Goldman Sachs and the BRICs- Concept Investing and Regional Hegemony

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Goldman Sachs and The BRICs: Concept Investing and Regional Hegemony

Tim Tolka

April 8th 2013

SRP

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Introduction

By grouping Brazil, Russia, India and China together in the BRICs concept in 2001, Jim

ONeill, the former Chairman of Goldman Sachs Asset Management (GSAM), played a large

role in increasing financial flows to and between these rising powers. In order to make his case,

ONeill and his colleagues Dominic Wilson and Roopa Purushothaman (2003) pointed to the

favorable population demographics and sustained economic growth, predicting that these

countries would rival or even eclipse the Western industrialized countries economies dominant

share of global wealth by 2050. The markets recognized the prescience of his observations, and a

host of investment banks and hedge funds formed their own BRICs funds, fueling a wave of

investment flows into the BRICs often through special purpose entities (SPEs) based in offshore

financial centers (OFCs). They do this in order to avoid problematic regulations such as the

Securities Act of 1933 and the Investment Company Act of 1940 (GS website). All of the risks

are disclosed on a webpage that precedes entering into the website, which can only be accessed

by qualified investors and advisors outside of the USA. Again, this is customary, especially in

the context of alternative investments, and GS could not be much more transparent without

dissuading investors entirely. As a market-maker, GS creates special purpose vehicles (SPVs),

such as the unspecified private vehicles ONeill (2011, 206) mentioned among his personal

investments in China. SPVs such as the Real Estate Investment Trust (REIT), Real Estate

Mortgage Investment Conduit (REMIC), or Financial Asset Securitization Investment Trust

(FASIT), as well as other conduits have been created by lenders in the financial services industry

in order to give investors exposure to certain risk adjusted returns.

During the decade from 2000-2010, $70 billion dollars flowed into the BRICs economies

and BRICs equities grew four times faster than Americas equities in the Standard and Poors

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500 Index (Patterson and Chen 2011). Goldman Sachs Group (GS) has since opened offices in

the BRICs, in a significant rearrangement of attention, resources, and strategy, through which

80% of GS growth is expected to come from the BRICs, according to Lloyd Blankfein, the Chief

Executive (Meyer and Choudhury 2012). This refocusing of exposure and market surveillance

took place against the backdrop of the dotcom bust and the subprime mortgage crises in the

USA. GSAM, as a massive entity within the GS superstructure, was perfectly placed to channel

capital into profitable investments into the currencies, commodities markets and banking sector

of BRICs economies (GS 2013) during the period from 2003-2007, which were the years of

strongest productivity in the BRICs with India and China growing at 9% (Sharma 2012, 38),

Brazil at 4%, and Russia at 7.5% (World Bank). Contrasted against the average growth from

1980, the strongest of the BRIC countries is China, which has grown at an average rate of 9.8 per

cent, followed by India at around 5.8 per cent and Russia also at about the same level as India.

Brazil grew at a relatively slower rate of 2.4 per cent. However, an important element of the

BRICs thesis is that these markets have undergone structural changes such that past economic

performance is not as reliable as a guide in the case of the BRICs, on which more below.

Shifting productive capital to the semi-peripheral nations when there is a crisis in the core

is a trend long noted by analysts and economic historians (Worth and Moore 2009, 15). This

strategy was not lost on investment bankers and stockbrokers, who, as essentially stateless

investors, were in a prime position to act as the vanguard of this shift of the markets trajectory.

However, as an investment concept, the BRICs serves a hybrid purpose; it is partially a

marketing slogan but also predicated on economic research. Many analysts have suggested that it

is more marketing than economics (Sharma 2012). Pierre Delage, writing for Forbes, asserted,

the BRICs was invented as an upside down speculative acronym by bankers who like to create

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concepts to market to clients, (Delage2012). Albert Edwards, from Socit Gnrale joked that

BRICs is becoming known as a Bloody Ridiculous Investment Concept (Also Sprach Analyst

2011). Defending the BRICs concept, others such as the International Monetary Fund (IMF)

(Gardner 2011), Organization for Economic Cooperation and Development (OECD 2010,

Moulds 2012) and the Center for International Governance Innovation (CIGI 2011) have

maintained that the BRICs growing share of global productivity is undeniable and part of a

fundamental shift from a unipolar global economy to a multipolar global economy.

As the growth of the BRICs has recently slowed, Goldman has come out with two more

investment concepts, the Next Eleven (N-11) and the MIST (Mexico, Indonesia, South Korea,

and Turkey), which suggests more marketing than content as well as symbolically sounding an

alarm that the BRICs decade was coming to a close, which was presaged by the flight of $15

billion in 2011 alone (EPFR quoted in Patterson and Chen 2011). Despite the fact that restless

capital often nests in US assets when bubbles burst in Emerging Markets (EM), the Eurozone

debt crisis and the slow recovery of the US economy has put the hegemony of the West in a state

of contingency (National Intelligence Council 2012), which although not new (Zizek, Laclau,

Butler 2000), offers support to the contention that new regional groupings among emerging

markets and new regionalisms (Soderbaum 2004), are hastening the decline of Western

hegemony.

This research charts the origins and development of the BRICs concept within and

employed as an investment strategy by Goldman Sachs. The research will begin with Jim

ONeills creation of the BRICs concept, how he elaborated and defended his forecasts, and how

he has reacted to the BRICs economic data over the years. We will also focus on the activities

and organization of Goldman during the years since the emergence of the BRICs, as well as how

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the firms marketed its premium products and services to the market. In order to establish the

validity of the concept as a regional grouping, we will examine the evolving productive relations

between the BRICs countries as a bloc and between the BRICs and the core Western economies.

I will then discuss the future of BRICs as a bloc and as an investment concept, as well as that of

the N-11 and MIST in light of the results of this analysis.

Research Questions

1. What are the purposes, content, and implications of the investment concepts the BRICs

(Brazil, Russia, India, China), the Next-11, and the MIST (Mexico, Indonesia, South Korea,

Turkey), as formulated and promoted by Goldman Sachs?

2. Will this mediating position as a market maker and money mover allow Goldman Sachs

Group to influence or even govern the economic performance of the BRICs economies?

3. Does the role of hedge funds like those of Goldman Sachs Group ultimately benefit the BRICs

economies or make them more unstable?

Objective

This research contributes to the debate on the political economy of the BRIC countries

and on the role of the financial services industry, especially investment funds, in the context of

globalization and crisis management. It contributes also to the literature on hedge fund strategy,

sovereign wealth funds, foreign direct investment (FDI), and critical globalization studies.

Hypothesis

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The BRICs concept has had manifold ramifications, but one that receives less focus is

how the BRICs, the N-11, and MIST form a type of portfolio wh ich Goldman Sachs specializes

in; concept investing. Although not all analysts have accepted the BRICs and its descendants

uncritically, a critical analysis of the rise and subsequent fall of the BRICs may bring to light the

inner mechanisms at work, in the research of Goldman Sachs Global Economics (GSGE), in the

investment flows to and between the BRICs, and in the recent economic outcomes for the BRIC

countries. The argument will be made that Goldman Sachs and other market actors fueled FDI

into BRICs funds for long-term investment, while simultaneously maximizing revenue in the

short-term with high frequency trading (HFT) with positive feedback investment strategies,

which is a natural yet excessively optimistic market response to positive economic reports that

are usually followed, according to finance scholarship, by destabilizing rational speculation (de

Long et al. 1990). Then the effects of this process for BRICs economies in the long-term will be

discussed with reference to regulation, regionalism, and global macroeconomic stability.

Research Strategy

The project will proceed with careful reading of GSGE theses on the BRICs,

investigation of various strategies, vehicles, and entities within Goldman Sachs Asset

Management (GSAM), as well as documentary research of investment and economic

publications, and filings with the Securities and Exchange Commission (SEC). The concepts

utilized in this research will be developed in the introduction, in which theorists of critical

International Relations theory, such as William I. Robinson and Jan Aart Scholte, as well as

research from Foreign Policy and the Center for CIGI, will be used in order to conceptualize the

nature of the global economy and the relations between rising economic powers and the major

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Western nations. The conclusion will revisit key literature from International Relations theory in

order to discuss them with regard to the logic and conclusions of experts and economists from

the financial services industry.

Literature Review

In order to elucidate the ways and means by which investment banks and hedge funds, in

this case, Goldman Sachs Group (GS) and its subsidiary GSAM, have attempted to mold rising

powers, this research will make use of conceptual frameworks from the literature on

globalization, specifically dependency theory, world systems theory (WST), and critical

globalization studies. Dependency theory and world systems theory popularized the concepts of

the core, the semi-periphery, and the periphery, which was useful for theorists to characterize the

structural relationships and differences between wealthy, middle income, and poor countries. In

this context, it is compelling to pose the BRICs as semi-peripheral countries, particularly in their

their role as a safety valve for the core economies when crises arise, as Wallerstein observed

(Wallerstein 1979, quoted in Owen and Moore 2009, 17). Furthermore, it is informative to

consider the mix of peripheral and core activities of development and commerce which

characterize their economies and how core activities tend to be concentrated in certain areas, as

in Bangalore, India or the Southern coast of China. However, the classic critiques by Ernesto

Laclau (1977) and others of world systems theory (WST) that it was reductionist, deterministic,

and state-centric, seem to be reinforced by the concept and dream of the BRICs. The newly

industrialized countries (NIEs) of the semi-periphery, according to WST, is a repository for the

cores hegemonic expansion, but also at times a regional hegemon in its own right, as the

particular cases of China and Brazil demonstrate (Romero 2007). Some argue that the concept of

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the semi-periphery is, like much of the original dependency theory, consigned to the dustbin,

(Owen and Moore 2009, 19), because of its mechanical recasting of the complex relationships in

our world. However, world systems theorists have also offered partial revisions and

supplementary concepts that may help us understand the forces at play in the BRICs

regionalization initiatives, such as the internationalization of the state (Cox 1987),

transnationalization of classes (Robinson 1998), transnational hegemony (Robinson 2005,

Hveem in Soderbaum and Shaw 2003, 85-87), new constitutionalism (Gill 2008), and reverse

dependency (Nederveen Pieterse 2000), which shed light on processes inherent within

globalization, but which also challenge the explanatory power of these concepts, not only but

partially because of the heterogeneity and dynamic interaction between regionalism and

globalization. Nevertheless, it will be useful to refer to the economic activities, market

sophistication, and rising middle classes of the semi-periphery against the poverty and

underdevelopment of the periphery and the de-industrialization, asymmetric exclusion, and

disembedded markets now characteristic of the core (Worth and Moore 2009, 45).

The formulation by Jan Aarte Scholte (2006, 61) of transplanetary activities and

connections between people. Transplanetary activity consists of transmissions, transactions, and

linkages on a global scale, which are instantaneous, making distance irrelevant, and

simultaneous, reducing friction and transaction costs (61). For Scholte, transplanetary

communications and commerce gives rise to the concept of supraterritoriality as a defining

characteristic of globalization, the global-ness or globality of globalization. In the case of GS,

the transplanetary networks consist of linkages between financial, regulatory, and political elites

that supervise and facilitate FDI. The planetary network of GS and GSAM, extending from

concrete holdings of real estate and facilities to the cyber realm of securities and databases,

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enables a uniquely dynamic form of market surveillance and global arbitrage, from which GS

harvests revenues. As with the technology industry in general, neither regulators nor the legal

system are able to keep pace with the innovations in anti-competitive behavior made possible by

new technologies like high frequency trading (HFT), about which more shortly.

GS embodies the concept of stateless transnational capital William I. Robinson (1996,

1998) developed. Robinson focused on the process of globalization as Scholte did, although with

a more critical lens. In contrast to the benefits and challenges of globalization, Robinson is

drawn to the costs for labor during the transition, from a global capitalist economy to a global

capitalistsociety,(Robinson 1996, 15, emphasis in the original). He writes:

This involves breaking up and commodifying non-market spheres of human activity,namely public spheres managed by states, and private spheres linked to community andfamily units, local and household economies. This complete commodification of sociallife is undermining what remains of democratic control by people over the conditions oftheir daily existence, above and beyond that involved with private ownership of theprincipal means of production (15).

Here Robinson hits on a principal strategy of GS, taking temporary or medium-term ownership

of public infrastructure, either through its lending/distressed assets arm, called Special Situations

Group (SSG), which is housed in Fixed Income, Currencies, and Commodities (FICC), or

through the hedge fund arm, GSAM. Examples of this increasing commodification of what were

formerly national assets domestically owned have become commonplace in recent years. The

further step of commodification of social life is easily observed through GS investment in

Technology, Media, and Telecommunications division and the recent launch of GS social

impact bonds, as a vehicle to fund the rehabilitation of prisoners in New York State. The last

sphere for commodification, according to Robinson, is the community, family, and household

economies, which are now directly and indirectly affected by GS activity in the futures market

for food and energy commodities.

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Internationalization is another concept that has been criticized for its vagueness, but it is

defined as the process by which the elites begin to orient their thoughts and behaviors to the

world market (Cox and Sinclair 1996, 301 quoted in Brand 2007). The BRICs summits are

evidence of the intensification of this process, even if resolutions substantially affecting global

power distribution have yet to be accomplished in them. Internationalization, as defined above,

sounds similar to the competition state by Phillip Cerny (1997, 2005), in which the

macroeconomic policy has been shaped in order to attract stateless capital, although each of the

BRICs has a unique macro-environment to mediate the effects of transnational capital. Not every

BRIC is a competition state, if governance by market logic is the benchmark, but every BRIC

has been greatly internationalized. Hugo Radice explains the relationship between competition

states and transnational capital:

In certain circumstances and to a certain degree, there is an alignment of a given statewith a set of capitals firmly rooted in their territory... In other circumstances and degrees,states provide reciprocal support to capitals based in each others territories, as well ascoordinating the management of trade, financial flows and relative currency values(Owen and Moore 2009, 37)

The competition state represents a process of internationalization outward and liberalization

inward, because it aims to draw in and harness capital, which bolsters and allows the expansion

of the internationalization processes. This is especially true in the BRICs where from 2003-2007

equities grew at four times the rate of those of the USA (Patterson and Chen 2011), and where

domestic MNCs are keen to hedge against political uncertainty and other risks that have

increased in emerging markets as the risk of expropriation has decreased (Henisz and Zelner

2010), by investing in assets and securities in developed countries.

The commodification of social life and the strictures of neoliberal globalization on the

discretionary spending of nation-states are vividly captured by new constitutionalism of

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Stephen Gill (2000, 2008). For Gill, globalization can be characterized by its embrace of market

discipline as the new constitution of nation states and the three Cs of the power of capital,

credibility, consistency, and the confidence of investors (2000, 4). Gill explains the relationship

between the three, It involves the ways that public policy has been redefined so that

governments seek to prove their credibility, and the consistency of their policies according to the

criterion of the confidence of investors, (Ibid.). With the new constitution of disciplinary

neoliberalism, according to Gill, the policies of nations from EM are codified by the best

practices of the IMF and the institutional framework recommended by the World Bank, with

hedge fund managers as inspectors of the level of market discipline attained or missed. Gill

insists that new constitutionalism privileges large capital and the investor as the dominant

political subject, (Ibid.) by allowing these actors to define what policies are credible for nation

states. This aspect of globalization is replicated in global juridical networks, creating an

increasingly global constitutional jurisprudence, driven by information, enforcement, and

harmonization networks, according to Anne-Marie Slaughter (2004, 63).

Although the BRICs are highly dissimilar economically and politically, they have similar

demographics, are all experiencing rapid urbanization, and share a common desire to counter US

hegemony (Copelovitch 2010, 4). In these respects, the BRICs concept has been employed in an

attempt to harness the forces of regionalism, as a buffer against sweeping globalization

(Cooper et al 2008). This research will utilize the thinking of Fredrik Soderbaum (2003) on the

new regionalism, as well as Robinsons extension of this concept to international class

formation. In order to describe the proletarianization of the peasant class in the context of

globalization, reference will be made to Robert OBrien (Cooper et a l, Eds. 2008), William

Martin (1990), and Hveem (Soderbaum and Shaw Eds. 2003) on the separation and cleavage of

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labor and the elite with regionalization projects. I will argue that the BRICs concept, in the hands

of GS, is a global governance project which uses regionalization to its advantage, allowing the

firms hedge funds to buy, sell, and speculate on BRICs assets to the detriment of long-term

economic welfare and social equality among BRICs population.

This research will depend on finance theory with regard to investment strategies and

economic historiography on financial crises. Long et al (1990) argued that uninformed investors

could be expected to trade on positive feedback, which informed rational speculators anticipate,

causing a wave of destabilizing rational speculations that can bring down prices below

fundamentals. The authors referred to George Soros, who, in 1987, described the strategy which

had made him successful for two decades, betting not on fundamentals, but on future crowd

behavior, (Long et al., 2). Soros found just such an opportunity in the 1960s Real Estate

Investment Trust (REIT) booms, in which the truly informed investment strategy... was not to

sell short in anticipation of the eventual collapse of conglomerate shares (for that would not

happen until 1970) but instead to buy in anticipation of further buying by uninformed investors,

(2). The poor reasoning of uninformed or noise investors was explained as follows: Instead of

extrapolating price levels to arrive at a forecast of future prices, subjects switch to extrapolating

price changes. This switch to chasing the trend appears to be a virtually universal phenomenon

among the subjects that Andreassen and Kraus study, (Andreassen and Kraus 1988, cited in

Long et al. 4). The same results were replicated in the housing market before the market crash of

1987, and we saw it yet again in the subprime crisis, with new structured financial products,

REMICs and derivatives, which amplified the damage. This is consistent with literature from

finance theory on self-feeding speculative bubbles, back to Bagehot (1872), who wrote,

Owners of saving... rush into anything that promises speciously, and when they find that these

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specious investments can be disposed of at a high profit, they rush into them more and more,

(Quoted in Long et al 1990, 380).

This research will also draw on extant literature concerning hedge funds. Reca, Sias, and

Turtle (2012) argue that hedge funds engage in crowded trades and herding less than other

investors, although a recent study found empirical evidence that hedge funds exited the US

equities market jointly in the third quarter of 2007 (Ben-David, Franzoni, and Moussawi 2012).

However, despite instantaneous transplanetary communication, having a research office in the

region of investment improves profitability of hedge funds by 3.72% a year, because managers

can remain informed of the latest developments and engage in constructive shareholder activism

(Teo 2009). Some voices have heralded shareholder activism on the part of hedge funds to be a

potential boon to the global economy, while others argue that hedge funds weaken the integrity

of capital markets by victimizing developing countries with destabilizing speculation (Ghosh

1999, 2). By examining long-horizon stock returns around hedge fund activism documented with

filings by portfolio investors from 1993-2006, Greenwood and Schor (2007) argued that the

combination of hedge funds short investment horizons and their large positions makes M&A the

only attractive activity. As GS and its competitors have fought for underwriting and M&A deals

that become more sporadic, this kind of coercive activism would be a strategic advantage.

Sovereign Wealth Funds are an actor with rapidly rising clout in the global economy,

which has been intensified by the crisis in the West. Since this group of investors is a strategic

group for GSAM, this research will refer to the literature on SWFs. The oldest SWFs came about

as a result of the massive oil revenues of several Middle Eastern countries which created them in

order to avoid being damaged economically by dutch disease (ONeill 2007). The difference

between SWFs and Central Banks and other monetary authorities that have invested forex

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reserves since before SWFs, is that SWFs can invest in riskier assets (Mohan 2008).

Unsurprisingly, GSAM endeavored to cast them in a positive light, despite the aversion of many

Western policy makers, arguing that the existence and benefit of SWFs was another reason

voting rights in the multilateral arena should be reallocated in favor of the economic power of the

BRICs. Conceding that the scenario of a SWF relocating an American manufacturing company

in a foreign market for political reasons is scary, Mohan would agree with ONeill. Referring to

the stabilizing effect of investments by SWFs from China, Singapore and West Asia, Mohan

argued that SWFs benefit the global economy by giving nations a stake in each others

prosperity, (2008, 10). The concerns of critics of SWFs revolve around transparency and

disclosure, as well as whether state owned funds attract great managers and deliver good

performance, which would undermine the arguments of free market ideologues (Mohan 2008,

11). A legal framework to govern SWFs, recently articulated by Bassan (2012), is gradually

taking shape to address these issues, by some of the same manners described by Slaughter (2004)

as constituting the new world order of global governance, which makes use, not only of political

executives and foreign ministers, but also of lawyers, accountants, financial advisors, and

extensive vertical and horizontal government networks (Slaughter 2004, Backer 2011). These

insights are important to keep in mind when considering GS and the BRICs.

Credit easing in one market and overborrowing in another can be a destabilizing

combination (Cripps, Izurieta, and Singh 2011), especially when investors hold securitized,

diversified, and leveraged alternative investment portfolios through the shadow banking system,

where GSAM operates. Gennaioli, Shleifer, and Vishny argue, in a forthcoming paper, that the

shadow banking system is stable and welfare improving under rational expectations, but

vulnerable to crisis and liquidity dry-ups when investors ignore tail risks, (Gennaioli et al,

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forthcoming, 1). The authors construct a model of the shadow banking system where

intermediaries assemble riskless securities issued from safe projects that are pooled into

investment portfolios which satisfy investor demand when investors wealth is limited. However,

as investor wealth expands, intermediaries cannot generate enough collateral with safe projects,

and an intermediarys own risky projects cannot serve as useful collateral for riskless debt

because they are vulnerable to idiosyncratic risk. To meet the demand for riskless debt,

intermediaries diversify their portfolios by buying and selling risky loans to eliminate

idiosyncratic risk, (Gennaioli et al, 2-3). In EM or semi-peripheral countries, equity markets

offer a limited array of options, but there are a large number of medium-sized enterprises not

served by the local banking sector. With emanations of GS surging into BRICs markets, GSAM

could buy out diverse local projects with varying levels of idiosyncratic risk, in order to allocate

capital for the BRICs fund, pooling these assets together through securitization vehicles, such as

trusts, corporate entities, and limited liability companies associated with the firm (Goldman,

Sachs & Co. December2012, 29).

ONeills initial iteration,Building Better Economic BRICs, envisioned a more equitable

distribution of decision making power in the multilateral sphere, pointing out that the BRICs

contribution to global wealth was three times larger on a PPP basis and arguing that the BRICs

contribution to global wealth would exceed that of the the G7. The authors additionally predicted

that the BRICs weight in the global economy would grow, raising important issues regarding

the impact in the global economy made by the fiscal and monetary policies in the BRICs by 2011

(2001). Dominic Wilson and Roopa Purushothaman (2003) extended the thesis in several

respects. First, it provided a growth timeline until 2050, arguing that in less than 40 years the

BRICs could be bigger than the G6 in dollar terms and that the fastest growth would happen in

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the first 30 years. The could was contingent upon governance, Wilson and Purushothaman

specify: The key assumption underlying our projections is that the BRICs maintain policies and

develop institutions that are supportive of growth. Each of the BRICs faces significant challenges

in keeping development on track, (2003). Most prophetically, the authors predicted that the

weight of the BRICs in investment portfolios could rise sharply.

Goldman Sachs and the BRICs:

I. Goldman Sachs: A Hedge Fund or An Investment Bank?

Goldman Sachs Group (GSG) claimed $949 billion in assets in 2011 (SEC filing

September 2012, 4), yet the form and composition of this conglomerate of entities can be

difficult to map out. It is unclear how many GS entities these numbers does not include, but it

seems obvious that the revenues continue to be derived from trading. According to Abelson,

Multi-Strategy Investing (MSI), which is a multi-billion dollar proprietary investment platform,

and the Special Situations Group (SSG), a subsidiary of MSI, are not included in GS filings with

regulators (Abelson 2013). MSI invests across distressed assets, corporate credit, middle market

loans, and equities (Hedge Fund Journal 2012, 5). As with MSI and SSG, GSAM is most likely

an off-balance-sheet subsidiary entity, although GSG claims revenues from all of them in the

form of management, advisory, or incentive fees (SEC filing September2012, 87).

Therefore, GSG includes the hedge fund division composed of more than 150 entities

(ISDA 20) associated with GSAM, many registered in New York (SEC filing GS Global Alpha

Dynamic Risk Fund Offshore Ltd. 2012) and London (GS Dynamic Opportunities website), as

well as many others of unknown scale registered in Cayman Islands, Switzerland, Hong Kong,

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Singapore, Luxembourg (GS Global High Yield Portfolio from Bloomberg 2013), and various

other OFCs. Estimating the size of the extant funds which remain undisclosed is difficult,

because GSAM declares on its website that it has assets under management (AUM) recorded at

$716.1 billion (GSAM Worldwide website 2012), but most of the funds that contribute to this

number are secretive organizations with a small number of employees, officially unknown to the

SEC. One source attests to 20 hedge funds within the GSAM entity, (Stowell 2013, 133), but the

real number may be much higher. The managers of a few of the hedge funds are selected through

GS Alternative Investment and Manager Selection (AIMS), but this only accounts for $31 billion

of the total (GS website, IB Times 2009, Roy Linkedin.com profile).

The relationship of these entities to GSG is often that of third party investors or majority

shareholders, although a few of the firms hedge funds are fully funded by GSG profits (SEC

filing September 2012, 86). Although GS was the last firm to go public in 1999, the firm began

trading on its own account in 1991, when GS opened what would become the first in a series of

private equity funds carrying the Goldman Sachs brand name, (Ellis 2008 cited in McGee 2010,

125), which represented another transformation of the investment banking business model.

Suzanne McGee (2010) traced the evolution of the investment banking industry through the

1970s bear market and in the aftermath of Mayday, when the SEC ended the era of fixed trading

commissions in the stock market (59), which was accompanied by permutations in client

relationships and strategy. GS competitors were instrumental in motivating the firm to adopt the

new norms in the industry, focusing on products instead of services, and transitioning from a

client-centered to a client-competitive approach, described by McGee as a move from

intermediary to... becoming its own client (124). Although GS proprietary trading escalated

quickly, from a late entry into the market, to a $20 billion dollar fund allocation two decades

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later that even dedicated buyout firms such as KKR and Blackstone would find hard to m atch in

size, (125). GS hesitated to start its own hedge funds, worried that its clients would be outraged

if they found out that a GS hedge fund had shorted their company, but as Goldman alumni

started leaving the firm for hedge funds and its competitors dove into the business, GS again

followed suite, starting in the 2000s, and began to embrace the practices previously considered

taboo (124-126). After the tide shifted, McGee observes that, among the cognoscenti it had

become almost clich to refer to Goldman Sachs as a hedge fund disguised as an investment

bank, (126) because Goldman became highly dependent on private equity investing, its hedge

funds, and its proprietary trading business.

After the financial crisis, the legislative environment threatened to turn hostile to

proprietary trading, and because of this, the firms structure has been rearticulated and

recategorized. GS has even excised the word trading from the firms vocabulary. Gary Cohn,

the companys President, insisted in a 2009 interview, the vast, vast majority of our revenue and

income from our client facilitation, activities (Deogun 2009 cited by McGee 2010, 126). An

investment manager at GS quoted in the Economist referred to enlightened positioning around

client flow, which sounds like a euphemism for proprietary trading against clients. The reason

for the odd metamorphosis in language is in response to the restrictions of the Dodd-Frank Act,

which has caused the firm to remove trading from its vocabulary and reorganize its command

and ownership structure with respect to certain entities, such as Principal Strategies, and all the

positions of global macro proprietary trading desk in the Fixed Income Currencies and

Commodities (FICC) division (Goldman 2010), although the decline in the proportion of trading

revenue relative to the total is vastly less than the pronouncements of the firms CEO would lead

one to expect (Abelson 2013). According to Bloomberg, At Goldman Sachs, money

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management accounted for 14.9 percent of net revenue in the first nine months of 2012

compared with 11.5 percent in the same period two years ago, according to company filings.

Trading revenue at the New York-based firm was 55 percent of net revenue, down from 59

percent, (Bhaktavatsalam 2012). Nevertheless, although the names change, the strategies remain

the same.

GS is a market-maker for certain financial products which are elaborated by the work of

internal research analysts and sometimes surreptitiously shorted by investment entities related to

the firm, a practice publicly repudiated in the case of Abacus 2007 and Fabrice Tourre (SEC

2010), but inevitably an ongoing strategy in the industry (Corporate Europe Observatory 2010).

Susan McGee (2010) stresses that the shift from focus on services to focus on products is the

motivating factor behind the decline in importance of the client in the investment banking

industry. Among many frank revelations from industry insiders, she describes the evolution of

the industry:

Certainly, no one recognized the implications of the changes within the Wall Streetinstitutions that accompanied the shift in focus. The emphasis on products, rather thanservices, meant that relationships with clients became slightly less important with everymonth that passed. It took years, but by the end of the transition, few people weresurprised when Goldman Sachs CEO Lloyd Blankfein implied during his testimony onthe Hill and to FCIC [Financial Crisis Inquiry Commission] panelists that the firmssclients needed to do their own due diligence. Clients were on their way to becoming littlemore than counterparties (McGee 2010, 59).

The implied remark McGee refers to is this one:

Blankfein: Well, we have a responsibility to be open and to tell people what theyrehaving. But in our part of the market...

Chairman Angelides: Not to insure good product unto itself?

Blankfein: Good product that doesthat creates the exposure that these professionalinvestors are seeking. Right now you could buywe would underwrite distressedproduct as long as we disclose it, help somebody move that distressed product off their

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balance sheet, and give it to somebody, a sophisticated investor, knowing what theproduct did would give them that exposure. (FCIC2010, 109).

The kind of exposure he was alluding to was the loss-incurring kind, as was obliquely specified

later:

Blankfein: So to that extent we were played a part in making that market all of us as

syndicators doing what the capital markets do, which is give people access to capital. And so that

was a role that... (FCIC 2010, 109). These statements indicate that investment banking has

changed and that GS has gone with the tide, which has left the firms clients feeling victimized

because of undisclosed conflicts of interest.

GS has been a pioneer in managing conflicts of interest while it led the way in

exploiting moral grey areas, (Economist 2010) of the investment banking business. It is difficult

to distinguish cosmetic changes, as when the firm convened an ethics committee (Goldman

Sachs 2011) and issued a revised code of ethics (Goldman Sachs undated), from profound

changes in the GS business model, because the firm depends on the information it gleans from its

clients and the market, which gives rise to the conflict of interest concerning how it positions

itself with regard to the positions of its clients. In the past few years, GS has skirted allegations

of misconduct without admitting wrongdoing, and it has shuffled and re-branded entities,

vehicles, and staff in order to comply with regulatory changes. Although some of this reform is

made public by GS or by inquisitive financial journalists and market gossip, much of the

discussion within the bank regarding strategy or structure only emerges in the aftermath. GS is,

after all, a black box, and it is largely unknown how the firm makes its money ( Weisenthal

2009), although much potentially accurate speculation abounds (Bloomberg News 2008). The

positions taken by GS hedge funds and other proprietary entities is surrounded with secrecy,

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although many industry insiders and commentators have questioned whether GS divisions are

indeed separated by Chinese walls, because of reports of cozy relationships and firm-wide

databases that show all client and proprietary positions taken by the firm.

According to the SEC complaint, the firm promoted research huddles, as part of the

Asymmetric Service Initiative, during which analysts would share information from select clients

and ideas on potential trades, based on this information (SEC Press 2012). This form of insider

trading has been a not infrequent accusation, as seen when a report surfaced regarding the close

proximity of the desks of wealth management and commodities trading, which was quickly

corrected (Comstock April 2011). This situation can arise naturally in the investment banking

industry, but that does little to reduce the responsibility of GS and other banks to guard against

such obvious conflicts of interest, of which they are usually well aware.

In the case of the firm-wide databases, the first report was of a system called secDB by

Antonio Garcia-Martinez, who asserted: You could see basically every position and holding

across the company, whether you were supposed to or not, (Comstock August 2010). This

database would violate various laws regarding information-sharing and has been vigorously

denied and challenged by GS. It stands to reason that such a database would greatly streamline

the implementation of GS strategy, although it compromises clients relations by merging that

knowledge with the firms trading, or client optimization, desks and entities. Other reports of

technology firms hired by GS for the firms internal communications infrastructure and the

admissions of Nishant Roy, a former analyst at GSAM, now an advisor to USAID, who states on

his Linkedin profile that he developed a firm-wide Wiki-site (Roy Linkedin profile), which

sounds remarkably similar to the rumored secDB so vehemently denied by GS. According to this

former employee, there are three firm-wide databases , the Product Master, which keeps track of

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securities bought and sold by GS, the Account Master, which keeps track of GS customers

investment histories, and the Entity Master, which combines the information of the former two in

order to cross-check for hidden risks (ZDnet 2009, 2). The SEC issued a warning in September

of 2011 regarding alleged money-laundering, insider-trading, market-manipulation, account-

intrusions, unregistered broker-dealer activities, and excessive leverage associated with master-

sub account structures (SEC 2011), which a writer at Forbes interpreted to mean that the SEC

would soon announce high profile cases against entities and individuals (Singer2011), although

so far none have emerged.

In this way, SEC cases against misconduct are an additional window into recent or past

activity by the firm, indicating what the strategy of GS may be. GS has been notable for the

singularly aggressive way in which the firm enters into positions on different sides of trades, as a

market maker, but also the way it layers entities and vehicles in a structure of relative

contingency, which allows for maximum flexibility and the constant replication of strategy

across markets and asset-classes. The culture of the firm extends throughout its vast network of

organizations, and though it has been the most imitated by its competitors and the last to adopt

questionable industry practices as they became standard, GS today is in search of alpha in the

growth markets, as an all-purpose actor, engaged as principal, lender, broker, underwriter,

market-maker, dealer, and trader, in other words, being Goldman in more places, (Blackden

2011).

II. ONeill: Foundations and Defense of the BRICs

Market surveillance is one of the methods by which GS approaches investment

opportunities. The firm has innovated by creating its own benchmarks and indexes which form

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the basis of internal analysis, market-making, and the firms own investment strategy. When

elaborating the BRICs concept, Jim ONeill sought a benchmark that would take into account

and reflect certain advantages that he believed set the BRICs apart from other emerging

countries. He admitted that some of his colleagues voiced worries that by advocating this change

in benchmarks Goldman will be vulnerable to reputational risk if the BRICs dream does not

materialize (ONeill 2011, 204). Despite this, ONeill believes that a GDP weighted benchmark

is more appropriate for fixed income and equities than is the market cap benchmark. Although it

is contentious, there is truth to his argument regarding benchmarks when in consideration of

emerging economies like the BRICs, because their economic structure has changed so much that

past economic indicators may not provide a basis from which to accurately gauge future growth.

For this reason, ONeill argues that the BRICs and later his Growth Markets (the N-11, etc.),

merit special attention as long-term investment destinations, (ONeill 2011, 4).

This is fundamental to ONeills seductive argument for the BRIC concept, because it is

geared to convince investors that future returns may expand beyond expectations based on

historical economic performance alone. It is unclear who, if anybody, was the first to recognize

the potential of the marketing magic(Rodriguez 2012) at GSAM, but it stands to reason that

by the time the BRICs Fund was being marketed, GS decision makers would have already

devised the long-term and short-term trading strategy for the firms own capital. This assumption

seems dubious at first, but considering that Altegris, an investment firm focused on alternative

investing in emerging markets (EM) made the case that, Frontier markets lack the size and

liquidity to pursue a multi-strategy approach that the developed EM space now allows. Our

focus, therefore, is on the most developed EM countries which allow for a multi-strategy, hedged

investment approach across multiple asset classes, (Altegris 2010, 2). According to Altegris, the

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ideal hedged strategy for the developed EM would include not only long positions in equity, but

long and short positions across equities, currencies, credit, and interest rates, with a focus on

generating market alpha, or excess returns from the strategic benchmark, subtracted from the

beta which stands for market risk or volatility, which in the case of a portfolio that includes

multiple assets would have multiple alpha and beta drivers (Altegris 2010). In the case of

Goldman and the BRICs, the report by Wilson and Purushothaman indicated such planning was

underway, Developing strategies to position for growth may take several years and require

significant forward planning, (2003, 4).

The various iterations of the BRICs defense by ONeill elaborate favorable

demographics, growth trends, and governance improvements as reasons why each of them were

unique and unlike other emerging countries in their generation of alpha profits. Celebrity wealth

managers like ONeill, with their own and the firms reputations on the line, are then put in the

position to maintain the brand, but in the case of the BRICs, the political leaders and other elites

welcomed the opportunity to collaborate in region-building activities, sometimes snubbing

although never undermining the managers of transnational capital. Hedge funds are posed as

regulators in the improvement of governance and accountability, and they often prove disruptive

politically and economically in the long run. Nevertheless, all of the BRICs have enjoyed

generous FDI flows, although China has been far and away the largest recipient. After

elaborating and launching the BRICs concept, Jim ONeill made every effort to quell the anxiety

of investors over short-term volatility, political gridlock, corruption, weak rule of law, and

corporate governance issues, by reiterating his initial insights and the interpretation of

Goldmans economists, using Goldmans own patented set of indicators. As such, the creator of

the BRICs dream has an incentive to disclose yet understate aspects that are unattractive to

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investors, which presents a conflict of interest. Nevertheless, ONeill proved unflagging in his

optimism for the BRICs:

There is still a great debate in the industry as to whether BRICs funds are anything more

than a marketing theme. Some believe investors should stay well away from theme-basedapproaches. In my new life as chairman of GSAM, I am learning that this is one of thegreat conceptual issues facing the asset management industry. Clients want good service,reliability, and of course good return. A theme-based investment fund may be a good wayof raising assets, but it might not necessarily give clients the experience they want, and itdepends heavily on the success of the investment manager. The BRICs, I believe, aredifferent, strong enough as a theme to make a sensible investment strategy (ONeill 2011,202).

This passage displays ONeills fears and hopes as well as acknowledging that a theme-based

approach is likely to inflate asset prices.

III. Investment Time Horizons: Long Term Investors & Short Term Strategies

The focus on the long-term profitability of the BRICs because of their particular factor

endowments and future growth potential has been integral to keep restless capital committed to

achieve the BRICs dream. That effort seems to have largely failed, as indicated by BRICs Fund

withdrawals en masse and the resignation of Jim ONeill from GSAM, although it is not

explicitly clear that the two are related. ONeill did not hesitate to make his case for the BRIC s

as a matter of ethics, in The Growth Map, [The BRICs dream] is a theme for tens of millions to

embrace, (2011, 198) and on Charlie Rose, where he argued that Westerners should not view

the populations now entering the working class with fear, that these populations deserve the

benefits of greater integration in the global economy, which his BRICs concept facilitates

(2012). ONeill also attempted to link economic growth to increasing return on equity (ROE)

(Monthly Insights From the Chairman 2011), which is a myth, according to Virtus Investment

Partners, because GDP growth and stock market returns are negatively correlated over the long-

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term and because equity returns are frequently earned outside of the country where they are

listed (2009).

When we examine ONeills argument, his statements are telling as to the mentality of

GSAM. He says, in his viewpoints from the Chairman series:

Our analysis reveals that the link between GDP growth and equity returns is, in fact, verystrong. The key point is that investors are, by nature, forward looking. We do not findevidence that GDP growth and equity returns co-move, probably because investors areinfluenced by unanticipated developments. Instead, we find that equity markets are a leadindicator of GDP growth and react strongly to expectations about the future. Changes inconsensus GDP expectations are likely to influence equity prices. While there isconsiderable diversity across countries, in general the sensitivity of equity returns tofuture growth forecast revisions appears to be much higher in the Growth Markets than in

the advanced world (ONeill2011)

This argument lacks clarity. ONeill does not reveal the results of GS analysis, but instead starts

profiling investors psychology and the effect of expectations on the economy. We shall see that

investors psychology is just as important as BRICs fundamentals, or even more important, for

GSAMs purposes.

Ruchir Sharma (2012), head of Emerging Market Equities and Global Macro at Morgan

Stanley, argues that forecasting economic growth in the super-long view, i.e. 2030, 2050, is

illusory as a foundation for investment. He writes:

Today we are at a very revealing moment. For the last half century, the early years ofeach decade saw a major turning point in the world economy and markets. Each beganwith a global mania for some big idea, some new change agent that reshaped the worldeconomy and generated huge profits... Most gurus and forecasters are willing to givepeople what they want: exotic reasons to believe that they are in with the smart crowd.The mania appears to make sense, for a time, until the exotic reasoning crumbles.

Sharma dismisses many of the fundamentals of ONeills argument for the BRICs, down to the

demographics, which offer some spin on the basic idea that population growth drives economic

growth, (56), and alternative economic indicators, which loses predictive value [when they

become too popular], (11). Yet, although Sharma disparages the fundamental tenets of

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ONeills BRIC concept, he has his own alternative investment fund with 25 billion US$ to

promote with his critical political economic analysis of which will be the breakout nations that

other fund managers fail to appreciate. Nevertheless, the author unravels the political economic

circumstances of each emerging country, drawing attention to the competing political interests

between the BRICS (253) and cautioning against any approach that treats emerging markets as a

homogenous class rather than a group of individual stories (255).

The jostling of fund managers, against each other and against policy makers, has given

hedge funds a reputation as activist investors and important political constituents, especially in

emerging markets where the corruption perceptions index is high. Fund managers often put their

finger on specific governance issues in the national and international media as well as at the firm

level. Hugh Sandeman provides an example published in Business India, where he advises,

Forget about where India will be in 2030. Forget about China. The 8 -9 per cent growth path, the

$1 trillion in infrastructure investment that was deduced as being a condition of such growth, the

governments projection of 100 million manufacturing jobs- these numbers are now on the

statistical scrap heap, (2012, 34). Fund managers also unravel the fallacies of reasoning in the

investment strategies of their competitors. An example of the latter comes from Gregg Wolper

writing in Morning Star:

Whether a concept is as new as clean technology or as old-fashioned as gold, has a catchyacronym, an attention-getting theme, or simply tracks an index, it doesn't qualify as acompelling investment unless it has several important traits in place. Without experiencedmanagement boasting a solid track record, a logical strategy, and a reasonable price, afund will have a hard time making its case. That's true no matter how much its conceptmay, in the abstract, rest on solid evidence and fit with your principles or interests andalign with your long-range investing goals (Wolper 2011).

Wolper criticized BRICs funds, of which there are dozens, because of their high fees 1.8 - 2.0%

of the annual profits and the fact that their returns, dont turn any heads, barely beating the

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average for the diversified emerging markets category in the case of GS BRICs Fund or missing

it, in the case of the BRICs Fund at Templeton. The merit of these criticisms may have sunk into

markets, if declining growth figures were not enough. Whether or not it was push or pull

factors were the dominant cause, capital outflows from BRICs funds during 2011 totaled $15

billion, according to EPFR Global, which tracks them (Patterson and Chen 2011). We will return

to this discussion below.

IV. Volatility: High Frequency Trading and Dark Pools

During this time, GS activity in food, energy, precious metals, and other commodity

markets known for their volatility is widely documented, especially in the context of high

frequency trading (HFT). HFT allows unique exploitation of price differentials, which amplifies

the profit potential of positive feedback investment strategies. HFT technology relies on

volatility, so a market exhibiting moderate volatility will attract HFT. Louis Liu, founder of

Matrix Trading Technologies LLC, a New York-based HFT technology firm, commented on this

phenomenon: Whenever there are spikes in markets, high-frequency traders gather data on it,

(Sheppard and Spicer 2011). William McNeill, managing director of trading at HTG Capital

Partners, a similar proprietary firm, based in Chicago, agreed: If there's moderate volatility...

there's probably ample opportunity to take risk, (Sheppard and Spicer2011). He was referring

to the oil and gas industry, and considering that 23% of the BRICs Fund is invested in this sector,

it is a safe bet that HFT is employed to maximize profits for the firm and its clients (Market

Watch 2013). The subsidiary of GSAM, GSAM Internationals (GSAMI) own description of its

transaction processes and execution policies indicates that MTF are the most utilized platform,

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although not exclusively, for fixed income and the usual choice for money markets (GSAMI

2009, 6).

Consider the following statistic, quoted in Zero Hedge: High frequency trading firms,

which represent approximately 2% of the 20,000 or so trading firms operating in the US markets

today, account for 73% of all US equity trading volume. (Zero Hedge 2009). Add that in with

the fact that, according to Zero Hedge, Goldman controls roughly 50-60% of principal program

trading on the NYSE, which in turn accounts for 30% of all global program trading, and it

suggests that HFT is a crucial factor for GS global activity, so important that GS decided to

create a multilateral trading facility (MTF) (The Trade News 2011), referred to in the industry as

a dark pool (Alternative Trading System in the U.S.). The purpose of this move was at least

threefold, to give GS clients access to exposure, to provide liquidity to the markets, and to give

GS access to market information, including information on GS clients, according to the

Australian Securities and Investment Commission (Lionidis 2013). Dark pools offer several

advantages to trading firms like GS, but regulators and exchanges regard them with suspicion,

both because they allow the execution of trades without displaying bids and offers in advance,

and because dark pools draw trading volume away from NYSE and other exchanges (Mehta

2012).

In this arena, an investment bank like GS can employ pinging market participants with

algorithms that draw information about their willingness to buy or sell, which is one strategy

among many associated with high frequency trading recently scrutinized by regulators. GS

maintains that dark pools merely replicate the price discovery process that was done manually

before, that they are well regulated, and that dark pools only account for less than 10% of US

stock market transactions (GS website quotes Rosenblatt Securities, 2009). GS maintains that the

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benefit goes to institutional investors who can have less of a footprint in stocks because of dark

pools, but the unacknowledged advantage investment banks and hedge funds derive comes at

their expense.

Originally, HFT was an invention meant for the Hollywood film industry, but the patent

fell into the hands of an investment firm. Although invented by Max Keiser for the purpose of

leveling the playing field in Hollywood, it has done the opposite in the context of Wall Street,

because it enables what has been called computerized front-running, in the form of flash

trades(Brown 2010). In this process, according to Brown, An incoming order is revealed (or

flashed) to a trader for a fraction of a second before being sent to the national market system. If

the trader can match the best bid or offer in the system, he can then pick up that order before the

rest of the market sees it, (2010). In that fraction of a second, the HFT program can calculate

the maximum price at which the seller will make the trade, which is information heretofore

limited to the market-maker, enabling the high frequency trader to manipulate the market (Brown

2011).

An operator at the NYSE wrote, Too much fragmentation and darkness can undermine

investors perception of a fair and orderly market, (Mehta 2012). It can be argued that NYSE is

obliged to press for the dissolution or restriction of MTFs, as they have for the last three years,

because they considerably reduce the trading volumes of NYSE and others. Bloomberg data

show that a full of US equities were traded outside of formal exchanges in 2012 (Mehta 2012).

Meanwhile, the growth of opaque trading facilities and exponentially larger trading volumes

with HFT coincides with the mass exit of small investors from BRICs equity markets (Patterson,

Leite, and Shaaw 2013). One Indian investor remarked, The confidence of small investors is

rock bottom. They have no faith in the markets, (2013), offering substantiation to the fear

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voiced by the NYSE operator that the activity of HFT firms and dark pool facilities undermine

investors perception of fair and orderly markets. Although HFT happens outside of dark pool

facilities, the both contribute to increased and even anti-competitive advantages to the strongest

and largest investors.

Noise investors have an effect disproportionate to their number in the market, however,

and can cause even sophisticated investors to chase noise, thus amplifying sentiment shocks and

moving price away from fundamental values (Mendel and Shleifer 2011, 13). The high

probability of volatility is increased by HFT, which enables false price signals and the

appearance of increased trading volumes, thus amplifying the destabilizing phenomenon of noise

chasing and flash crashes, which undermine the trust of smaller participants in the market.

It is quite clear from a number of disclosures and news items that GS is engaged in HFT

on commodity futures while simultaneously issuing statements in the media on its expectations

in one market while buying and selling stores of those commodities in other regions. One

example is Cliffs Natural Resources, an international mining company that has survived for 165

years, which was downgraded by GS from hold to sell, because GS predicted that Cliffs

profits would continue to fall as new global supplies of iron ore come online (Shoenberger2011,

Grant 2012). In this case, GS was able to leverage its surveillance of the BRICs to hedge against

aNorth American company. GS research pointed to, ... a long period of significant oversupply,

but in our view this is still two years away. We expect iron ore producers will see one last year of

exceptional prices and profit margins [as the] restocking phase continues, supply starts to tighten

and market sentiment becomes more bullish, (Sedgman 2013). GS later predicted that pricing

power would shift from international mining companies to China, although suppliers in Brazil

and Australia were dominating supply on the spot market, with much less coming from India,

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which, GS analysts acknowledged without elaborating, was another reason for the speculative

nature of recent price gains (Tan 2013). Upward price co-movement has been the rule across

commodity classes, because since the bursting of the tech bubble in 2000, there has been a 50-

fold increase in dollars invested in commodity index funds, (Kaufman2011). GS was an early

innovator in the shift from HFT in equities to commodities, according to Foreign Policy, which

has brought volatility to the formerly sleepy market of $13 billion (Kaufman 2011), including

frequent flash crashes when HFT algorithms malfunction (Sheppard and Spicer2011).

The discussion of the efficiently of HFT has centered on whether they provide for more

efficient markets or if they cause investors to chase artificial prices, thereby undermining

markets efficiency (Arnuk and Saluzzi 2008). While advocates of these trading platforms claim

they are adding liquidity to the market [in the form of higher trading volumes], or making [the]

financial markets more efficient, critics believe this practice is unethical and destroying

[Americas] capital market structure. (Moyer and Lambert 2009 and quoted in McGowan

2010, 2). There may be legitimacy to the claim that exchanges such as the NYSE are monopolies

that should be disciplined by competition from alternative exchanges and brokers who offer

liquidity outside of exchanges (Selway quoted by Mehta 2012). However, the charges are

mounting against HFT by regulators, such as the Commodities Futures Trading Commission,

that so-called wash trades allow, high frequency traders to act as both buyer and seller in the

same transactions, (Patterson, Strasburg, and Trindle 2013), which distorts prices, creates the

impression of higher volume in the market, (2013), and can confuse even sophisticated

investors into chasing artificial prices (Arnuk and Saluzzi 2008, 1). Despite the risks of the lack

of information on HFT strategies, the potential for manipulation of the market, and the increase

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in volatility that could lead to crises (McGowan 2010, 20), all signs point to increased volumes

of this form of trading across asset classes.

V. The Role of Sovereign Wealth Funds and Other State Capitalists

One notable category of actors in GSAM funds is the sovereign wealth fund (SWF),

which come into existence as a result of national foreign exchange reserves or because of natural

resource windfalls. GS may have found a convenient vehicle for just that in the BRICs, which

enables foreign government-controlled investors (FGCIs) from the Gulf States, Singapore, and

several members of the N-11 to invest in BRICs assets conveniently below the radar. GS, as an

entity composed of transnational capital, has no obligation to protect sectors or companies.

Several emerging countries have inordinately large currency reserves, as Larry Summers pointed

out in 2006 at an event hosted by the Reserve Bank of India, before pleading that these countries

recycle the reserves into the global economy (Summers 2006).

It is interesting to note that China, with foreign exchange reserves three times larger than

Japan, the next largest in the world, is beginning to recycle its reserves into the global economy

and has opened up its markets to Central Banks, SWFs, and other qualified foreign institutional

investors (QFIIs) (Dingmin 2012). This process has been politically contentious because SWFs,

Central Banks, and other FGCIs and funds are not transparent and could lay their hands on

strategically important assets. Western policy-makers have been ambivalent about other states

owning national assets, in part or in full, when political rather than economic concerns may be

the motivating factor. However, GS economists, like Jim ONeill, have been vocal about

allowing EM SWFs and other state capitalists into the fold of investors most favored by those on

the demand side of global capital markets, not only because it is democratic, but also because,

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Without them, the shortage of world savings would entail a prolonged global recession,

(ONeill 2007). He was absolutely correct in 2007, as is obvious considering the fact that

emerging countries dispose of 75% of global sovereign wealth and that most of it will be

invested in developed countries (Vanham 2012). Today, more SWFs are allocating their

investment portfolios across multiple assets, rather than primarily in currencies and bonds. Hua,

writing forPensions and Investments, said this trend is increasing because of, low nominal

yields and sovereign credit concerns combined with higher overall volatility in global markets,

(Hua 2012).

GSAM manages $61 billion from SWFs (Hua 2012), and GS has extensive linkages with

monetary officials in EM, such as the former Goldman banker Uche Orji, who is now President

of Nigerias SWF (Kay 2012), or the gathering of institutional investors, hedge fund and SWF

managers at AIM conference. Owi Ruivivar, a portfolio manager for GSAM in Singapore, says,

The response of SWFs is not, should we invest [in eme