Goldman Sachs Losing Fixed-Income Trading Edge

Monday, 01 Nov 2010 10:37 AM

 

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Goldman Sachs Group Inc. is losing its edge in fixed-income trading, the firm’s biggest business and the one that led to record earnings last year.

The company’s share of fixed-income trading revenue at eight of the largest U.S. and European banks slipped to 19 percent in the third quarter from a peak of 29 percent in the last three months of 2009, according to data compiled by Bloomberg. The gap between industry leader Goldman Sachs and its nearest rival narrowed to $239 million in the quarter, the smallest amount since confidence in credit markets collapsed.

Chief Executive Officer Lloyd C. Blankfein, 56, who once ran the fixed-income unit, hasn’t made any public statement indicating concern that Goldman Sachs’s dominance slipped as client trading fell and the bank cut the risk it’s taking while competitors ramped up their efforts. The company benefited during and immediately after the financial crisis by being in a stronger position than rivals, said Roger Freeman, an analyst at Barclays Capital in New York.

“They gained a ton of market share,” Freeman said. “As firms that made it got back on their feet over the course of last year, the competitive environment picked up and that took some of that advantage away.”

Goldman Sachs generated $3.77 billion from trading bonds, currencies, commodities, interest-rate products and credit derivatives in the third quarter, the lowest amount since 2008. That was $1.46 billion more than the average of the other seven banks, the smallest lead since the second quarter of 2007.

Value-at-Risk

Fixed-income trading accounted for 52 percent of the New York-based company’s $45.2 billion in net revenue last year. This year, it has comprised 51 percent. That compares with 25 percent at Morgan Stanley, 23 percent at Zurich-based Credit Suisse Group AG and 13 percent at Bank of America Corp., the largest U.S. bank by assets. Goldman Sachs’s revenue for the first nine months of the year was $30.5 billion, down 14 percent from the same period in 2009.

The bank’s value-at-risk, or VaR, a measure of how much it could lose in the markets on a single day, slid to $121 million in the third quarter, the lowest since 2006, falling 42 percent from a year earlier. It reached record levels in the first half of 2009, hitting $245 million in the second quarter.

VaR at Credit Suisse, whose CEO said he expects client trading to pick up in coming quarters, climbed 31 percent to 118 million Swiss francs ($119.3 million) over the last 12 months. It increased 4 percent to $142 million at New York-based Morgan Stanley, which has hired about 400 people in its sales and trading unit over the past 15 months.

‘Intrusive Regulators’

“As they pull VaR down, their relative performance has come in, and similarly as you pulled leverage down,” Brad Hintz, an analyst at Sanford C. Bernstein & Co. in New York said of Goldman Sachs. “You have intrusive regulators who are all over them. I’m not certain that it’s in your best interest to be taking risk up at this point.”

David Viniar, 55, Goldman Sachs’s chief financial officer, told analysts on a conference call last month that the firm had lowered its VaR because it didn’t see opportunities to take risk as client trading dropped.

“The world is still not a very safe place,” he said.

Goldman Sachs’s lead peaked in the fourth quarter of 2009, when it had 45 percent more fixed-income trading revenue than its closest competitor, New York-based JPMorgan Chase & Co., which remained profitable throughout the credit crisis.

Dwindling Lead

Since then, its advantage over the second-place bank and over the average of the seven firms has dwindled in each of the last three quarters. In the third quarter, the bank had a 6.8 percent advantage over its nearest competitor, Charlotte, North Carolina-based Bank of America, which reported fixed-income trading revenue of $3.53 billion.

The data include fixed-income revenue at Bank of America, Citigroup Inc., Credit Suisse, Deutsche Bank AG, Goldman Sachs, JPMorgan, Morgan Stanley and UBS AG. The Citigroup figures for 2008 and the first quarter of 2009 were those reported at the time, before the New York-based bank, which took $45 billion in government aid, restated its revenue after splitting its operations into Citicorp and Citi Holdings.

Goldman Sachs’s sales and trading division, which includes the fixed-income unit, is run by David Heller, 43; Edward Eisler, 41; Pablo Salame, 44; and Harvey Schwartz, 46. They have led the group since February 2008.

Michael DuVally, a spokesman for the bank in New York, declined to comment.

Proprietary Trading

Goldman Sachs shares fell 1.3 percent to $161.13 on Oct. 29 in New York Stock Exchange composite trading. The shares are down 4.6 percent this year. That’s a smaller drop than at five of the competitors, while shares of Citigroup and UBS, Switzerland’s largest bank, are up. Goldman Sachs shares are down 35 percent from their high of $247.92 in 2007.

New restrictions on how much of their own money banks can trade may also be affecting the company’s fixed-income revenue, even though the rules haven’t taken effect yet, some analysts said. Goldman Sachs already shut down an equity proprietary- trading group, Goldman Sachs Principal Strategies, to comply with the Volcker rule that President Barack Obama signed into law in July as part of the U.S. financial overhaul.

“They’re trying to wind down their prop trading -- they don’t want their revenue to drop off a cliff the day they suddenly wind it down,” said Christopher Wheeler, an analyst at Mediobanca SpA in London who has a “neutral” rating on Goldman Sachs. “We’ve always known that they couldn’t have the kind of numbers they had purely on the strength of client business.”

‘Pretty Supportive’

Goldman Sachs’s eroding market share coincides with the firm’s efforts to repair damage to its reputation stemming from a Securities and Exchange Commission fraud lawsuit settled in July. Goldman Sachs agreed to pay $550 million and acknowledged it made a “mistake” in providing “incomplete information” in marketing materials for a 2007 mortgage-linked security. The bank’s executives, including Blankfein and Viniar, were also questioned by a Senate panel whose members criticized the company for offering investments to clients even as its traders were betting they would decline in value.

Goldman Sachs executives, including Viniar, have said most of the company’s clients have remained loyal.

“I would say by and large across the board our clients were pretty supportive of us,” Viniar told analysts on a July 20 conference call.

Better Position

Goldman Sachs’s smaller market share reflects a strategy of taking less risk and isn’t a sign that its losing business to competitors, said Sanford Bernstein’s Hintz.

Even with a decline in market share, Goldman Sachs may be in a better position than before the crisis. The bank’s share of fixed-income trading revenue among its competitors -- which, at the time, included Bear Stearns Cos., Merrill Lynch & Co. and Lehman Brothers Holdings Inc. -- was 15 percent in the first quarter of 2007. It climbed to 29 percent in the fourth quarter of 2009, after Lehman filed for bankruptcy and Bear Stearns and Merrill were taken over by competitors.

“Their outperformance has declined, but my guess is there still is a decent pickup in market share that’s been sustained,” Freeman of Barclays Capital said.



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