Journalism in the Public Interest

High-Level Fed Committee Overruled Carmen Segarra’s Finding on Goldman

New York Fed President Bill Dudley says senior Fed officials did not accept a conclusion that had been endorsed by frontline Fed examiners stationed at some of the nation’s largest banks.

New York Federal Reserve President Bill Dudley speaks during a Senate subcommittee hearing on Friday, Nov. 21. (Andrew Harrer/Bloomberg via Getty Images)

A committee that includes senior Federal Reserve officials reviewed and overturned a bank examiner's finding that Goldman Sachs lacked a firm-wide policy to prevent conflicts of interest, according to a top Fed official.

Bill Dudley, the head of the Federal Reserve Bank of New York, disclosed the action by the "Operating Committee" in a little-noticed aspect of his testimony last month before the U.S. Senate. Dudley said the panel was part of a new effort by the Fed to raise standards across the board by comparing  the practices and health of the nation's banks against each other.

In his testimony, Dudley provided the Fed's most detailed account to date of how it reversed the conclusions of Carmen Segarra, a New York Fed bank examiner who asserted that Goldman lacked the Fed's recommended firm-wide policy to prevent conflicts of interest. Dudley told the senators that the Operating Committee had "fully vetted" Segarra's finding but said "there was this lack of willingness to agree." He said that while he encourages examiners to speak up, their views must be "fact based."

New documents and secret recordings shed more light on the facts Segarra marshaled to support her position. The examiner, for example, compared Goldman's approach to conflicts with that of Barclays and Morgan Stanley. She found that, unlike with Goldman, the policies of both banks were detailed, specific and clearly addressed to the entire firm.

ProPublica also found that:

  • Goldman executives acknowledged to Segarra that they had no single firm-wide policy on conflicts of interest, according to official meeting minutes she kept.
  • Segarra formally presented her findings in a session with specialized Fed examiners stationed at nine of the too-big-to-fail banks. They agreed that Goldman did not have the sort of policy recommended in Fed guidelines, according to Segarra and another examiner who was present.
  • In disputing her finding just before she was fired, the senior Fed official overseeing Goldman Sachs pointed to the code of conduct for employees displayed on Goldman's website, saying it amounted to a firm-wide policy. Goldman's code of conduct at the time did not contain characteristics that were found in the conflicts policies of other banks that experts consider best practices. The Goldman code addressed conflicts involving employees' personal holdings but not those that could arise from the firm's deals.

Segarra was not called to testify at the Senate hearing. And in his appearance, Dudley did not detail specifically what evidence the Operating Committee considered in overruling Segarra, on what basis the decision was made, or whether it considered any of Segarra's documentation or examination findings.

 "I think the position of the senior supervisors was that there was a conflict-of-interest policy, and that is what the debate was about," Dudley said.

As ProPublica and This American Life previously reported, Segarra secretly recorded 46 hours of internal meetings while at the Fed after encountering resistance to her examination into Goldman.

Listen to excerpts from the Carmen Segarra Tapes

Carmen Segarra secretly recorded 46 hours of audio while embedded as a bank examiner at Goldman Sachs between November 2011 and May 2012.
Hear some of the recordings »

At the hearing, David Beim, a Columbia University professor, testified that the recordings "illustrated in Technicolor" the problems he found in the 2009 study of the New York Fed's culture that Dudley had commissioned. Among other things, the study said examiners were afraid to speak up and that findings were being watered down by higher-ups and an over-reliance on consensus.

"It does suggest to me that not as much change has happened as I would have hoped and that indeed, there is a continuing cultural problem and culture is slow to change," Beim told the senators.

Partly in response to concerns about examiner independence raised by Segarra's case, the Federal Reserve Board has launched two reviews into whether information from frontline examiners is being heard by top decision-makers at the New York Fed and other regional reserve banks.  

Asked about the issue, Federal Reserve Chairwoman Janet Yellen voiced strong support of Dudley. But Yellen also said that when examiners are at odds about what's taking place in a bank, "it is important that there be channels by which they can make sure that disagreements are fed up to the highest levels."

At the heart of the dispute over Segarra's findings is one of the most vexing and prevalent problems on Wall Street: conflicts of interest. Among its peers, Goldman stands out for its frequent run-ins over the issue.

This month, the bank was among 10 Wall Street firms that were fined a total of $43.5 million for allegedly using the promise of favorable research, which was supposed to be impartial, to win business for their investment-banking divisions. The firms paid small fines without admitting wrongdoing.

During a hearing in November, senators accused Goldman of deliberately pushing up the price of aluminum and giving confidential information to traders in the metal, providing them an unfair advantage. Goldman denied the allegation; two other firms also were criticized at the hearing.

In 2010, the Securities and Exchange Commission hit Goldman with a record $550 million fine related to conflicts in structuring mortgage bonds. The next year, the firm faced a shareholder lawsuit over a deal involving its advisory role to energy company El Paso in its sale to Kinder Morgan. Goldman held a $4 billion stake in Kinder Morgan. A judge harshly chastised the bank for its handling of the conflict.

Segarra started at the New York Fed on Oct. 31, 2011, as a senior examiner for legal and compliance issues. Her bosses instructed Segarra to examine Goldman's conflicts-of-interest policy as of Nov. 1, 2011, after the bank's issues with conflicts landed in media reports.

Conflicts not only can result in fines or lawsuits; they also can threaten a bank's reputation, potentially imperiling its safety and soundness. Official guidance from the Fed recommends that banks have a global policy – that is, one that applies firm-wide – to deal with conflicts of interest. 

Five experts interviewed by ProPublica said the best policies have common characteristics: They define what a conflict is; explain how everyone in the firm is covered; identify roles and responsibilities; offer examples; provide ways to escalate conflicts to senior management; and track compliance.  

Carmen Segarra, former senior bank examiner with the Federal Reserve Bank of New York, listens during the Senate subcommittee hearing in November. (Andrew Harrer/Bloomberg via Getty Images)

"This is not hard," Segarra said in an interview. Before joining the New York Fed, she had worked for years helping banks comply with rules and regulations. "Most big firms have this."

The national business ethics survey consistently ranks conflicts of interest as one of the top three types of misconduct observed by employees, according to Patricia Harned, CEO of the Ethics and Compliance Officer Association. "The conflicts-of-interest policy should apply from the board of directors to the first level employee," said Harned. "You need to spell out what you have to avoid."

The basis for Segarra's examination of Goldman was a Fed Supervision and Regulation Letter known as SR 08-8 that specifically called for firm-wide policies in key areas including conflicts. In 2009, a review by the Federal Reserve Board had found fault with the New York Fed's efforts to ensure that banks followed the guidance.

In the course of her examination, Segarra said she asked her peers at other big banks to provide her with the conflicts-of-interest policies for the firms they covered. Her goal was to do the kind of comparisons Dudley praised in his recent Senate testimony.  

The New York Fed typically teams up banks based on common characteristics. The idea is to identify best practices and expose shortcomings. If one bank is weaker than its twin in a specific area, the laggard can be encouraged to raise its game. For example, big retail banks JPMorgan Chase and Citigroup are compared. Foreign banks are also paired: Deutsche Bank with Barclays; Credit Suisse with UBS. Goldman, as a broker dealer, is paired with another large broker dealer, Morgan Stanley, according to former examiners.

ProPublica obtained Morgan Stanley's policy, dated April 2011. It contained most of the best practices identified by experts. It was firm-wide and posted on the company's intranet for every employee to see. Called "Morgan Stanley Global Conflicts of Interest Policy," it applied to all employees of Morgan Stanley, offered a definition, spelled out roles and responsibilities, described how potential conflicts should be escalated and provided for annual reviews. The policy featured 20 different examples of potential conflicts.

Segarra said she knew that Goldman was capable of writing a similar global policy because she had seen one. The firm's policy for vendors, for example, was called "Goldman Sachs Firmwide Vendor Management Program" and had many of the same features found in Morgan Stanley's conflicts policy.

When Goldman was asked for its conflict-of-interest policy, a bank executive said it did not have a single policy, according to official minutes taken by Segarra in a meeting between supervisors and bank executives. It took months and several requests, Segarra said, before Goldman responded to her request for "copies of conflicts of interest policies, procedures, and risk assessments applicable to all [six] GS divisions ... as of November 1, 2011."

Goldman eventually provided hundreds of pages of documents. The bank said that as part of recommendations from the firm's Business Standards Committee, it was updating its policies. Two of its six divisions had new conflict-of-interest policies as of December 2011. The Investment Management Division was "in the final stages of completion," and a full policy was unavailable.

Based on these and other documents, as well as meetings with the firm's executives, Segarra concluded Goldman did not have a policy that was firm-wide and that covered all divisions, and certainly did not have one on Nov. 1, the operative date specified in her examination.

A pivotal meeting on the matter took place on April 25, 2012.

Segarra and other New York Fed officials, along with regulators from the Securities and Exchange Commission, Federal Deposit Insurance Corporation and New York State Banking Authority, gathered with top Goldman executives to discuss how the firm handled conflicts generally and particularly in the El Paso-Kinder Morgan deal.

Segarra and an examiner with the New York banking authority had prepared 65 questions for the Goldman executives. At the last moment, Segarra said, the New York Fed's senior supervising officer stationed at Goldman, Michael Silva, told her she couldn't ask the questions about the El Paso deal and needed to confine herself to queries about how the firm handled conflicts generally.

Silva's lawyer said his client declined to comment for this story due to a wrongful termination lawsuit by Segarra, which names New York Fed, Silva and other supervisors as defendants. The case is on appeal after being dismissed earlier this year on technical grounds.

Segarra secretly recorded the April 25 meeting, where she asked Gwen Libstag, who headed Goldman's conflicts group, when the investment management division's policy would be ready.  

"I don't know," she responded in the recording Segarra shared with ProPublica. A Goldman executive then promised to provide the information at a later date while Libstag told the officials that the investment management division was operating under an older policy.

Documents provided to Segarra by Goldman listed only three businesses within the investment management division that were using these older procedures. Two significant parts of the division, Goldman Sachs Asset Management and parts of its bank's private wealth management group, did not appear to have any conflict-of-interest policy. As the two-hour meeting continued, Goldman executives said they did not provide employees with a definition of conflicts of interest nor did they give them examples.  The Goldman executives said they didn't want bankers thinking about what would constitute a conflict because there were too many different possibilities.  

Instead, bankers were expected to refer any deals that involved possible conflicts to Libstag's group, called the Business Selection and Conflicts Resolution, which would then decide if a conflict existed and if so what to do about it, the recording shows.

"We don't want bankers or anybody else making their own decisions," Libstag said at the meeting. "There are so many different variations and case-specific facts that our judgment is that it's better to analyze them case by case and make sure senior people are focused on them."

The SEC representatives questioned Goldman executives about one controversial aspect of the El Paso-Kinder Morgan deal: Why hadn't Goldman notified El Paso that its lead banker advising the energy firm, Steve Daniel, had a personal investment of approximately $340,000 in Kinder Morgan?

Goldman executives said they did not have a system in place to check personal holdings of bankers for conflicts. They were evaluating what to do about it, the executives told the regulators.

(This past September, Goldman announced a new plan to restrict investments by employees who act in an advisory capacity or receive confidential information. The bank declined to say whether this was a result of Daniel and the El Paso-Kinder Morgan deal. Daniel is no longer at Goldman.)

Segarra was fired on May 23, 2012. She said she left without ever receiving updated Goldman policies.

Goldman declined to respond to detailed questions about the April 25 meeting or its conflict-of-interest policy at the time. “SR-08-8 states that a compliance program should establish a “framework for identifying, assessing, controlling, measuring, monitoring, and reporting compliance risks across the organizations...” and that is exactly what Goldman has put in place, "a comprehensive framework for managing compliance risks and potential conflicts across the firm," the firm said in a statement.

As Segarra proceeded with her examination, she updated colleagues who were doing the same work at other big banks. They met weekly for progress reports back at New York Fed headquarters. The group consisted of specialized examiners who had training in legal and compliance issues. As part of the Dodd-Frank financial system reforms, the New York Fed for the first time was stationing these specialized examiners inside the largest banks, whose failure could damage the entire financial system.

Dudley highlighted the new effort in his testimony. "We embedded the risk specialists in the examination teams so that they were more involved with the bank and understood the bank's risk taking activity," he said.

Two months before Segarra was fired, the legal and compliance risk specialists met for an all-day session to present their findings to peers and their managers. Their conclusions would eventually be factored into internal ratings for their respective banks. Since everybody was knowledgeable about the subject matter, the floor was open to questions and give-and-take, according to Segarra and another examiner present at the time.

Segarra presented her findings on Goldman's general policies as well as her conclusion that the firm did not have a conflicts-of-interest policy.

"Everyone heard her arguments and nobody ever said 'I disagree with your finding,'" said a former examiner, who continues to work in finance and asked for anonymity to discuss confidential Fed deliberations. "There was no policy, and anybody who looked at it could tell that."

A week later, Segarra met with Silva who, she said, had earlier received copies of the Morgan Stanley and Barclays documents. Again, she presented her findings to Silva and his deputy. She said neither objected to her conclusion that Goldman lacked a firm-wide conflicts policy.

In mid-May, Silva informed Segarra in an email that Goldman had a conflicts-of-interest policy – the company code of conduct posted on its website. "Repeated statements that you have made to me that GS [Goldman] does not have a COI [conflict-of-interest] policy AT ALL are debatable at best, or alternatively, plainly incorrect," the email states.

The code of conduct Silva cited provides no guidance on how employees should deal with possible conflicts involving firm activities. It does not mention Libstag's Business Selection and Conflicts Resolution Group, which was supposed to play the key role in reviewing such issues. It does refer to the need to avoid personal conflicts of interest and includes one illustrative example. Goldman did not give the code of conduct to Segarra when she asked  for its policies and procedures on conflicts.

By comparison, Segarra found that Morgan Stanley had a detailed, firm-wide conflicts policy with numerous examples. Its separate Code of Conduct from the same period included a section on conflicts that involved both "potential business conflicts" and "potential personal conflicts."  

Key details about how the Fed handled the Goldman issue remain unclear. At some point – the Fed declines to say when – the Operating Committee rejected Segarra's finding.  Segarra never appeared before the committee and it's not known what, if any, of the evidence she collected was provided to its members.

The Operating Committee that Dudley referred to in his Senate testimony is a 20-person subset of the Fed's Large Institutions Supervisory and Coordinating Committee. The full committee includes supervisory staff from the regional Federal Reserve banks and the Federal Reserve Board in Washington, D.C. The New York Fed currently has five members on the operating committee.

"This was a question about whether Goldman Sachs had a conflict-of-interest policy or not, and Mike Silva and other senior people on the supervision side at the Federal Reserve Bank in New York, and, in fact, up to the Operating Committee that consists of people well beyond the Federal Reserve Bank of New York, concluded that Goldman Sachs did, in fact, have a conflict-of-interest policy," said Dudley, who prior to joining the Fed was a partner and managing director at Goldman.

A spokesman for the New York Fed declined to respond to questions about whether the Operating Committee had reviewed Segarra's evidence. Segarra said no one on the committee spoke with her.

Now, in light of Segarra's case and reports that New York Fed supervisors blocked examiners from access to information at JPMorgan Chase, the Federal Reserve Board has asked its inspector general to review the communication flow from examiners to senior managers.

Contacted by ProPublica, a spokesman for the inspector general said the agency is still determining how to approach the review and did not have an expected timeframe for completion.

Related stories: Read more of reporter Jake Bernstein'scoverage of the Federal Reserve.

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