Wednesday, July 15, 2009
the wall street journal today attacked GS over its profits based on a government-guaranteed funding profile even as CIT totters in bailout negotiations. the WSJ makes a point often iterated elsewhere in the aftermath of the government's post-lehman steps but perhaps new to its pages: the entire financial system of the united states, most particularly its keystone large banks, is essentially now a GSE akin to fannie mae or freddie mac.
goldman's record quarter is on some level a sure sign of the massive success of the summers/geithner plan to backstop the banks. the question is really whether its been a bit too successful. massive risk-taking of a kind thought to have left for good a few months ago yielding titanic profits on low cost-of-funding with essentially zero risk of a run is a formula for rapid balance sheet repair, and goldman is clearly leading the pack in that respect. it has accumulated a cash pile which would be the envy of many small countries.
there's a lot to argue about here. for example, why the hell should GS have the backing of the FDIC as a bank holding company when it takes virtually no public deposits? but the most disturbing part is what clusterstock described as analyst "rage" over the cash that goldman continues to build.
In short, we witnessed first hand the investor demand for risk and leverage.
indeed, but what does that say about sentiment? even in the more-or-less immediate aftermath of the greatest bout of capital destruction since the second world war?
Goldman’s answer to all these questions was so consistent you could tell David Viniar had it written down in his notes. It amounted to three points:
* Market Risk. The world is still a dangerous place, so Goldman wants to have a lot of liquidity stored away in case the credit pipeline dries up again.
* Regulatory Risk. Regulators may increase capital requirements or change the way a firm’s capital levels are calculated. It’s a good idea to have a bunch of extra cash on hand to hedge the regulatory risk.
* Unwilling Sellers. The values just aren’t there. Banks may whine about illiquid assets, but the problem is that they are still hanging onto distressed debt at levels that make it too risky for Goldman to buy it. It’s the equivalent of Nantucket homeowners refusing to sell at anything below the prices they paid at the boom. Goldman, like our own Henry Blodget, would like to own a cottage in Nantucket but not at these prices.
david goldman also noted the hoarding of high-yielding securitizations in the banking system. thanks to the changes in mark-to-market rules -- again being tested in europe amongst insurers -- banks are not compelled to unwind. this is less a case of goldie mac than of ameri-mac, and it will likely continue until or unless one of two things happen:
- the banks succeed in fully resolving their balance sheet issues -- a process likely to take years;
- the government finds through exogenous events in the treasury market that it cannot fund the backstop it has put in place.