The modest share price dip during the mid-trading session would suggest otherwise. But the headlines on Goldman Sachs’ (GS) solid 2Q18 earnings results looked encouraging, to say the least: Revenues of $9.4 billion beat consensus by a wide $660 million margin, while EPS of $5.98 breezed past the estimated $4.66. Yet, the stock was trading down -1.5% around noon this Tuesday.
A couple of the best explanations that I have found for the initial bearish reaction include:
Earnings benefited from volatile revenue sources and expense cuts, likely viewed as uninspiring. (UBS analysts)
Revenue in Goldman’s trading division, which has long been the firm’s profit engine, missed its target. (Bloomberg’s Stephen Gandel)
The explanations above sound a bit too much like ex post facto rationalization, in my view. Taking just a small step back and looking at Goldman’s numbers more holistically, I note that virtually every sub-segment performed significantly better YOY, following a 2017 marked by low volatility and subdued client activity on the trading side.
Net interest income climbed overall by 27% YOY, aided by the higher interest rate environment. Increased commissions and fees helped to produce a total company bump of 18% in non-interest revenue, with banking, investment management and market making seeing growth in the high teens at least. The marriage of a strong macro-economic environment (reflected primarily in strong IPO and M&A activity, higher investment gains and increased managed balances) with a return to more normalized trading patterns in the markets (helping to support the institutional client services business) seems to be once again helping Goldman Sachs perform robustly across the board.
See the simplified P&L below, which further illustrates the improvement in margins that was in great part driven by tighter personnel expense control.
Source: DM Martins Research, using data from press release
Having said that, any comparison against a record-breaking, trend-turning 1Q18 might make second quarter results look a bit less impressive by comparison. For example, equity and debt underwriting revenues barely grew sequentially, while client execution on the fixed income and equities sides dropped sharply quarter-on-quarter as the sudden pick up in market volatility observed in the first quarter ran its course. I don’t believe expectations for 2Q18 were set too high following a superb start to the year, as evidenced by what proved to be conservative consensus estimates. But perhaps coming off a quarter of peak performance may have convinced some shareholders to cash in their chips and look for opportunities elsewhere.
On the Goldman Sachs stock
Suffering from lack of traction today (and since the beginning of the year, to be fair), GS seems to have entered bargain territory. As the chart and table below suggest, GS now trades at a low 9.9x forward earnings and 0.8x long-term PEG multiples, trailing the peer group average. While recent financial results look robust, Seeking Alpha contributor Renaissance Research appropriately reminds readers of Goldman’s less-than-impressive capital structure, which could at least in part justify the more depressed multiples.
|Company||Fwd P/E||LT EPS ↑||Fwd PEG||Price/Book|
As far as I’m concerned, I continue to favor the higher quality global diversified banks in the financial services space, namely Bank of America (BAC) and JPMorgan (JPM). GS, on the other hand, could still appeal to a few investors, primarily bargain hunters who believe a rebound from lower levels could provide the stock with more upside potential going forward.
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Disclosure: I am/we are long BAC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.