(GS) Goldman’s Escape Route Might Be the Private Road: David Reilly
Underscoring the threat posed by Obama’s proposal, which he dubbed the Volcker Rule, Goldman reported that fourth-quarter revenue from trading and principal investments of $6.4 billion accounted for two-thirds of overall firm revenue.
Commentary by David Reilly
Jan. 22 (Bloomberg) -- Duck season? Rabbit season? It’s bank season.
In the wake of this week’s Massachusetts Massacre, President Barack Obama and congressional Democrats may place banks in their sights as they try to appease populist anger and come up with some sort of achievement to take into this year’s midterm elections.
No wonder Obama suddenly embraced the idea espoused by former Federal Reserve Chairman Paul Volcker of a Glass-Steagall-like separation of banking and trading activities.
While legislative flesh still has to be put on the proposal -- and it could easily be watered down -- it marks a big shift in the administration’s stance toward banks. It may even signal that the White House and congressional Democrats are getting the guts to finally tackle the question of too-big-to-fail firms and the future shape of Wall Street.
That leaves question marks hanging over the too-big-to-fail club. JPMorgan Chase & Co., Bank of America Corp., Citigroup Inc. and Morgan Stanley may all have to consider shedding or restructuring parts of their business. Who knows? Merrill Lynch & Co. or Bear Stearns Cos. may get a new lease on life.
Of all these firms, though, Goldman Sachs Group Inc. may be in the most danger. The bulls-eye on that firm’s back is so big it may have to start thinking about contingency plans.
Unfortunate Timing
It didn’t help that as Obama was detailing his proposals, Goldman was reporting the most profitable year in its history. Goldman said net income in 2009 climbed to $13.4 billion, compared to $2.3 billion in the fiscal year ended November 2008. Revenue for 2009 of $45.2 billion was double that of the 2008 fiscal year.
Underscoring the threat posed by Obama’s proposal, which he dubbed the Volcker Rule, Goldman reported that fourth-quarter revenue from trading and principal investments of $6.4 billion accounted for two-thirds of overall firm revenue. While other firms such as JPMorgan have big trading operations, none is of the same significance to the overall firm as Goldman’s. Even Morgan Stanley has over the past year been adding more traditional banking and brokerage operations.
Never mind Goldman’s last-minute attempt to score some PR points by bringing down compensation as a percentage of revenue to about 35 percent. While that had Wall Street tongues wagging, Main Street will see only that Goldman still paid out $16.2 billion in 2009. That’s a lot of bonus bucks in an economy with 10 percent unemployment.
The Private Option
So what is Goldman to do? One possibility: spin off some of its businesses, say its hedge-fund, private-equity and asset management operations, while taking the remaining investment- banking firm private, or vice versa.
Granted, that would be extremely difficult to pull off given the intertwined nature of the firm’s many businesses. That was a point made on yesterday’s earnings call by Goldman Chief Financial Officer David Viniar.
Viniar also said that Goldman, if need be, could wall off its proprietary trading business, which is “not very big in the context of the firm.”
Plus, regulators may find it tough to draw the line between proprietary trading -- which is done on a firm’s own behalf -- and trading done for the benefit of clients. Even Volcker admitted this during congressional testimony, and the president’s proposal noted that any prohibition on trading, hedge-fund or private-equity activity wouldn’t extend to business “serving customers.”
How Big
It’s also questionable if a return to private partnership, which Goldman was before going public in 1999, would leave a large-enough capital base to maintain the confidence of trading partners and wholesale funding markets. And if the firm’s capital base were big, a private Goldman would likely still be subject to the kind of regulatory scrutiny it was seeking to reduce in the first place.
Then again, Goldman’s own employees may embrace such a move if it spared them and the firm the kind of public attention and ridicule that pushed Chief Executive Officer Lloyd Blankfein to chop compensation.
And some investors have already been considering such a possibility. Back in December, Douglas Kass, general partner of hedge-fund firm Seabreeze Partners Management Inc., listed Goldman going private as one of his predictions for 2010.
Noting the presence of Warren Buffett as an investor in Goldman, Kass predicted on the Web site realmoney.com: “Sick of the unrelenting compensation outcry, government jawboning and associated populist pressures, Warren Buffett teams up with Goldman Sachs to take the investment firm private. The deal is completed by year end.”
Harsh Spotlight
The spotlight on Goldman may only grow harsher. While Obama didn’t single out any particular firm during his press conference, investors reading between the lines can find none- too-subtle hints at Goldman.
“When banks benefit from the safety net that taxpayers provide, which includes lower cost capital, it is not appropriate for them to turn around and use that cheap money to trade for profit,” the president said. “And that is especially true when this kind of trading often puts banks in direct conflict with their customers’ interests.”
That seemed to be a dig at Blankfein, who scrambled at last week’s Financial Crisis Inquiry Commission hearing to defend Goldman’s trading practices in relation to clients. So too did Obama’s reference to “soaring profits and obscene bonuses.”
Over the past year, banks have managed to blunt many financial-reform proposals. That may be changing if Democrats feel they need score a few banking scalps to improve their November election fortunes.
In that case, Blankfein may find himself cast in the role of Elmer Fudd.
(David Reilly is a Bloomberg News columnist. The opinions expressed are his own.)
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To contact the writer of this column: David Reilly at dreilly14@bloomberg.net
Last Updated: January 21, 2010 21:00 EST
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