Today is the winter solstice in the northern hemisphere. The spring equinox is in three months' time, on March 20th. If you're a banker at Goldman Sachs, these could be three months of uncertainty and trepidation.
The source of worry is the 'front to back review' of the bank's businesses, which was started in October 2018 by new Goldman CEO David Solomon and his new chief financial officer, Stephen Scherr. In November, Scherr said the results will be announced in the coming spring.
Why is the review necessary? One senior Goldman banker says it isn't: "Trust me, this is just the same thing that happens every year," he says. "It's an annual exercise to make sure that those who are dragging down the return on equity are prepared for a bad bonus, irrespective of how well the firm performed. - And that they work harder next year."
The review is part of Goldman's "optimistically paranoid" stance, he says. "- There's just more hype around it this year because of the new CEO."
Even so, it's hard not to feel that this year's review could lead to harsher actions than usual. Scherr said in November that the firm is taking a forensic look at the revenue potential of each business and comparing this to its expense base before "coming to an assessment very clinically on whether that business is meeting its cost of capital." Scherr didn't say so explicitly, but the implicit threat is that business lines which don't meet their cost of capital will be closed after the equinox in March.
Which business lines? Goldman didn't respond to a request to comment on the review, but it doesn't take a genius to see that fixed income currencies and commodities (FICC) professionals are in the firing line. After a dreadful 2017, FICC seemed to recover its mojo in the first quarter of 2018. However, the third quarter was weak again, with Goldman FICC revenues falling 9% compared to the third quarter one year earlier amidst complaints of low volatility and, "significantly lower net revenues in interest rate products."
It's not a good time for another weak quarter in FICC. Under Goldman's former CEO (Lloyd Blankfein) and former CFO (Harvey Schwartz), the fixed income business was somewhat protected. Both Blankfein and Schwartz had markets backgrounds before assuming executive roles, and Schwartz said repeatedly that Goldman would not pull back from FICC due to a poor year or a few poor quarters because the firm, saw the "value of having a diversified set of global businesses," and the "value of being a leader in these businesses."
That was Schwartz's stance in 2015. Four years later, the fear is that Solomon and Scherr - who are closer to the investment banking division than to securities - will not be so patient with the FICC franchise. The information accompanying Scherr's November presentation helps explain why.
Under Goldman's current strategic plan - set out by Schwartz in September 2017, the firm is pursuing an additional $1bn in FICC revenues by 2020. Scherr's November presentation suggests that the firm is less than a third of the way towards this goal and that FICC is further behind its target than any other GS division. The chart below, from banking analysts at KBW, summarizes the current state of play (as of November) and reflects KBW analysts' skepticism that the $1bn FICC target can become a reality.
KBW's chart on Goldman's 2020 revenue targets, progress so far, and expected success (or not)
For the moment, there is no indication that Goldman shares this skepticism. During his November presentation, Scherr said Goldman was tracking ahead of its targets for the business as a whole and might even increase them. However, there were also intimations that all is not entirely going to plan - particularly when it comes to increasing Goldman's penetration of historically under-serviced client segments.
As the chart below shows (based upon Schwartz's presentation in September 2017 and Scherr's in 2018) Goldman has made no progress at all in increasing the share of its FICC business that comes from corporate clients. This - together with increasing interaction with asset management and banking/brokerage clients - was a key aim of Schwartz's strategy, which portrayed Goldman as over-reliant on fickle hedge fund clients who don't trade in difficult markets. By shifting the business towards corporate clients who trade no matter what, the hope was that revenues in Goldman's FICC franchise would become more stable. Instead, the share of business does with corporates has fallen.
If this sounds gloomy, it surely is. Picking up corporate clients was never going to be easy for a bank without a large corporate lending arm, and Goldman's failure to make headway suggests it's struggling. Accordingly, a resurgence of the sort of 'bad volatility' that encourages hedge funds to sit on the sidelines isn't going to help.
Things may not be that bad. Goldman's FICC revenues rose 18% year-on-year in the first nine months and Scherr may yet look kindly upon the division in his review. If he doesn't, and if return on equity is the yardstick of success, one Goldmanite suggests some areas are much stronger than others. "It's all about return and capital used," he says. "Returns are a function of whether the markets moved and whether we got the right side. The best opportunities this year have been in equities, commodities and emerging markets, while FX and rates haven't seen too much movement." At the same time, he says the most capital intensive areas of the securities business are (in declining order), credit, rates, commodities, emerging markets, FX and equities.
In other words, if you work in Goldman's rates business you might want to spend lightly this Christmas. Early 2019 could bring some unpleasant surprises.