Did Goldman and Other Dealers Squeeze Mortgage CDS Shorts So They Could Sell Toxic CDOs?

"As reported in the Financial Times, Senator Carl Levin of the Senate permanent investigations released damaging e-mails in which Goldman traders discuss “killing” some mortgage-related CDS shorts in May 2007. Levin understood the implications, that damaging the shorts would allow Goldman to buy CDS even more cheaply, but did not tease out the logical conclusion. This move was a likely a major step that allowed Goldman (and fellow dealers not under investigation who likely pursued parallel strategies) to package its remaining mortgage dreck into CDOs, which were launched as the reported squeeze evidently took place, and unload as much toxic inventory as possible before the wheels came hopelessly off the subprime bandwagon.

Goldman gives the usual pious denials, arguing that the market tanked, but the market action in later March to June 2007 belies their claims. And Levin may have unwittingly given Goldman an out by pegging the time of the short squeeze a bit late.

It’s a bit hard to see on the scale of this chart, but CDS spreads on subordinated bonds widened markedly in February and continued into March of 2007. And even though that move looks tame compared to what later came to pass, it was enough to create havoc in the subprime market..."

at http://www.nakedcapitalism.com/2010/12/did-goldman-and-other-dealers-squeeze-mortgage-cds-shorts-so-they-could-sell-toxic-cdos.html