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Target achieved on Goldman short

(STOCK PICK) / 14 May 2012

I had recommended a short on Goldman in mid April on my return from Istanbul with a target price of 105.

Now that Goldman has traded down to 102, what next? While I will cover my shorts here and below 98, I have no illusions that the Wall Street investment bank is headed back to its $125 tangible book value where I first shorted GS. I do not believe that Goldman deserves its premium valuation at 10 times earnings or 0.9 times price/NAV. Frankly, there is no reason why Goldman can trade down to 80-90 or 0.7 times book value, the current valuation of Barclays. If Greece exits the euro, all bets are off. SocGen trades at a shocking 0.4 times price/NAV even now. The fallout from the latest JPMorgan credit trading bombshell will hit Goldman hard, since FICC often contributes two thirds of revenues for a bank once described as an NYSE-listed hedge fund with a small advisory/investment management business grafted on the animal spirits of FICC. Ominously, even FICC client execution levels fell for Goldman, while they rose for Citigroup, adding insult to injury.

The JPMorgan scandal creates new regulatory risks for Goldman at a time when China is slowing, structured credit could well be banned, Europe is on the eve of recession and wholesale funding markets could well freeze again, as they did after Lehman’s failure in 2008. This is the scenario that can well take Goldman down to 85-90. While falling gasoline prices will help consumer growth, I can imagine credit Armageddon if Greece exits the euro. This financials are now bad news. Short on upticks!

The $2 billion loss from JPMorgan’s mother of all mismanaged credit risk hedging strategies makes a mockery of JPMorgan’s boast of a fortress balance sheet. This shocking loss by the epic London trader known as Voldemort in the CIO office that trades proprietary capital takes the swagger out of Jamie Dimon and JPMorgan in front of the world. The Volcker Rule will now smother the money centre banks and investment banks in its chilling embrace.

The $2 billion loss also undercuts Jamie Dimon’s rule as an America’s foremost critic of Dodd Frank regulatory reform. This is not a Lehman moment for a bank that earned almost $19 billion in 2011 but valuation multiples are certain to contract for the shares. It is ironic that Dimon himself pooh poohed concerns about his trading team’s distortions of the credit default swap market as a “complete tempest in a teapot”.

Now even Dimon, the self styled king of Wall Street, concedes JPMorgan has “egg on its face”. JPMorgan’s colossal CDS/credit derivatives are now known to the capital markets, who will now squeeze it. This is LTCM all over again and JPMorgan will trade below its tangible book value of $34, as the “Dimon is invincible” valuation premium evaporates with Q2 profits.

There is another sword of Damocles that could hit bank shares. Richard Fisher of the Dallas Fed has made it clear he wants the biggest US money center banks to be split apart, as too big to fail is too big to save. This is also bad news for Barclays and the credo of Bob Diamond.



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