U.S. stocks fell last week, halting the longest rally in a year, after reported allegations that one of America’s largest and most profitable investment banks, Goldman Sachs, committed fraud.

A civil suit filed Friday alleges that Goldman Sachs didn’t stick to its long-standing claim that “clients’ interests always come first,” and instead failed to inform investors that the securities they were selling had been designed to fail by another client, hedge fund Paulson & Co., which in turn profited from the Goldman’s client losses. According to the lawsuit, Goldman mislead investors by telling neglecting to them “vital” pieces of information –namely that the so called triple A financial instruments were really made up of subprime mortgages, and that the hedge fund run by John Paulson was primarily involved in choosing which securities would be part of the portfolio.

Goldman Sachs stock value plunged 13% on Friday, the biggest one day drop in the company’s history, wiping out $12.4-billion of its market value as the Securities and Exchange Commission (SEC) sued the bank and one of its vice presidents for allegedly misstating and omitting key facts about a collateralized debt obligation.

According to the SEC, Goldman worked with the hedge fund Paulson & Co to create some of the complicated securities that magnified the damage of the subprime mortgage meltdown. That, in itself, was common. However, what sets this deal apart, according to the SEC, was that Goldman and the hedge fund designed the securities to maximize the chances they would tank. Goldman then profited by selling the questionable investment to customers, and the hedge fund reaped $1 billion by betting that the securities would plummet.

While all signs point to the fact that Goldman-Sachs did break the securities law, the SEC’s investigation into Goldman Sachs could not come at worst possible time. The charges against Goldman, once the most respected but envied firm on Wall Street, come at a time when the idea of a sustainable economic recovery is final taking hold. In the past months, investor confidence has steadily returned as a string of economic news has shown a more willing consumer and a rapid but consistent increase in manufacturing activity. At the same time, corporate profits this quarter are showing improved top line growth, an indication the economy is improving at a rapid pace - a precursor to hiring. Unfortunately, at this point, it doesn’t even matter whether the allegations against Goldman Sachs are lawful; the mere thought that one of America’s largest investment houses could commit such fraudulent activities will cover the market with a thick cloud of deep mistrust and uncertainty. How long that sentiment lasts could depend on whether the accusations against the Wall Street banking titan stick, and if they are symptomatic of a larger contagion within the trading practices of major institutions. Either way, SEC allegations that Goldman misled investors about the subprime mortgages it sold them does not help build confidence that financial markets are operating fairly. Moreover, the charges against Goldman’s arrive just as lawmakers in Washington are negotiating how to reform the U.S banking system. A complete overhaul in the financial system is the next major piece of legislation that President Obama’s agenda. Already the markets have begun to fall just on the mere thought that Washington will begin to crack down on the Wall Street firms.