What things did it reject? The firm doesn’t like to talk about it. It does not want to be seen as disparaging potential clients who might one day want to do business with Goldman again.
One senior executive who has regularly hired Goldman to help with transactions says there’s no doubt the firm has changed. Goldman is now more willing to put reputation before profit. The executive said that Goldman is not being purely altruistic – the firm just knows what works in today’s market.
The new Goldman can even be funny. For many months recently, it has been lampooned by a Twitter account (@GSElevator) that purports to report things heard in elevators at Goldman offices. The anonymous tweeter was invariably unflattering in his portrayal of investment bankers’ gilded lifestyle. (Here’s a recent, tame example: “When life gives you lemons, order the lobster tail.”)
In response, Goldman played the situation for a joke, helping to defuse the situation. When The New York Times revealed in February the identity of the person behind the Twitter account, the firm drolly commented that “we are pleased to report that the official ban on talking in elevators will be lifted effective immediately.”
But funny does not make money. The new Goldman is unlikely to ever be as profitable as the old Goldman. Rather than minting the enormous returns that it regularly did before the financial crisis, its challenge now is simply to earn enough to justify the cost of doing business.
Balancing risk and returns
Goldman’s businesses span trading of all sorts of assets, from bonds to stocks to currencies. The firm will advise on takeovers, arrange financings in stock and debt markets, and help companies hedge by structuring derivatives. Those businesses are all still in demand. In Canada, Goldman is a sought-after merger adviser. The company is adding to its Canadian operations to beef up its ability to trade local stocks.
However, Goldman cannot make as much money as it once did for the simple reason that it cannot take as much risk. Regulators have demanded that banks reduce the use of borrowed money, the key in “levering up” returns. They also demand that firms such as Goldman hold more cash on hand. That means keeping money in low-returning investments that can be turned quickly into cash.
The new rules make the system safer, but kill returns. Goldman’s return on equity, a key measure of profitability for securities firms, is about a third of what it was at its peak. In 2006 and 2007, ROE topped 30 per cent. In the past two years, the key ratio has fallen just shy of 11 per cent. Given that many estimate the cost of equity for Goldman at about 10 per cent – the baseline level of returns that investors demand to own the stock – the returns Goldman is putting up are simply not high enough.
While the stock has been a solid performer in the past two years, analysts are cool on it. Of the 34 analysts polled by Bloomberg, only nine rate it a buy.
Mr. Cohn thinks that returns can and will be higher. He paints necessity as a virtue: “If you take the fact that we think we can get to higher returns than we have now in a much less risky business, it becomes a more valuable business over time.”
To generate higher returns, Goldman will have to find ways out of a competitive squeeze. It’s regulated as a bank, but it has no retail branch network. Thus, unlike rivals such as JPMorgan, it does not have huge reserves of deposits to draw on for funding. Goldman has to borrow money in more expensive money markets to fund its business.
In addition, Goldman has been pushed out of some lucrative trading and securities businesses by regulation. Those are now largely the province of unregulated asset managers.
Goldman must reshape its business to fit this new landscape. For example, the proprietary trading businesses for which Goldman was once well known are gone, shed in anticipation of regulatory crackdowns.
Mr. Cohn worries about the fact that much of the business that was once done by investment banks, and which got investors into trouble, is likely to appear again in the parts of the financial world that regulators don’t touch – the so-called shadow banking system.