Poor Q4 Debt Trading Revenues Not Deterring Goldman From Betting Big On A Turnaround

Investors did not have very high expectations for Goldman Sachs’ (NYSE:GS) fourth quarter results, as a marked reduction in debt trading activity and poor equity market conditions for the period were expected to weigh heavily on the bank’s top line. ^[1] So the fact that revenues fell 5% from the already low figure reported a year ago did not come as much of a surprise to investors. What they were not pleased with, though, was the 5% increase in compensation expenses. Compensation expenses as a percentage of revenues increased to 28% in Q4 2015 – the highest for the fourth quarter in four years. As a result, the bank’s shares dropped about 2% over trading on Wednesday, January 20.

The 5% increase in compensation does not look as bad if you consider the fact that Goldman’s employee count has grown 8% from Q4 2014 to Q4 2015. The bank has increased headcount in its investment management division and also in various back office and support operations, which it believes will improve operating efficiency in the long run. The fourth quarter also brought some good news, as Goldman finally resolved its long-standing legal dispute over mortgage-backed securities (MBS) originated before 2008. While the $5.1 billion settlement resulted in a one-time increase in legal provisions of $1.5 billion in Q4, it resolved the single biggest litigation in which Goldman was involved. ^[2]

Although Goldman’s results have been hit harder than its peers over the last two quarters by weak trading conditions, the bank still commands the largest share in the global securities trading industry. With all major banking giants implementing cuts to their trading operations over recent years (especially their debt trading desks), Goldman’s decision to leave its trading desks unchanged will allow it tighten its grip on the industry once market conditions normalize. This is why we stick to our $200 price estimate for Goldman’s stock, which is around 30% ahead of the current market price.

See the full Trefis analysis for Goldman Sachs

FICC Trading Result Soft, But Goldman Remains Optimistic

Goldman’s fixed-income, currency and commodities (FICC) trading desk generated just under $1.2 billion in revenues in Q4 2015 – 11% lower than the sub-par $1.3 billion figure for Q3 2015, and almost identical to the figure a year ago (after adjusting for accounting gains or losses from   revaluation of its own debt). While a sequential reduction in these revenues was expected given the poor levels of trading activity worldwide, Goldman’s FICC trading desk fared worse than rivals Bank of America (which reported a year-on-year increase of 12%) and Citigroup (which reported an increase of 7%). In fact, the $7.1 billion in total FICC trading revenues for the full year makes 2015 the worst period in this regard since 2008, when the division made just $3.7 billion. However, Goldman continues to believe that the FICC trading industry will soon witness a turnaround. If conditions in the industry actually improve, Goldman is a position to pocket much bigger gains than any of its rivals due to its significantly larger presence.

Goldman’s equity trading desk outperformed the larger FICC unit for the third consecutive quarter to churn out revenues of almost $1.8 billion. This represents a nominal 3% improvement sequentially, although it is 7% lower than the $1.9 billion the division generated last year. The exceptionally strong performance over the first half of 2015 helped total equity trading revenues for the full year reach almost $7.8 billion – making this just the second time in at least 10 years when equity trading revenues were greater than FICC trading revenues (the other instance being 2008).

Slowing Equity Underwriting Levels 

After posting two of its best ever quarterly performances over the first half of the year, Goldman’s advisory and underwriting operations (which include the advisory, debt underwriting and equity underwriting units) reported weak revenue figures for the third and fourth quarters of the year. Total advisory and underwriting fees fell marginally from $1.56 billion in Q3 2015 to $1.55 billion in Q4 2015, although this was 7% higher than the $1.4 billion figure reported a year ago. In comparison, these fees were $1.9 billion and $2 billion for Q1 2015 and Q2 2015, respectively.

With the volume of M&A deals remaining elevated for a fourth consecutive quarter, Goldman’s M&A advisory fees almost touched $900 million in Q4 2015. The bank’s total M&A advisory fees for the year fell just short of $3.5 billion – making it the second best year for Goldman since it made $4.2 billion in 2007. But the reduction in IPO activity seen since the third quarter continued in the fourth quarter too – resulting in equity underwriting fees of just $228 million. Although this is slightly better than the $190 million figure for the previous quarter, it is well below the $342 million in fees seen a year ago.

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More Trefis Research

1. 2015 Fourth Quarter and Full Year Results, Goldman Sachs Press Releases, Jan 20 2016 [↩]
2. Goldman Sachs Announces a Settlement in Principle with the RMBS Working Group, Goldman Sachs Press Releases, Jan 20 2016 [↩]