News that Moves: Goldman Sachs Earnings and $5 billion Secondary

RCM Comment: I continue to believe we will see a significant division within the banking sector during earning season. As I have stated, I expect the big banks (GS, WFC, JPM) - who are in cahoots with the government - to post "much better than expected EPS", while the smaller regional banks will not. The first test of this theory has been confirmed as WFC and GS post "surprises".

The story below allows us to dig deeper into the "surprise" and see that "the Goldman numbers were driven by the best FICC (Fixed Income, Currency & Commodities) trading results ever". This is not an area where smaller banks participate. Unfortunately, "illiquid assets...continue to head lower" and commercial real estate "whole loans and CMBS (commercial mortgage backed securities)" continue to suffer. I suspect these areas to hamper the rest of the banking sectors earnings.

Of course, the reaction to the news is more important than theories. Now is the time to watch closely and use the markets' action over the next few weeks as a guide to portfolio management. GS announced and priced their much anticipated $5 billion secondary at $123/share. This price is now the line in the sand. If the stock can hold above $123 and head higher that would have to be viewed as positive for the markets overall while an inability for the syndicate to support $123 may suggest that the rally has stalled. Patience will be key in the coming weeks stay tuned...

Briefing:
GS Goldman Sachs Conference Call Summary -Update-
GS says that the altered competitive landscape was a helpful component behind its strong performance Trading margins are robust... cautious about the near term outlook; remain focused on core strategy... Says there was nothing in reversal in marks on illiquid assets, they continue to head lower... virtually all cash flows with AIG (value for value) to part at the end of the year, most were unwound before the end of the year; P&L regarding AIG in Q1 amounted to zero... had $800 mln in losses related to Commercial real estate; combination of whole loans and CMBS; hedging in this area amounted to a $100 mln profit... Revenues in FICC were broad based; benefitted from higher spreads and less competition but also suffered a little from lack of volume... is not able to say they will have $6.6 bln in FICC every quarter but states that outside of the writedowns in Q4, they have performed well in every type of environment... says they are not putting a lot of weight on linearity in the quarter; believes performance was well spread out... CRE have market value of $8.5 bln (was $10 bln last quarter), about $1.5 bln was CMBS; Real estate portion of that was approx $7 bln and that was marked at 50 cents on the dollar... residential real estate they have approx $4.5 bln split evenly between prime, Alt-A, and subprime; says that amount is a trading amount that will fluctuate and would not even refer to them as legacy assets...

Gross leverage on the balance sheet was 14.7x (was approx 18x last quarter)... leverage loans from the $52 billion of legacy loans that they had at end of 3Q07 were down to a market value of about $2.3 billion so the exposure there is pretty minimal at this point and the average mark on that $2.3 billion is in the range of $.50.... security services revenue remains tight with the reduction in hedge fund assets; growth should be slower in this business... there was not a lot of new lending commitments made in Q1; says they are a corporate lender not a consumer lender and the requests were not there this quarter... says there is still headwinds for asset values which keeps them cautious; does not believe they have as many assets as some of its competitors; says that its economist are more optimistic (or less pessimistic) about 2H09...

Asked about TARP: says stress test should be completed at the end of this month; says after the completion of the stress assessment they would like to redeem the TARP capital if allowed... Asked about Private Equity commitment fund: says the announcement yesterday on the $5.5 bln fund (Vintage Fund V) was 'old news'; says this is to buy secondary interest in the private equity fund... expects private equity investing to be slow as there is not a lot of leverage available... continue to see opportunity in the very illiquid products; notes they have a good history in investing in distressed assets; says sellers and buyers prices have not come in line but expect that to happen in the next few months; expects to see opportunity and believes the BRIC countries will be great opportunities in the next five years...

Says they are seeing 'a pretty big pick up' in Capital Markets activity; can not say if this will be sustained... expects the merger business to take more time to recover; need to see a sustained pick up in the economy to generate the enthusiasm behind this area... Tier 1 ratio under Basel I improved to 16% from 15.6% (notes this is its first quarter as a bank holding company so prior comparisons are difficult)... excess liquidity pool is a drag on earnings and ROE; believes in this environment it is prudent to park assets there; would make the trade off of slightly lower earnings and ROE for the prudence of having the higher liquidity... would like to continue to issue unguaranteed debt; believes spreads will come in and allow them to do that... virtually all of the revenue was from very liquid products, very little in anything that was illiquid... first time since the Summer they have seen two IPOs in the same week so the Capital Market are picking up...

In FICC there was very little write up or reversal of prior marks on assets... had a loss of about $200 million on own debt because credit spreads tightened across the quarter... Asked why VAR was higher: just volatility and movements in credit spreads that drove it...

Asked about TARP vs FDIC's TGLP Program: does not believe they are tied together; notes there are participants in the FDIC guarantee program who did not have TARP capital today and think that Congress has made it pretty clear that they are interested in the equity investments in the firms that have received TARP capital and those things are not tied together; still have some capacity under the FDIC guarantee at pretty attractive spreads so will continue to use that when it's available but expect to continue to raise unguaranteed that once available as well.