Banks May Not Be Hurt Much By New Rules, Greece Fears
While the Greek debt crisis and tougher regulations could hurt big financial institutions that invest with their own money, the damage is likely to be short-lived.
How severe the impact will be has become a matter of considerable dispute after analysts watched trading volume in financial markets fade in February after a strong start to 2010.
The drop in trading occurred at the same time US officials began rattling sabers about limiting so-called proprietary trading by Wall Street firms and the European credit situation deteriorated, raising concerns about how the trading houses will fare.
"One of the lasting effects of the financial crisis that we're still working through is that financial regulations are going to be tighter," Kevin Gardner, head of investment strategy at Barclays Wealth in London, said in an interview. "It's not our favorite sector in the stock market for our clients at the moment. We think profitability isn't going to be permitted to rise back to where it was."
It's not just the proposed "Volcker Rule"—which would restrict the investment activities of Wall Street firms and is named for White House economic adviser and Former Fed Chairman Paul Volcker—for the US markets and similar regulations being considered in Europe that have analysts worried.
Rochdale Securities analyst Dick Bove, in an interview with CNBC earlier this week, drew a straight line from the Greek debt concerns to a drop of about 10 percent in February trading after a 20 percent gain in January.
He said volume tanked after the Greece concerns intensified, and his observations led him to cut his first-quarter earnings estimates for Goldman Sachs to $3.99 from $4.88 a share.
"Trading just dried up sector by sector," Bove said. "You saw a big decline in trading activity. As a result of that, all the optimistic forecasts we had the beginning of the year had to go away."
Interestingly, Bove kept his buy rating on Goldman with a price target of $200. In fact, several analysts interviewed for this article felt linking Goldman's struggles to the Greek debt situation was tenuous, but agreed that such firms will face pressures otherwise.
The sentiment that Goldman will still have a profitable year reflects the belief that while short-term damage could hit trading institutions, the businesses that survived the credit crisis in the US, for the most part, have enough weapons at their disposal to soldier on.
Goldman in particular is considered by many analysts to be strongly positioned despite curbs that could come from the Volcker Rule.
"They have the intellectual horsepower, they have the capacity that very few firms have," said Karl Mills, president of JMK Investment Partners in Oakland, Calif. "Goldman shows uncanny ability to do (proprietary trading) over and over again. As long as they're willing to retain intellectual capital that will be able to happen again."
JMK has Blackstone Group as one of its biggest holdings—another institution that will face pressures but should do well this year.
While acknowledging that capital markets activity has "gotten off to fairly lackluster start in 2010," Credit Suisse believes activity will pick up as the year progresses.
It lists Goldman and Blackstone among its favorites, as well as Morgan Stanley , CME Group , Charles Schwab and State Street .
"Retail brokerage trends have proven fairly resilient," Credit Suisse analysts wrote in a note to clients. "Client asset inflows remain stable-to-modestly negative for the traditional brokerage houses but positive for the discount/online channels. We expect the latter to continue to attract new assets at a healthy pace in 2010."
Yet the threat of more regulation lingers, as do fears of a worst-case scenario in Europe where the problems in Greece could spread to Spain, the United Kingdom and beyond.
Even then, though, there could be a positive for the financiers.
"If anything, it could be more positive for US trading," Dave Lutz, managing director of trading at Stifel Nicolaus in Baltimore, said of the European credit situation. "If there are a lot of concerns about sovereignty for some of these countries, you might see money that was flowing into emerging market equity exchanges pulling out toward traditional (markets)."
Indeed, analysts remain fairly sanguine about the big financials despite the various pressures.
Bank of America-Merrill Lynch earlier this week said it's "time to climb" for what it calls the "venti financials," or those with a market cap exceeding $200 billion.
"Financials are fraught with risks (volatility), but we expect it to be the best performing sector over full 2010; benefiting from improved confidence in recovery and lower loan loss provisions," David Bianco, BofA-Merrill's chief US equity strategist, said in a research note.
Another reason why large financials should do well is an expected surge in mergers and acquisitions activity this yearafter a moribund 2009.
Those firms provide the expertise to bring the deals to a close and should benefit substantially as the M&A season kicks into high gear.
"These kinds of companies have the ability to do what others can't do reputationally," JMK's Mills said. "If they are the counterparty you know they are a good counterparty. You're not worried about the deal falling through. You know they have the access to capital."
As business gets back to normal, the public perception damage to the companies also may recover as well.
"If anything (Goldman is) a victim of their own success instead of their incompetence, unlike their brethren," Mills said. "They're a victim of bad PR but that's a better problem to have, really. We wish that everyone had been as smart as Goldman Sachs and shouldn't wish that Goldman Sachs was as dumb as everyone else."