Shares of Goldman Sachs Are Priced Wrong

The Goldman Sachs booth on the floor of the New York Stock Exchange
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The Goldman Sachs booth on the floor of the New York Stock Exchange

Shares of Goldman Sachs slumped badly Monday after we learned that Goldman's chief executive had lawyered up. One thing I am certain of today is that Goldman's shares are mispriced.

And that mispricing means investors have opportunities to make money.

Goldman Chief Executive Lloyd Blankfein has hired Reid Weingarten, one of Washington, D.C.'s top white-collar criminal defense lawyers. Various news organizations are reporting Tuesday that Goldman President Gary Cohn and Chief Financial Officer David Viniar have also hired private lawyers.

No doubt some investors thought it made sense to sell Goldman shares for the simple reason that another risk-factor data point had been introduced. If you were weighing whether to own Goldman stock or not, the reminder that executives at the company are facing serious government inquiries may be enough to tip you into the "sell" camp.

The reaction of investors to this news is far from irrational.

Government investigations can be a costly distraction for company executives. We know that the Justice Department and the Manhattan district attorney have been looking into Goldman. There are countless private suits. No doubt there is at least a couple of investigators from the New York State Attorney General's office, which has files open on Goldman.

You can imagine that this sort of thing makes it hard to effectively negotiate difficult market conditions. So why not sell?

To the extent that there is a lot of uncertainty here, the shares are pricing in that kind of uncertainty. But you don't have to own the shares, or short them. You don't have to decide in advance which way the market will go.

One of two things are going to happen. Either these investigations will lead to serious charges (in which case Goldman's stock goes way down) or they won't (in which case Goldman's shares will likely rise sharply). An investor could make a lot of money using optionsto bet on future volatility in Goldman shares.

There will be a lot of money made on Goldman's shares. I spoke to a small hedge fund manager Tuesday who is hoping it will be him. (He asked me not to name him because he worries about retaliation from Goldman.)

"I'm not betting against Goldman or for Goldman. I'm betting against $106," he said, citing the closing price Monday.

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