you ever hear a CEO say that, run don’t walk, and sell. The average compensation for the units employees was $1 million per year. I guess people will believe any nonsense from the CEO if they get paid that much.
The Goldman Sachs story is also interesting, and relatively uplifting. Goldman had a been a partnership until they recently went public, which seems to have given them a clearer sense of rationality since it was the partners’ money at stake, not some remote shareholders, and therefore they had a clearer understanding of risk, and didn’t delude themselves like AIG. But the compensation is still outlandish: 30,000+ Goldman employees make an average of $600,000 per year. The CEO is the highest paid Wall St. tycoon at $68 million in 2007, so the standard deviation is huge. But it’s clear why they were called Goldmine Sachs.
I hope some great books will be written about this crisis in the coming years. I’m especially reminded of When Genius Failed: The Rise and Fall of Long-Term Capital Management, Roger Lowenstein, which details the story of the last time hedge funds almost brought down the US economy. Another reminder of how important it is to study history, and try to learn from it…