Steven Davidoff used a Dealbook column to defend the investment banks behavior in selling collaterized debt obligations (CDOs) filled with bad mortgages. While he does make an important point, he glides over some clearly improper and possibly illegal behavior on the part of the banks.

Davidoff notes that the CDOs in question were sold to people who certainly should have been sophisticated investors and who were clearly warned that Goldman Sachs and other banks were not acting as investment advisers in the deal. In other words, the buyers were people managing hundreds of millions or even billions of dollars in assets, who were given explicit warnings that the sellers were not recommending the assets as a good investment.

Given that these people were paid six or even seven figure salaries, it was reasonable to expect that they would do their homework and independently seek to evaluate the quality of the assets they were buying. If they did not independently assess the quality of the assets then they are the ones most immediately to blame, not the sellers.

However, Davidoff does glide over a key misrepresentation in at least one case. The synthetic CDO Abacus, that Goldman Sachs sold to its clients, was put together by John Paulson who was shorting the CDO. In this case, Goldman presented itself to its clients as a neutral party not, as was actually the case, an agent for the person shorting the CDO. This was a fundamental misrepresentation.

If there were similar misrepresentations in the other cases Davidoff notes, then the banks deserve to be held at least partially responsible for the losses incurred. Sophisticated buyers should do the homework for which they are being paid very generous salaries. However this failure does not excuse misrepresentations that border on fraud by the sellers.

There is one other important point in this story worth noting. All the bad news from the housing bubble was already baked in at the point where these deals were made. The bubble peaked in the summer of 2006 and was headed down by the start of 2007. The economic collapse would have occurred regardless of whether or not these CDO deals took place. These deals simply affected the distribution of the losses among the big players. They did not cause the losses to occur.

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