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By Root 3553 0

in which Goldman Sachs didn’t change—and this had as much to do with its success as the many ways in which it did change. Goldman Sachs practiced risk management with an unblinking rigor that no other firm on Wall Street came close to matching—not even J.P. Morgan, which had practically invented modern risk management. The firm most certainly did not take VaR—or any other modern risk model—as gospel; a former risk manager says the phrase “The model says so” was potentially a firing offense. When it came to managing risk, Goldman had what can only be called a kind of humility, a belief that the model was only as good as its inputs and that faith in the model had to be balanced with the informed judgment of human beings. Goldman understood that risk could bring rewards, yes, but it could also bring disaster.

There were several specific things that the firm did differently than its peers. Goldman was a stickler for using what’s known as mark-to-market accounting, meaning that it marked its books, every day, at the price at which securities traded in the market. CFO David Viniar traced this discipline to the old Goldman Sachs partnership. “People came into the partnership at a certain value, and they left the partnership at a value,” he’d say. If a trader said there wasn’t a price for a particular position, Goldman might force him to sell a little bit, just to see what the price was. There was no pretending.

Goldman also carefully monitored its access to cash, which is critical for an investment bank. Unlike commercial banks, which have government-insured deposits, investment banks are wholesale funded, which basically means they have to constantly raise capital in the markets. If the markets shut down for an extended period of time, they’re dead. That’s why Goldman kept what was basically a piggy bank full of short-term securities—$40 billion in 2004—set aside in case of emergency. “We asked how much money, under the most adverse conditions, could disappear on any given day,” Paulson writes in his memoir. That was very different from the VaR standard for calculating potential daily losses. VaR assumed normal markets rather than adverse ones.

There were also several squishier aspects to Goldman’s approach to risk management. At most Wall Street firms, the back office—made up of the controllers and risk managers and accountants—is a kind of no-man’s-land. Back office employees don’t produce revenue, are paid less, and are generally treated like inferiors. But at Goldman, this organization was called “the Federation,” and it was powerful. It included a separate group of controllers who independently checked traders’ marks. At its helm sat Viniar, who himself sat on Goldman’s privileged thirtieth-floor executive suite, right next to Paulson and Blankfein.

But the single most important thing was this: at Goldman, people talked to each other, all the time, about what was going on in the firm and on the trading desks—both the good and the bad. Viniar once joked that his teenage son said to him about Gary Cohn—Blankfein’s longtime consigliere, who became chief operating officer and president in 2006—“You two are like camp counselors. You talk to Gary more than me or Mom.” Says a former trader who once had to confess big losses to Cohn: “I told him bad stuff and he handled it. If the guy who ran a desk told the president of most other firms the news I gave Gary, he wouldn’t handle it.” Information didn’t get stuck in silos, and because Blankfein came from the trading business, he could have a conversation with traders and understand it. Those simple acts—a trader telling his manager that something was wrong, the executive understanding what the trader was saying—would turn out to be disconcertingly rare among Wall Street’s highly paid and supposedly accomplished elite.

A mile or so north of Goldman’s Wall Street offices, in a high-rise complex a stone’s throw from Ground Zero, stood the headquarters of another venerable Wall Street institution, one with a name that, to most Americans, was far better known than Goldman Sachs.