Goldman shares hit 9-month low on news of U.S. probe

Shares of Goldman Sachs Group Inc slumped 9.4 percent on Friday to a more than nine-month low, a day after news of a criminal investigation by U.S. federal prosecutors accelerated the company's crisis.

The reported criminal investigation also prompted at least three analysts to downgrade their ratings for Goldman. Bank of America Merrill Lynch analyst Guy Moszkowski called the reports a concern even if no charges ultimately result.

In addition, the yield spread over Treasuries of Goldman Sachs' 5.375 percent notes due in 2020 widened to about 206 basis points in heavy trading volume on Friday, from 184 basis points late on Thursday, according to MarketAxess.

The criminal investigation came less than two weeks after Goldman was charged with civil fraud by the U.S. Securities and Exchange Commission. Earlier this week, Goldman Chief Executive Officer Lloyd Blankfein and other executives underwent cross-examination by lawmakers at a U.S. Senate hearing on their role in trading mortgage-related products in 2007.

Goldman, which is now facing one of the biggest crises in its 140-year history, is seeing its shares bear the brunt of the past two weeks' developments.

Goldman shares plunged $15.04 to close at $145.20, their lowest level since July 2009. The shares are now down more than 21 percent since the SEC probe was announced, compared with a 3.2 percent decline in the Amex Securities Broker dealer index <.XBD>.

It's going to keep (Goldman stock) capped in terms of potential upside, said Walter Todd, a portfolio manager at Greenwood Capital. You started to see it recover and then something else comes out.

The door was opened when the SEC announced their fraud charges, Todd said. The criminal investigation obviously escalates it to the next level ... It's going to be an ongoing overhang for these guys.

CHARGES UNCERTAIN

That overhang on Goldman's stock may persist despite the uncertain outcome of the criminal investigation.

Legal experts said it was far too early to predict whether federal prosecutors will find a basis for bringing a criminal case during their examination of some of Goldman's subprime mortgage-backed deals. Many think it is unlikely, given the higher burden of proof in a criminal case compared with a civil prosecution by the SEC.

Federal prosecutors are still licking their wounds from last November, when they failed to gain a conviction against two former Bear Stearns hedge fund managers. The managers were charged with lying to investors about the financial health of the funds, which invested heavily in subprime debt, including several Goldman-backed deals.

But the mere prospect of criminal charges is driving the market away from Goldman, which has seen its market cap lose almost $23 billion since the day before the SEC announced its civil charges. Goldman's market cap was $76.5 billion at the end of Friday, or down $8.3 billion since the close of last week.

Moszkowski downgraded the company to neutral from buy, as did analysts at Buckingham Research Group. Matthew Albrecht, a banking and brokerage analyst at S&P Equity Research, downgraded the company to sell from hold, and cut his price target for Goldman to $140 from $180.

Nor will the criminal investigation be the end of Goldman's worries, according to Matt McCormick, a portfolio manager and banking analyst at Bahl & Gaynor Investment Counsel in Cincinnati.

I don't think that what happened here is enough to put Goldman out, but ... it further behooves investors who have outsize gains in these shares to take some profits and rotate elsewhere, he said. I do not think all the bad news is baked into the cake.

MUNGER

Berkshire Hathaway Vice Chairman Charles Munger, whose company acquired a $5 billion stake in Goldman during the 2008 crisis and became its largest shareholder, told CNBC he does not think the SEC's case meets the definition of fraud. He observed the SEC's commissioners were split 3-2.

I suspect if I had been an SEC commissioner and had been the swing vote, this would not have been filed, said Munger, in Omaha, Nebraska, as Berkshire prepares for its annual shareholder meeting this weekend.

Yet while Goldman's traders may have been abiding by the rules, those rules need to be strengthened, he said.

Should the rules of the game have allowed all this financial derivatives trading? My personal answer would be no.

Munger, who for decades has railed against the excesses of Wall Street and corporate America, said he wants tougher restrictions on derivatives trading than those proposed by former Federal Reserve Chairman Paul Volcker. Goldman and other banks have been lobbying hard to fend off changes that would endanger this lucrative business.

If I were the benevolent despot of the United States, we'd have virtually no derivative trading, he said. In fact we would have no derivative trading except in currencies, commodities and metals.

CATALYST FOR REFORM?

McCormick called the timing of the criminal investigation, close upon the SEC lawsuit, a catalyst for lawmakers seeking to pursue financial reform.

Some lawmakers have already seized the opportunity. Federal authorities should leave no rock unturned as they root out any potential fraud that triggered the crisis, U.S. Rep. Marcy Kaptur, who this week sent a letter to the Justice Department asking for a criminal investigation into Goldman Sachs, said in a statement on Friday.

In high-profile cases brought by the SEC it is not uncommon for regulators to confer with prosecutors. But people familiar with the Goldman matter point out that the SEC did not make any specific referral to federal prosecutors. Rather, it appears that prosecutors on their own initiative decided to review some of the documentary evidence obtained by the SEC to see if a criminal case could be made.

The cost to insure Goldman's debt also rose on Friday. Credit default swaps insuring Goldman's debt widened 35 basis points to 165 basis points, or $165,000 per year for five years to insure $10 million in debt, according to Markit Intraday. (Reporting by Maria Aspan; additional reporting by Matthew Goldstein and Joe Giannone; Editing by Lisa Von Ahn and Matthew Lewis)