Billion Dollar Whale

by Tom Wright

  When the U.S. housing bubble burst in 2007, these subprime securities blew up. Within a year, losses related to toxic subprime loans toppled Bear Stearns and Lehman Brothers, sparking a full-blown financial crisis. The U.S. government had to step in with a $700 billion bailout for the banks.

  The Goldman chief executive, dressed in a gray suit with a maroon tie, tried to parry the angry questioning from Senator Levin, arguing that some clients—big banks and institutional funds—still believed the U.S. housing market was robust in 2007. It was no fault of Goldman’s, he said, if those clients desired to acquire securities linked to subprime home loans.

  “They wanted to have a security that gave them exposure to the housing market,” Blankfein said. “The unfortunate thing is the housing market went south.”

  Goldman did not operate retail bank branches, and few Americans knew much about investment banks, whose clients are largely companies, governments, pension funds, high-net-worth individuals, and other banks. But Blankfein was becoming the poster boy for financial sector greed. The collapse of the housing market had left many Americans destitute. Goldman’s profit, by contrast, soared to a record $13.4 billion in 2009. Senator John McCain, a Republican from Arizona, asked Blankfein to tell the room his bonus for the year. Visibly ill at ease, the chief executive stuttered, before responding: it was $9 million.

  The 140-year-old bank was on the defensive. The U.S. Securities and Exchange Commission, which enforces securities laws and regulates the industry, was suing Goldman for withholding information from a German bank to which it sold a subprime mortgage product. A young French trader at Goldman named Fabrice Tourre, who referred to himself in emails as “Fabulous Fab,” had talked about selling the product, known as Abacus, to “widows and orphans.” Three months after Blankfein’s appearance in Congress, Goldman settled with the SEC for $550 million, the largest-ever penalty paid in a civil case by a Wall Street firm. It apologized for giving “incomplete information” to its client, but did not admit wrongdoing.

  Senator Levin later asked for a criminal investigation of Goldman, but the U.S. Justice Department decided not to pursue charges, adding to a sense that Wall Street bankers walked away scot-free from the crisis they created. Even though no senior Goldman executives were sanctioned, however, banks were under scrutiny like never before. In 2010, Congress passed the Dodd-Frank Act, a sweeping series of laws brought in as a response to the financial crisis.

  The Volcker Rule, proposed by former Federal Reserve chairman Paul Volcker, restricted banks from speculative trading that did not benefit their customers. The idea was this kind of activity—say, betting on risky subprime securities—destabilized the financial system and hurt ordinary savers and home owners. Banks would fight a rearguard action in Congress: The rule was watered down, permitting certain investments, and took years to come into effect. But Wall Street banks had to stop acting like hedge funds, which make proprietary investments using money from rich individuals, and look after their clients’ interests, whether a small home owner or a multinational corporation.

  These new restrictions, coupled with an anemic U.S. economy, low interest rates, and a weak stock market, led Blankfein to double down on his push into emerging markets. China continued to grow at double-digit rates, and the economies of Brazil, Russia—even small Malaysia—were humming along. In a speech later in 2010, as Goldman licked its wounds from the damage the crisis had done to its reputation, Blankfein said the biggest opportunity for the bank was to be “Goldman Sachs in more places.”

  In 2010, as Goldman looked to increase its business in emerging markets, a thirty-seven-year-old Italian banker named Andrea Vella arrived in Hong Kong. A former engineering student, Vella had short-cropped, graying hair, a sturdy build, and a pugnacious face. He was a persuasive and confident banker who colleagues believed could convince anyone of his perspective on just about anything. Vella was also a product-structuring specialist—an expert on complicated derivatives—just the kind Goldman was hoping to sell in places like Malaysia.

  Vella had developed a reputation among some colleagues for focusing on unsophisticated clients who would, without question, pay huge fees for the bank’s expertise. A year after Vella joined Goldman’s London office in 2007, he began overseeing the bank’s relationship with the Libyan Investment Authority, a new sovereign wealth fund set up by Muammar Qaddafi’s government.

  On a simple level, derivatives are financial products whose value is linked to an underlying set of assets. Derivatives can help businesses smooth out price fluctuations. For example, if a company wants to protect itself from a fall in a commodity price, it could buy a kind of derivative called a forward contract, which allows it to sell at a fixed price in the future. As the subprime crisis exhibited, derivatives could also be dangerous by allowing investors to make big, debt-fueled bets on the direction prices were headed, in this case mortgage-backed securities. That was fine when a wager paid off, but could cause a cascade of losses if markets moved in an unexpected direction.

  Vella’s Libyan clients wanted to accumulate a stake in U.S. banks, as Middle Eastern funds were doing in the chaos of the financial crisis. But the managers of the fund didn’t really understand derivatives. Vella urged a junior colleague, who handled the Libya relationship on the ground, to go heavy on marketing. “Often they don’t know what they want or need, we need to interpret their confused words and show them the right things. Focus on that,” Vella emailed the colleague.

  Goldman designed a complex derivative, backed by shares in Citigroup and other companies. The derivatives were structured so the Libyan authority would profit handsomely if Citigroup’s shares went up, but with significantly more downside risk. As the financial crisis deepened, the shares fell and the Libyan authority eventually lost more than $1 billion. The authority later sued Goldman, unsuccessfully, in a London court, claiming its executives didn’t understand what they had bought. Goldman didn’t reveal how much it made taking the other side of the trade, but the Libyan authority claimed it was more than $200 million.

  George Jabbour, a banker for Goldman on the Libyan deal who was fired during the financial crisis, was among a number of former colleagues who said Vella was ruthless in the amount of money he charged “stupid” clients.

  “The only way you have profit is by having a markup. With a hedge fund that knows what’s going on, how can you make money?” Jabbour said.

  After the Libyan debacle, Vella came out to Hong Kong in 2010 to head up the investment bank’s structured-finance business in Asia. He soon teamed up with another one of Goldman’s most ambitious Asian-based bankers: Dr. Tim Leissner.

  Goldman’s emerging-markets focus had been a boon for Leissner. Suddenly, Malaysia was no longer an obscure market in the eyes of the bank’s New York bosses. Since advising the predecessor fund for 1MDB, the German banker had been looking for ways to get Goldman a fat fee by helping the fund raise money or buy assets. There was no immediate deal on the horizon—the initial fund-raising was handled by Malaysian banks—but Leissner was laying the groundwork for Goldman to be in pole position among its Wall Street rivals.

  In the summer of 2010, he organized for the twenty-five-year-old daughter of Malaysia’s ambassador to the United States, a close ally of Najib, to undertake a short internship at Goldman Sachs in Singapore. He also began a short-lived love affair with her, a relationship that was widely talked about inside the bank. The internship was risky because of the potential for running afoul of the U.S. Foreign Corrupt Practices Act of 1977, which bans companies from paying bribes of any kind to overseas officials to win business, but she nevertheless completed her stint in the Singapore office of the bank. Few people outside the bank knew about it, and, if there was anything improper about the internship, no action was taken against Goldman.

  Only weeks later, 1MDB agreed to pay Goldman $1 million to advise it on plans to purchase a hydroelectric dam in Sarawak, the rainforest-covered state whose chief minister, Taib Mahmud, had b
een ripped off by Low. The money was peanuts, like the fee Leissner had generated for advising on the formation of the Terengganu Investment Authority. In the end, Goldman got nothing as the deal never happened. But there was promise of more.

  In the meantime, Leissner concentrated on deepening his connections in Sarawak. The German banker, in 2009, had conducted a relationship with Taib’s niece. Leissner even told colleagues he had taken the Muslim name “Salahuddin” as part of his conversion to Islam ahead of a planned marriage that never materialized. In the end the pair split up, but Goldman’s Malaysia business rolled on uninterrupted.

  Even though the dam project foundered, Goldman saw other opportunities in Sarawak. The state government was seeking cash to develop renewable energy projects and a palm-oil exporting hub. It wanted to raise money through an international bond issuance, and Leissner took the potential business to Hong Kong, Goldman’s regional headquarters. There, Andrea Vella began working out how to raise the capital.

  The Sarawak government sold $800 million in bonds, but rather than line up investors—typically big mutual funds or pension funds—Goldman bought the entire issue itself, only later looking for willing buyers. Vella had Goldman make the purchases through a trading desk known as the Principal Funding and Investing Group. The PFI desk, which designs complex fund-raisings for clients, was involved in some of Goldman’s most profitable deals, including insurance swaps with American International Group during the subprime crisis.

  These arcane trades had wagered on a fall in home prices, helping the PFI desk to pocket about $2 billion. A Goldman banker named Toby Watson, a derivatives specialist, was sent out to Asia after the crisis to open an outpost of the PFI desk in Hong Kong—part of Blankfein’s emerging-markets strategy. The desk had borrowed around $20 billion from other banks ahead of the crisis, locking in super-cheap rates, and was trawling for ways to deploy this huge cash pile in Asia. The desk would make money if it could find investments that paid out more than the PFI desk’s interest costs on the money.

  The bank effectively cut a check to Sarawak, allowing the state government to get its hands on the cash immediately and without having to go through a road show to attract investors. In return, Goldman got the bonds for cheap and was later able to sell them to investors. By the time Goldman had offloaded the entire issue to institutional investors—mutual and pension funds—it made a profit of $50 million on the deal. That was significantly higher than the normal $1 million fee that Asian, U.S., and European banks charged for selling bonds for governments in the region—work that was considered easy and risk free, in part because governments are less likely to default than companies.

  The huge profit was a coup for Goldman. But the deal also caught the attention of Global Witness, an international watchdog, which questioned why a major Wall Street bank was dealing with a government known for corruption and environmental crimes. In a report, Global Witness claimed some of the contracts funded by the bonds were going to Chief Minister Taib’s relatives, which might have explained why the government wanted the money so quickly and was willing to overpay.

  The transaction in Sarawak was the first time Leissner, the relationship banker, had joined forces with Vella, the derivatives whiz, to deliver a major amount of money to a client, quietly and fast, while making large profits for Goldman. It was a formula that would be central to Goldman’s future relationship with 1MDB.

  As he worked on other projects, Leissner continued to keep up with Jho Low, hoping Goldman could advise on a major 1MDB acquisition. But Low’s mind was elsewhere. His Hollywood connections had impressed Najib and Rosmah. Now he moved to turn them into a business opportunity.

  Chapter 17

  My Good Friend, Leo

  Johannesburg, South Africa, July 2010

  The deep house music was pulsating in the VIP area of Taboo, one of Johannesburg’s top nightclubs. The South African financial capital, in the midst of hosting the soccer World Cup finals, thronged with visitors, and the nightclub was heaving. At the club’s gold-themed main bar, perched on a designer transparent plastic high stool, Aimee Sadie was enjoying the evening. A few drinks in, the black-haired television personality and entrepreneur was surprised when a friendly American in a suit approached her. It was Joey McFarland, the talent booker and friend of Paris Hilton.

  “Would you like to join us in the VIP? Leonardo DiCaprio is there and he’s been eyeing you,” McFarland told Sadie.

  Thrilled to be asked, she accompanied McFarland, slipping behind the velvet rope of the VIP section at the back of the club, where DiCaprio and his crew were hanging out. The actor was dressed down, wearing tracksuit pants and a baseball cap, and he was lounging on the sofa and smoking a huge cigar. McFarland, who said he worked with DiCaprio, introduced the star to Sadie, and they shook hands. But the actor seemed half dazed, sprawling on the couch, and he made little conversation. Others danced and helped themselves from a drinks table, where there was vodka, Red Bull, cranberry juice, and Chivas Regal.

  A few days earlier, Low had made the arrangements for the VIP section, introducing himself as a businessman from Malaysia. To the club’s owner, he seemed eager to part with a spectacular amount of money. During the evening, as the group sat around chatting and dancing, McFarland asked Sadie to join them on a three-day safari in Kruger National Park, before watching the World Cup final back in Johannesburg. Around midnight McFarland, Low, and the others headed back to their suites at the luxury Westcliff Hotel, a smattering of buildings perched on a wooded hillside. As the group departed, McFarland asked for Sadie’s number and he called her from the hotel to ask if she wanted to join the after-party. She politely declined. Despite the attraction of DiCaprio’s presence, this group and their massive security detail seemed a little strange, just sitting there in a joyless corner, she thought.

  In the few months McFarland had known Low—since their first meeting in Whistler—the pair had become fast friends. But it was a hierarchical relationship. Low began calling the Kentuckian “McCookie,” a play on McFarland’s sweet tooth, and treated him as a younger brother, even though McFarland was about a decade older. In his work as a talent booker, the American had developed an extensive phone book, and he helped Low with favors, including throwing a party for “Fat Eric,” his Malaysian associate, featuring Playboy Playmates.

  Low and McFarland also had started to talk seriously about building a Hollywood movie production business, along with Riza Aziz, the stepson of Prime Minister Najib, and for that they needed to get closer to big-name actors and directors. In early 2010, Riza tapped Low’s connection with Jamie Foxx, whose manager began to introduce the Malaysian prime minister’s stepson around Los Angeles, telling industry bigwigs about Asian investors with $400 million to make movies.

  With that kind of cash, and with Foxx as a friend, it wasn’t hard to open doors, and Riza secured a meeting with Avi Lerner, an independent producer whose Millennium Films had just made Righteous Kill with Al Pacino and Robert De Niro. They talked about financing a film together, possibly starring Foxx and Bruce Willis. That project went nowhere, but a few weeks later Joe Gatta, an executive at Millennium, met Riza and McFarland and persuaded them to build their own film company. As the trio—Riza, Low, and McFarland—planned their next move, they knew they had one trump card: their budding relationship with DiCaprio, one of the most bankable stars on the planet.

  DiCaprio didn’t really need the favors, the chartered plane ride to South Africa, or a box at the soccer World Cup finals. He’d been a household name since the early 1990s, and like many celebrities, he saw those kinds of freebies as an entitlement. How Low differed from other Hollywood hangers-on, though, was the sheer scale of his wealth and his willingness to spend it. There are lots of wannabe producers out there, but none threw money around like Low.

  For Foxx and Hilton, who already were wealthy by any normal standard, Low offered juicy fees to emcee or appear at events. In DiCaprio’s case, the Malaysian dangled the possibility of i
ndependence from the marquee Hollywood studios. Although he was Hollywood royalty and owned a production company, Appian Way, DiCaprio still had to bow to the will of powerful studio executives, and this power dynamic had been laid bare in his faltering plans to make The Wolf of Wall Street.

  In 2007, DiCaprio won a bidding war with Brad Pitt for the rights to the memoir of Jordan Belfort, whose firm, Stratton Oakmont, had marketed penny stocks to mom-and-pop and institutional investors in the 1980s and 1990s, defrauding them of tens of millions of dollars. For a while, Belfort succeeded and hosted wild parties in his Long Island offices, featuring cocaine and prostitutes. At one party, his team famously played a game that involved throwing Velcro-suited midgets against a giant, sticky target (a story that inspired Low to hire Oompa Loompas for his 2012 birthday celebration). In 2004, Belfort was sentenced to four years in jail for securities fraud, and ordered to repay investors, but he went free after only twenty-two months, and began penning a memoir.

  The result was The Wolf of Wall Street, a partially fictionalized tale, which prosecutors said aggrandized Belfort’s role at the firm and diminished the damage inflicted on his victims. Even the title was a stretch: Belfort’s firm wasn’t in the city limits, based miles from Manhattan, and he wasn’t widely referred to as “the Wolf of Wall Street.” But Belfort intrigued DiCaprio, who had made Catch Me If You Can, about master impersonator Frank Abagnale Jr., and, at this time in 2010, was about to sign on to play Jay Gatsby in Baz Luhrmann’s The Great Gatsby.

  Hollywood was obsessed with greedy male financiers—from Wall Street in the 1980s to American Psycho and Boiler Room—and audiences have lapped up such depictions of financiers run amok. But the script that Terence Winter, a writer on The Sopranos, carved out of Belfort’s memoir took such depictions to a new level—it was full of unadorned debauchery, to the extent that studio executives at Warner Bros., which was developing the film, got cold feet and pulled the plug in 2008. They figured audiences wouldn’t go to see an R-rated film in sufficient numbers to earn back the $100 million it would take to produce.