Those master traders at Goldman Sachs didn’t see it coming, either.
The “flash crash” and the rest of the stock market madness in May and June, as well as the cost of settling an embarrassing civil fraud suit, hammered Goldman’s second-quarter profits. Earnings plunged 82 percent.
The results were Goldman’s worst quarterly performance since the depths of the financial crisis in late 2008, and the first time that it had missed analysts’ estimates in five years.
“It’s rare for them to miss, but it does happen,” said Guy Moszkowski, an analyst with Bank of America Merrill Lynch. “It was a very, very bad operating environment.”
But at $613 million, the investment bank’s quarterly profit was well above the $550 million that Goldman agreed to pay last week to settle fraud claims brought by the Securities and Exchange Commission.
The agency had accused Goldman of misleading institutional investors who bought financial products linked to subprime mortgages that ultimately defaulted. Goldman did not admit wrongdoing but agreed to provide better disclosure to investors in mortgage securities as part of the settlement, one of the largest ever for a Wall Street firm.
On a conference call with reporters Tuesday, the focus remained on the S.E.C’s suit and the after-effects of the settlement. Goldman’s chief financial officer, David A. Viniar, struck an apologetic tone when it came it to the case but insisted Goldman’s sterling image had not been tarnished.
“We acknowledge that we made a mistake, we regret that we made a mistake and we know it was not good for us,” he said. “I can’t tell you if there were calls that we didn’t get; that’s impossible to measure. We feel that our clients have been pretty supportive of us, so far as we can tell.”
Besides the weak trading results, the lackluster numbers also reflected weakness across a range of businesses, including its investment banking unit. “It was really driven by lack of client activity and lack of revenue,” said Mr. Viniar.
In a sign of just how unpredictable investors can be, Goldman’s stock jumped despite the disappointing results, as investors concluded the worst was behind the 141-year old firm. Shares of Goldman rose $3.23, to close at $148.91.
What’s more, Goldman’s employees are on track for what could still turn out to be a very good year. Goldman has set aside $9.3 billion for bonuses and other compensation so far this year — down 18 percent from the first half of 2009 — but enough to equal more than $500,000 per employee at the firm, which has a work force of 34,100.
Goldman’s traders have long aroused envy across Wall Street for their ability to prosper in markets good and bad, but they lost the Midas touch in the spring, especially when it came to trading stocks. As clients bet on rising volatility, Goldman took the other side of the trade, leaving it on the losing end when volatility did in fact surge.
“We didn’t hedge it fast enough,” Mr. Viniar said in a conference call with analysts after the earnings announcement. “Things spiked really dramatically, really fast.”
Mr. Viniar said he did not foresee any changes in Goldman’s top ranks as a result of the settlement. Nor did he foresee the firm giving up the bank status it hastily received after the collapse of Lehman Brothers. As a result of the financial regulatory reform legislation approved by Congress last week, banks will face new restrictions on trading as well as investing in private equity and hedge funds.
The new rules will still permit the kind of trades on which Goldman was caught by surprise, however, because they were done on behalf of clients, underscoring how difficult it will be for regulators to distinguish between proprietary trading and serving customers. Other financial giants, like JPMorgan Chase, Bank of America and Citigroup, also reported disappointing results from their trading operations when they announced second-quarter results last week. Morgan Stanley, Goldman’s longtime rival, is to report its results on Wednesday.
In addition to the $550 million S.E.C. penalty, Goldman also had a one-time charge of $600 million for a tax on industry bonuses that was imposed in Britain.
In the second quarter, net income totaled $613 million, or 78 cents a share, down from $3.43 billion or $4.93 a share, in the same period a year ago. Revenue fell 36 percent, to $8.84 billion from $13.76 billion.
Analysts had been expecting net income of $1.23 billion, or $2.08 a share, on revenue of $8.98 billion, according to Thomson Reuters.
“It’s a weak quarter, that happens,” said Roger Freeman, an analyst with Barclays. “But I wonder to some extent whether any of this quarter’s trading results could be attributed to distractions that management was facing, both around financial reform legislation and the S.E.C. investigation. I wonder if that took away from their focus on markets.”