Meredith Whitney and the Buy Recommendation on Goldman Sachs
Since we have quoted Meredith Whitney in the past saying very bearish things about bank stocks, we should, in the interests of fairness, point out that it was she-chief among bank stock analysts-who put out a buy recommendation on Goldman Sachs earlier this week. Is this the capitulation of the bears?
Hold that thought. Her recommendation preceded Goldman's actual announcement on Tuesday that second quarter net earnings were up 65% to $3.44 billion. The company, like Wall Street's very own chosen-one-boy-wizard, has once again waved its magic wand and produced something remarkable. So let's remark on it...
The composition of its net revenues was a revelation. And as we reported in today's edition of Money Morning (where we are guest editing for Kris Sayce and also covering the Rio Tinto/China saga), Goldman's second quarter performance belongs to a bygone era of swashbuckling financial capitalism when interest rates were low and huge money flows made trading price movements in asset classes a full-time job.
Why do we say that? Goldman reported $13.76 billion in net revenues for the quarter. But 78% of those came from its "Trading and Principal Investments" group. That was a 93% improvement over the second quarter of 2008 and a 51% improvement over the first quarter of this year.
And yet again, the "black box" unit of "Fixed Income, Currencies, and Commodities" was the chief bread winner within the Trading group. It delivered $6.8 billion in net revenues, or 63% of the Trading group's revenues and 50% of total net revenues for the entire firm.
Investment banking-what Goldman used to do-actually experienced a 15% decline in year-over-year quarterly revenues. And the "Asset Management" business also saw a 28% decline in quarterly revenues compared to the same time last year.
We relay these things not to bury Goldman. Nor to praise it. But just to put it in perspective and ask whether the performance of this company-once you understand it from the inside out-is the sort of thing that should give you confidence about stocks now. Or, to the contrary, whether Goldman's performance is aberrant.
What did Meredith Whitney say about the matter? "Our more bullish outlook on Goldman Sachs shares," Whitney wrote, "is deeply rooted in our sustained bearish stance on the U.S. economy and the state of U.S. financials at large. Specifically, we expect a tsunami of debt issuance from federal/sovereign, state and local governments to fund woefully underfunded budget gaps."
"In addition, we expect corporate debt issuance to be at least 60% as strong as peak cycle levels, reflecting sizable debt maturity rolls. What's more, given fewer players in the market, not only is GS benefiting from market share gains on these products, but more widely in the derivatives products."
Whitney is bullish on Goldman because Goldman is good at trading its own book. But what's good for Goldman is probably not the same as what's good for everyone else. Real national wealth is not built on financial transactions. It's built on increases in productive that lead to rising wages and a growing capital stock. You might measure it on capital per worker. But however you measured it, it wouldn't have much to do with how good fixed income trading profits were.
By the way, did you see this the other day from the Financial Times: "Executives at Goldman Sachs sold almost $700m worth of stock following the collapse of Lehman Brothers last September, according to filings with the Securities and Exchange Commission." That sounds like a good trade.
One more note on the 4th branch of the American government. Bloomberg reports that Goldman may, "Lose its investment in a proprietary trading code and millions of dollars from increased competition if software allegedly stolen by a former employee gets into the wrong hands." Uh oh.
Last week in Manhattan, Assistant U.S. Attorney Joseph Facciponti revealed that ex-Goldman Sachs computer programmer Sergey Aleynikov has been charged with stealing Goldman's proprietary trading software. Aleynikov was arrested after he arrived at the airport in Newark, New Jersey.
The wrong hands?
Facciponti told the judge in the hearing that, "The bank has raised the possibility that there is a danger that somebody who knew how to use this program could use it to manipulate markets in unfair ways...The copy in Germany is still out there, and we at this time do not know who else has access to it."
Is there a fair (legal) way to manipulate the market? If the software can be used to manipulate the market...and Goldman knew how to use the software...has the prosecutor unintentionally revealed some of Goldman's magic secrets? Or is he suggesting that other traders using the software can beat Goldman at its own game now that they know what rules the bank uses? We'll let you decide...
Dan Denning
for The Daily Reckoning Australia
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About the Author
Dan Denning is the author of 2005's best-selling The Bull Hunter (John Wiley & Sons). He began his financial publishing career in 1997 and has covered financial markets form Baltimore, Paris, London and, beginning in 2005 Melbourne. He’s the editor of The Daily Reckoning Australia and the Publisher of Port Phillip Publishing.
Comment by rag on 16 July 2009:
how do you get a job with Goldman - if the economy is going down the toilet then I want to be in the house that flushes it - given they have less competition - they must have market intelligence covered in seeing the flows and that the punt - direct line to helicopter ben as the institution that runs the show = how can you not make a squillion - every hates you but who cares, just close your porsche window and turn up the music
sing while roman burns - take the loot and buy gold with it rather than toil at an honest living and being on the pointy end of the stick - do the pointing
Comment by greg on 16 July 2009:
check out the interview on the cnbc website...she actually says that this is a trading call and that she was looking for financials to rise 10-15% before falling back again. she also makes the point you made that she is bullish on goldman because they are good at underwriting debt and there will have to be a lot of issuance - she characterised it as bearish for everyone else but bullish for goldman. seems she probably just got sick of being bearish and wanted to make a call that would get her little firm in the headlines. good luck to her but even she says its a trade so watch out!
Comment by Glen on 19 July 2009:
We are at the end of our understanding about economics,The means of production- labour- resulting in distributed wealth by the participation of the majority guided by the invisible hand is all but gone. The invisible hand is now the full participation of government bods who were basically elected to establise fair laws of self determination (democracy) not voted into positions to direct production-labour-wealth,and direct and include the worst of captains of production and wealth whos only motivation is pure greed. Humanism is the levelling real power of stabilisation, and when this power kicks in it does not ask and nobody can escape it or ingnore its noble cause.LEVELLING