If, like me, you had the impression that the financial economy was in serious trouble, then you, like me, were probably surprised to learn that several banks have been reporting record profits, despite the apparent dire straights the financial economy is supposed to be in.
Reporting for Fortune, Colin Barr tells us:
Goldman Sachs reported a much stronger-than-expected first-quarter profit Monday, bouncing back from its worst quarter as a public company.
Goldman (GS, Fortune 500) also set plans to raise $5 billion through a sale of stock, saying it wants to become the first big bank to repay the federal loans extended during last fall’s financial sector meltdown.
In reporting its results a day earlier than expected, New York-based Goldman said it earned $1.81 billion, or $3.39 a share, for the quarter ended March 31. Analysts surveyed by Thomson Financial were looking for a profit of $1.64 a share.
How could Goldman earn such lofty profits?
The firm said the latest quarter’s gains were driven by big profits in its fixed income business, where revenue surged to $6.56 billion – 34% above the previous record.
“Given the difficult market conditions, we are pleased with this quarter’s performance,” said CEO Lloyd Blankfein in a statement.
In addition to the record fixed income revenue, which Goldman said was driven by “strong performance in interest rate products, commodities and credit products,” Goldman also posted $7.15 billion in trading and principal investment revenue.
But Goldman’s principal investments lost $1.41 billion during the quarter, reflecting losses on real estate and a stake in a Chinese bank.
Revenue in Goldman’s financial advisory and investment banking businesses declined by 21% and 30% from a year ago, as dealmaking declined, while revenue in its asset management business fell 29%, reflecting the plunge in stock prices over the past year.
Readers of Fortune will probably take Barr’s account as authoritative, fair, balanced, all the rest, but there are a few details that remain unclear and unreported in Barr’s account.
One: Goldman may have received two sets of insurance payment, one from the taxpayer. As Karl Denninger explains, it appears that Goldman bought credit-default swaps against the default of AIG, but also collected from its AIG insurance policies (after the government bailed AIG out). If correct, what this basically means is that Goldman was paid twice for its risky investments, once when AIG collapsed, then again, when the federal government bailed AIG out. It’s as if you had insured your car, had an accident, collected the insurance money, on the theory that you’d use that money to buy a replacement car, then the government gave you a free car for the hell of it. You would be reporting a good year too, if that happened. To what degree are Goldman’s profits the result of its receiving both taxpayer-subsidized first-order insurance payments and second-order insurance payments?
Two: Floyd Norris at the New York Times reports a more directly fraudulent possibility:
One way [for Goldman to show a profit in this economic climate] was to hide a lot of losses in not-so-plain sight.
Goldman’s 2008 fiscal year ended Nov. 30. This year the company is switching to a calendar year. The leaves December as an orphan month, one that will be largely ignored. In Goldman’s earnings statement, and in most of the news reports, the quarter ended March 31 is compared to the quarter last year that ended in February.
The orphan month featured — surprise — lots of write-offs. The pretax loss was $1.3 billion, and the after-tax loss was $780 million.
Would the firm have had a profit if it had stuck to its old calendar, and had to include December and exclude March?
According to this account, Goldman has used an accounting trick so that it doesn’t have to report its losses for the month of December–that is, Goldman will never have to report its losses from this “orphaned” month. These falsely positive numbers are subsequently driving its stock price up–since investors are apparently unwisely trusting Goldman’s numbers–which will then allow Goldman to buy its way out of TARP.
I suppose all of this alleged mendacity doesn’t bother me if the end result is that Goldman has used an accounting trick to swindle $5 billion from the investing public, though there are lots of pension plans and other effectively non-voluntary allocations of stock that would go into their coffers. Investors would be stupid to get anywhere near Goldman stock, in my view, until the accounting details behind its orphan month become clearer. Such fraudulent cooking of the books should also be illegal, of course, but that’s another story altogether.
But the idea that Goldman got insurance money from taxpayers — via the AIG bailout — to pay back losses it had already bought additional, second-order insurance to cover, then used the taxpayer subsidized profits and resulting stock price gains to pay back its part of the highly unpopular TARP program, all while having gotten basically $10 billion in direct subsidy, with no obligation to repay, from the very same taxpayer — well, that seems less lovely to me. Essentially Goldman is using the posted earnings of one indirect subsidy to pretend it repaid its debt to the taxpayer (since most people, say readers of the Fortune article, would think Goldman only received a subsidy via TARP), and compounding matters Goldman received its indirect subsidy on a risk it had already hedged against.
As Karl Denninger rightly suggests, we need to investigate what exactly has been going on behind the scenes at Goldman.