GS Financials Positioning for the Next Leg of the Rally
-
Upload
fodriscoll -
Category
Documents
-
view
218 -
download
0
Transcript of GS Financials Positioning for the Next Leg of the Rally
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
1/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
2/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 2
Table of contents
Portfolio Manager Summary: Life after the crisis 3
Thinking about Financials in the context of a portfolio 5A return to micro from macro 10
Theme #1: Provision leverage in consumer loan portfolios 11
Theme #2: Capital management is beginning to be a key differentiator across the sector 14
Theme #3: Capital market should bounce from a disappointing 4Q2009 17
Theme #4: Real estate prices are stabilizing as the hunt for yield hits real assets 20
Short rates are likely to stay lower for longer, but have to go up eventually 26
Regulatory issues likely to remain a topic for the foreseeable future 30
Sector views: Attractive Large Banks, Asset Managers, Homebuilders and Brokers 34
Disclosures 37
GS Financials Equity Research Team
Banks Insurance Asset Managers Market Structure &Brokers
Real Estate/REITs Homebuilders
Richard Ramsden Christopher M. Neczypor Marc Irizarry Dan Harris, CFA Jonathan Habermann Joshua Pollard
Brian Foran Christopher Giovanni Alexander Blostein, CFA Jason Harbes, CFA Sloan Bohlen Anto Savarirajan
Adriana Kalova Eric Fraser Neha Killa Jehan Mahmood
Quan Mai Cooper McGuire Siddharth Raizada
Vikas Jain
GS Financials Credit Research Team Financials Specialist
Banks Insurance and
Managed Care
Financials Sector
Specialist
Louise Pitt Donna Halverstadt Jessica Binder, CFA
Amanda Lynam
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
3/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
4/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 4
Exhibit 1: Top Ideas across the Financials sectorStock ideas from the Financials business unit; priced as of the market close of April 7; $ millions, except per-share data
Key Financials investing themes
Company name Ticker Sector Market cap (current) Price Target price
Upside/downside
to target price
Provision
Leverage
Capital
Allocation
Capital
Markets Real Estate
Buy
Bank of America Corporation BAC Banks 185.0 18.62 20.00 7%
Franklin Resources, Inc. BEN Asset Managers 25.9 112.83 130.00 15%
The Blackstone Group L.P. BX Asset Managers 16.6 14.68 18.00 23%
CB Richard Ellis Group Inc. CBG REITS 3.9 16.23 18.00 11%
D.R. Horton, Inc. DHI Homebuilders 3.8 11.93 17.00 42%
Evercore Partners Inc. EVR MktStructure 1.2 30.68 40.00 30%
J.P. Morgan Chase & Co. JPM Banks 178.7 45.32 54.00 19%
The Nasdaq Stock Market, Inc. NDAQ MktStructure 4.6 21.42 25.00 17%
SunTrust Banks, Inc. STI Banks 14.2 28.53 35.00 23%
Unum Group UNM Insurance 8.4 25.36 26.00 3%
XL Capital Ltd. XL Insurance 6.7 19.47 23.00 18%
Sell
BRE Properties, Inc. BRE REITS 1.9 37.05 25.00 -33% Duke Realty Corp. DRE REITS 3.0 13.01 10.00 -23% Essex Property Trust, Inc. ESS REITS 2.6 94.92 72.00 -24% Federated Investors, Inc. FII Asset Managers 2.7 26.52 21.00 -21%
Hudson City Bancorp, Inc. HCBK Banks 7.5 14.20 13.00 -8% Regency Centers Corporation REG REITS 2.6 38.12 33.00 -13%
For important disclosures, please go to http://www.gs.com/research/hedge.html.
For methodology and risks associated with our price targets, please see our previously published research.
Source: Goldman Sachs Research estimates.
Exhibit 2: GS Financials: Summary of rankings by sub-sectors Exhibit 3: Financials have underperformed since October
Equity Coverage Views
Attractive Neutral Cautious
Asset Managers Credit Cards Life InsuranceBrokers Discount Brokers Specialty Finance
Homebuilders Insurance Brokers
Large-cap Banks Market StructureMortgage InsuranceNon-Life Insurance
Regional BanksREITs
Trust Banks
Credit Coverage Views
Attractive Neutral Cautious
US Banks Insurance
European Banks Mortgage Insurance
5
7
9
11
13
15
17
19
7-Oct-08
7
-Nov-08
7
-Dec-08
7
-Jan-09
7
-Feb-09
7
-Mar-09
7-Apr-09
7
-May-09
7
-Jun-09
7-Jul-09
7
-Aug-09
7
-Sep-09
7-Oct-09
7
-Nov-09
7
-Dec-09
7
-Jan-10
7
-Feb-10
7
-Mar-10
7-Apr-10
600
700
800
900
1000
1100
1200
1300Performance
6-Mar-09 13-Oct-09 6-Mar-09
13-Oct-09 7-Apr-10 7-Apr-10
XLF 146% 7% 165%
SPX 57% 10% 73%
Source: Goldman Sachs Research. Source: Bloomberg, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
5/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
6/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 6
Exhibit 5: Mutual funds are still underweight regional banks Exhibit 6: How mutual funds are positioned within Regional Banks
Position Size (bp)
0
50
100
150
200
Jan-06
Jul-06
Jan-07
Jul-07
Jan-08
Jul-08
Dec-08
Jun-09
Dec-09
Current
Mutual Fund SPX
Overweight/(Underweight)
-140
-120
-100
-80
-60
-40
-20
0
Jan-0
6
Ju
l-06
Jan-0
7
Ju
l-07
Jan-0
8
Ju
l-08
Dec-0
8
Jun-0
9
Dec-0
9
Curren
t
Change in
Current Current Current (bp) Mutual Fund Wgt
Mutual Fund SPX Weight Overweight/ Jun-09 to Current
Weight (bp) (bp) (Underweight) (bp)
BBT 3 21 -18 -7FITB 3 10 -7 1PBCT 0 5 -5 0RF 5 9 -4 4CINF 1 4 -3 -1HCBK 3 6 -3 -2FHN 0 3 -3 -1STI 10 13 -3 4CMA 4 6 -3 3HBAN 1 4 -3 1KEY 4 6 -2 3MTB 4 6 -2 3ZION 2 3 -1 0SNV 0 0 0 0FNFG 0 0 0 0CYN 0 0 0 0MI 6 4 2 5
Source: Lionshare via FactSet and Goldman Sachs ECS Research Source: Lionshare via FactSet and Goldman Sachs ECS Research
Exhibit 7: Mutual funds have largely closed out their underweight position
in Large-cap banks
Exhibit 8: How positioning has changed within large-cap banks since last
summerPosition Size (bp)
0
200
400
600
800
1000
1200
Jan-06
J
ul-06
Jan-07
J
ul-07
Jan-08
J
ul-08
Dec-08
Jun-09
Dec-09
Cu
rrent
Mutual Fund SPX
Overweight/(Underweight)
-300
-250
-200
-150
-100
-50
0
Jan-0
6
J
ul-06
Jan-0
7
J
ul-07
Jan-0
8
J
ul-08
Dec-0
8
Jun-0
9
Dec-0
9
Cu
rren
t
Current (bp) June-09 (bp)
Overweight/ Overweight/ Change
(Underweight) (Underweight) (bp)
BAC 2 -46 47WFC 21 -2 24USB -15 -20 5MS 6 7 -1PNC -1 2 -3
JPM 8 27 -19C -53 -10 -43
Source: Lionshare via FactSet and Goldman Sachs ECS Research Source: Lionshare via FactSet and Goldman Sachs ECS Research
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
7/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
8/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 8
1934 (75 bp). To get to 15% return on tangible equity, we assume that banks are required to hold 8% Tier 1 common capital,
although this is clearly still an area of debate among regulators.
Exhibit 11: Financials mostly trade at a discount to history Exhibit 12: Even adjusting for lower ROE, banks trade at a discount tohistory
Currentmultiple Historical avgmultiple Premium / Discount tohistorical average
Mortgage Insurance (2) 1.2x 1.2x 0%
Life insurance (2) 0.9x 1.7x -48%
Banks (1) 1.9x 2.7x -30%
Non-life insurance (2) 0.9x 1.6x -43%
Market structure 13.3x 23.3x -43%
Asset Managers 17.0x 18.0x -6%
Discount brokers 20.8x 18.4x 13%
REITs 15.9x 12.2x 30%
Average -- -- -16%
Current
multipleHistorical avg
multiple
Premium / Discount to
historical average
Price to Earnings
Industrials 17.7x 11.8x 51%
Materials 17.8x 12.8x 39%
Discretionary 16.8x 13.2x 27%
Energy 13.4x 11.4x 17%
Info Tech 15.5x 18.5x -16%
Average (P/E) 16.2x 13.5x 24% (1): Price / Tangible Book; (2) Price / Book; (3) Price/FFO
Normalized
2010
20092008
2007
200620052004
2003
2002
20012000
1999
199819971996
1995
19941993
1992
19911990
R2 = 73%
-5%
0%
5%
10%
15%
20%
25%
50% 100% 150% 200% 250% 300% 350% 400% 450%
Price to Tangible Book
ReturnonTangibleEquity
Eventually should get back here
We may never see this again
Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates.
One other issue that investors are wrestling with is the impact of dilution on earnings. The dilution in Financials stocks has been
extreme over the last two years, particularly when compared to other sectors in the market. We calculate that shares are up
60% on average across Financials, with most of the dilution being caused by the Banks. Despite the increase in shares, most banks
have not seen a comparable increase in earning assets. Citigroup exemplifies this story; even if pre-provision were to return to its
previous run-rate, earnings per share would still be significantly depressed due to the increase in share count. But in many cases, C
is an extreme example, and even adjusted for dilution, most banks are still trading at a substantial discount to the historical
average. We believe the large caps are trading at a bigger discount to their long-term average earnings multiples than regionals
and thus rate the large cap banks Attractive and the regionals Neutral. See Exhibits 13-15.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
9/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 9
Exhibit 13: There has been significant dilution in Financials over the lastyear
Exhibit 14: Pre-provision shrinkage and increase in share count has resultedin a big decline in normalized earning power
Change in Share Count (2007-2009)
Average* Median
Consumer Discretionary -3% -1%Information Technology -3% -2%Consumer Staples -3% -3%Telecom Services -1% -1%Industrials 0% 0%Energy 1% 2%Health Care 3% 0%Materials 4% 1%Utilities 5% 4%Financials 59% 12%
* market-cap weighted
$0.39$0.62$0.65
$0.30
$0.80
$1.30
$1.80$2.30
$2.80
$3.30
$3.80
$4.30
1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09
ImpliedNorm
alizedEPS
Pro-forma for gov't conversion
0
10,000
20,000
30,000
40,000
1Q08 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09
Shares
(mm)
Gov't announced its intention to convert
into common shares
Source: Goldman Sachs Research estimates. Source: Company data, Goldman Sachs Research estimates.
Exhibit 15: Large banks and regionals are trading at a 24% discount to long-term multiplesprice to normalized EPS by bank, GS-coverage
0.0x
2.0x
4.0x
6.0x
8.0x
10.0x
12.0x
14.0x
16.0x
18.0x
NTRS
PBCT
A
XP M
I
C
YN
BK
RF
FHN
W
AL
HCBK
Z
ION
FNFG
BBT
STT
PNC C
U
SB
HB
AN
C
MA
F
ITB
C
OF
K
EY
STI
B
AC
DFS
W
FC
JPM
MS
PricetoNormalizedEPS
Indicates "Buy" rated stock
Normalized Long-term Avg Difference
Large banks 8.5x 11.2x -24%Regionals 10.4x 12.8x -19%
Average 9.5x 12.0x -21%
Note: regionals ex Northeast. Long-term avg since 1985 where available.
Price to Earnings
Source: FactSet, Goldman Sachs Research estimates..
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
10/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 10
A return to micro from macro
Financials are often considered one of the most macro-driven sectors in the market, with many of the stocks trading in lock-step
with one another (see Exhibit 16). While that has certainly been the case over the last few years, correlation across the group has
started to fall dramatically in recent days (see Exhibit 17). In some ways, this is not surprising; as regulatory fears from earlier thisyear dissipate, investors are starting, once again, to concentrate on the fundamental issues, and realize that there are many ways to
differentiate across the group. While we still see some key themes helping drive returns, many of these are more stock-specific and
cut across sectors (consumer provision leverage and capital management) as opposed to being large macro themes. The upcoming
earnings season should provide investors with evidence as to these differentiating trends and provide opportunities for generating
alpha.
Exhibit 16: Financials tend to be one of the most highly correlated sectorsranked by 5-year percentile
Exhibit 17: Financials correlation is at the lowest level since 2006realized correlation across stocks
ETF S&P Sector Current
1-year
median
1-year
percentile
5-year
median
5-year
percentile
XLF Financials 0.29 0.59 0.02 0.60 0.03
XLY Discretionary 0.19 0.40 0.02 0.40 0.11XLU Utilities 0.34 0.61 0.03 0.54 0.13XLV Healthcare 0.25 0.48 0.02 0.44 0.14XLB Materials 0.27 0.40 0.09 0.42 0.16XLE Energy 0.62 0.63 0.38 0.70 0.21XLP Staples 0.26 0.33 0.38 0.33 0.32
XLK Technology 0.47 0.54 0.22 0.52 0.34XLI Industrials 0.64 0.60 0.60 0.58 0.65SPX S&P 500 0.46 0.38 0.69 0.34 0.76
Note: The percentile is the rank of the current value as a percentage of the total observations.
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Apr-
06
Jun-0
6
Aug-0
6
Oc
t-06
Dec-0
6
Fe
b-0
7
Apr-
07
Jun-0
7
Aug-0
7
Oc
t-07
Dec-0
7
Fe
b-0
8
Apr-
08
Jun-0
8
Aug-0
8
Oc
t-08
Dec-0
8
Fe
b-0
9
Apr-
09
Jun-0
9
Aug-0
9
Oc
t-09
Dec-0
9
Fe
b-1
0
Apr-
10
Jun-1
0
S&P 500
Financials
Source: Goldman Sachs Research. Source: Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
11/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 11
Theme #1: Provision leverage in consumer loan portfolios
The credit cycle is clearly moderating, as non-performing asset formation is slowing and reserves are closer to peak levels.
The improvement is most clear in consumer and commercial (C&I), and should current trends continue, we see potential for
reserve releases later this year. On the other hand, some prime jumbo mortgages and CRE continue to get worse. SeeExhibits 18-21.
Exhibit 18: Credit card delinquencies have been better thus far in 2010 Exhibit 19: C&I defaults have started to slow down as well
2Q09 -13bps
3Q09 +4bps
4Q09 +3bps
1Q10 -12bps
Credit Card
Avg chg delinquency
-30
-20
-10
0
10
2030
40
50
60
Jan06
A
pr06
J
ul06
O
ct06
Jan07
A
pr07
J
ul07
O
ct07
Jan08
A
pr08
J
ul08
O
ct08
Jan09
A
pr09
u
ly09
O
ct09
Jan10
Monthovermonth
change
Ann. Defaults #
1Q09 19.8% 8.2%
2Q09 16.8% 12.1%
3Q09 5.0% 8.7%
4Q09 8.4% 8.3%
1Q10 TD 3.6% 6.5%
Leveraged Loans (proxy for C&I)
0%
2%
4%
6%
8%
10%
12%
Jan-99
Jan-00
Jan-01
Jan-02
Jan-03
Jan-04
Jan-05
Jan-06
Jan-07
Jan-08
Jan-09
Jan-10
Lagging12-monthD
efaultRate
# of defaults
$ of defaults
$
Source: Company data, Loanperformance, Trepp, S&P LCD, Goldman Sachs Research. Source: Company data, Loanperformance, Trepp, S&P LCD, Goldman Sachs Research.
Exhibit 20: Within resi mortgages, prime jumbo is getting worse Exhibit 21: CRE delinquencies continue to trend up
MBS (2006 & 2007 vintages)
-400 bps
-300 bps
-200 bps
-100 bps
0 bps
100 bps
200 bps
300 bps
400 bps
500 bps
600 bps
700 bps
Subprime Op ARM Alt-A Prime
Jumbo
Home
Equity
FRE/FNM
Qo
Q
Change
in30+De
linquency 1Q08 2Q08
3Q08 3Q091Q09 2Q093Q09 4Q091Q10 TD
Avg chg in delinquency
1Q09 +19bps
2Q09 +32bps
3Q09 +37bps4Q09 +56bps
1Q10 TD +80bps
CMBS
-10 bps
0 bps
10 bps
20 bps
30 bps
40 bps
50 bps
60 bps
70 bps
Dec-07
Jan-08
Feb-08
Mar-08
Apr-08
May-
Jun-08
Jul-08
Aug-08
Sep-08
Oct-08
Nov-08
Dec-08
Jan-09
Feb-09
Mar-09
Apr-09
May-
Jun-09
Jul-09
Aug-09
Sep-09
Oct-09
Nov-09
Dec-09
Jan-10
Feb-10
CMBS-MoM
change,60+D
elinquency
Source: Company data, Loanperformance, Trepp, S&P LCD, Goldman Sachs Research. Source: Company data, Loanperformance, Trepp, S&P LCD, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
12/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 12
Consumer credit, in particular, continues to improve, as evident in the most recent credit card master trust data. Total
delinquency was down 6 bp month on month while early delinquencies are down for the fourth straight month (see Exhibit 22).
Since the peak in October, early delinquencies are down 14%. We continue to believe high but stable unemployment leads to lower
delinquency, while seasonally March to May are always strong on tax refunds and other factors. Delinquencies usually fall 8% over
those months. On this theme, we favor the large banks and credit card issuers vs. the regional banks. In particular, BAC and JPM
are our best ideas given leverage to consumer credit improvement and attractive valuation at 7X our normalized earningsestimates.
Exhibit 22: Scorecard stocks with leverage to US consumer credit moderation
DFS 70% DFS 100% DFS 70%
COF 35% AXP 85% COF 60%AXP 23% COF 77% JPM 30%
BAC 6% JPM 51% AXP 30%
JPM 5% BAC 47% BAC 25%
USB 3% USB 40% USB 20%
WFC 2% WFC 29% WFC 15%
Average 16% Average 62% Average 28%
US consumer credit cost as % of
of revenue
US consumer credit cost as % of
total credit cost *
US consumer credit as % of
normalized earnings **
Source: Company reports, FactSet, Goldman Sachs Research.
Looking ahead to earnings, bank charge-offs typically fall over 20% in 1Q relative to 4Q based on data since 1985. Half of this
seasonal decline is driven by declines in commercial charge-offs (C&I) with the remainder driven by commercial real estate and
auto. This year losses look set to fall although by a smaller degree, as C&I is likely in-line with historical seasonal patterns based on
commercial bankruptcies and leveraged loan defaults (although as a caveat, this regression approach tends to undershoot as
losses are peaking), and auto charge-offs have tracked down 12% using monthly data through February from Capital One and
AmeriCredit. Commercial real estate may be the one outlier in seasonality as delinquency data from the CMBS market implies that
commercial mortgage issues are still increasing. See Exhibit 23.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
13/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 13
Exhibit 23: The seasonality of credit losses typically fall over 20% in 1Q vs. 4Q, with improvement in C&I, CRE and autoavg quarter over quarter change in net charge-offs since 1985; left chart on dollar losses, right table on % NCOs (1992 = 1Q 92 vs. 4Q 91)
Year 4Q FY0 1Q FY1 1Q vs. 4Q (bps)
1992 1.86% 1.25% -61 bps
1990 1.90% 1.30% -60 bps1987 1.33% 0.76% -57 bps
1993 1.41% 0.86% -55 bps
1986 1.26% 0.75% -51 bps
1991 1.65% 1.20% -45 bps
1989 1.20% 0.76% -44 bps
1988 1.32% 0.89% -43 bps
1994 0.92% 0.49% -43 bps
2006 0.64% 0.34% -30 bps
2004 0.90% 0.65% -25 bps
2002 1.30% 1.08% -22 bps
2001 0.91% 0.71% -20 bps
2003 1.06% 0.88% -18 bps
1995 0.55% 0.38% -17 bps
2000 0.70% 0.56% -14 bps
2005 0.62% 0.49% -13 bps
1999 0.70% 0.60% -10 bps
1998 0.69% 0.61% -8 bps
1997 0.64% 0.58% -6 bps
1996 0.62% 0.56% -6 bps
2007 0.53% 0.48% -5 bps
2009 2.04% 2.00% -4 bps
2008 0.86% 0.95% 9 bps
Average 1.07% 0.79% -28 bps
-30%
-20%
-10%
0%
10%
20%
30%
40%
1Q vs. 4Q 2Q vs. 1Q 3Q vs. 2Q 4Q vs. 3Q
Avg
Qo
Qch
anges
ince
1985
Source: Federal Reserve, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
14/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
15/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 15
Exhibit 26: Banks pay 30-40% of earnings in dividend Exhibit 27: Normalized dividend yields could be significant
20.0%
25.0%
30.0%
35.0%
40.0%
45.0%
50.0%
55.0%
Jan-9
2
Jan-9
3
Jan-9
4
Jan-9
5
Jan-9
6
Jan-9
7
Jan-9
8
Jan-9
9
Jan-0
0
Jan-0
1
Jan-0
2
Jan-0
3
Jan-0
4
Jan-0
5
Jan-0
6
Jan-0
7
Long-term average = 37%
2004-2007 average = 45%
GS
Normalized
EPS
Peak LT Avg Peak LT Avg Peak LT Avg
BAC $2.40 45% 37% 1.08 0.89 6% 5%
WFC $4.35 45% 37% 1.96 1.61 6% 5%
JPM $6.50 45% 37% 2.93 2.41 6% 5%
USB $2.85 45% 37% 1.28 1.05 5% 4%
PNC $6.50 45% 37% 2.93 2.41 5% 4%
AVG 6% 5%
Div Payout Ratio* Normalized Div Yield on Normal Div
Source: Goldman Sachs Research. Source: Goldman Sachs Research.
Buybacks have also picked up recently since the start of the year, nine companies in Financials have announced new
buyback programs, primarily in the Non-Life Insurance, Market Structure and Asset Management space. We highlight the
groups and stocks that have the highest remaining authorized share repurchases as a percentage of market cap (see Exhibits 28-29).
For these names, completion of these programs has the potential to drive upside and significant EPS accretion.
Exhibit 28: Sectors with the largest remaining repurchase authorizations asa percentage of market cap
Exhibit 29: Buy and Neutral rated companies with the largest remainingrepurchase authorizations as a percentage of market cap
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
InsuranceBrokers
Non-LifeInsurance
SpecialtyFinance
MarketStructure
Brokers
CreditCards
RegionalBanks
Homebuilders
Financials
LargeBanks
AssetManagers
MortgageInsurance
TrustBanks
REITs
LifeInsurance
Remainingbuyback
authorization/marketcap
Company Name Ticker Sector
Remaining
buyback
authorization /
market cap
The Travelers Companies, Inc. TRV NonLifeInsurance 25.5%Arch Capital Group Ltd. ACGL NonLifeInsurance 25.3%Janus Capital Group Inc. JNS Asset Managers 23.2%
Validus Holdings, Ltd. VR NonLifeInsurance 21.8%Moody's Corporation MCO Specialty Finance 20.9%
Meritage Homes Corp. MTH Homebuilders 19.8%Aon Corp. AON Insurance Brokers 19.6%The PMI Group, Inc. PMI Mortgage Insurance 17.7%
Knight Capital Group, Inc. NITE Market Structure 17.0%Platinum Underwriters Holdings PTP NonLifeInsurance 15.5%
Source: Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates.
A il 20 0 U i d S Fi i l S i
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
16/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 16
Our focus on buybacks in the context of capital allocation is largely aimed at identifying supports to both the market and
company stock prices. With these as a backdrop we are aware of investor focus on the impact of buybacks on stocks. Recent
analysis by John Marshall of our Cross-Product team suggests that stocks that announced buybacks during the past year
outperformed the S&P 500 by 290 bp in the four days around the buyback announcement (see Exhibit 30). We have seen this in the
financial space as well. For example, UnumProvident (UNM) and StanCorp (SFG) are smid-cap life insurance companies with
similar underlying businesses (i.e., disability insurance), and while the two traded together for most of the year, SFG can be shownto have significantly outperformed UNM following the announcement of its share repurchase (see Exhibit 31).
There are a number of stocks that we expect will begin to buyback stock this year, including Unum Group (UNM), XL Capital
(XL) and Public Storage (PSA).
Exhibit 30: Stock reactions around share repurchase announcementsThrough February, 2010
Exhibit 31: Shares have reacted favorably to SFGs buyback announcement
3% 3%
-1%
0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
Mar-
09
Apr-
09
May-
09
Jun-
09
Jul-
09
Aug-
09
Sep-
09
Oct-
09
Nov-
09
Dec-
09
Jan-
10
Feb-
10
AVG
4day
return(%)aroundauthorization
Stock return (%) Stock return (%) - SPX return (%)
UNM
SFG
1.0
1.5
2.0
2.5
3.0
3.5
4.0
03/09/2009
03/24/2009
04/08/2009
04/24/2009
05/11/2009
05/27/2009
06/11/2009
06/26/2009
07/14/2009
07/29/2009
08/13/2009
08/28/2009
09/15/2009
09/30/2009
10/15/2009
10/30/2009
11/16/2009
12/02/2009
12/17/2009
01/05/2010
01/21/2010
02/05/2010
02/23/2010
03/10/2010
03/25/2010
IndexedPricePerformance
Announces intention toresume share repurchases
Increased buyback
program
Source: Biryini Associates, Goldman Sachs Research. Source: Factset.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
17/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
18/41
April 7 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
19/41
April 7, 2010 United States: Financial Services
Goldman Sachs Global Investment Research 19
Exhibit 36: Financial sponsor M&A volumes are off to a soft start in 2010Financial sponsor backed M&A announcements ($ billions)
Exhibit 37:but dry powder remains at record levelsCommitted but not yet invested private equity capital globally (as of Dec 09)
0
50
100
150
200
250
300
350
2000Q3
2001Q1
2001Q3
2002Q1
2002Q3
2003Q1
2003Q3
2004Q1
2004Q3
2005Q1
2005Q3
2006Q1
2006Q3
2007Q1
2007Q3
2008Q1
2008Q3
2009Q1
2009Q3
2010Q1
Sponsor
Vo
lumes
($bn)
0%
5%
10%
15%
20%
25%
%oftotal
Sponsor Volumes ($ mn) - left axis % of total M&A - right axis
501
462
379
259
178186
280
163
62
-
100
200
300
400
500
600
2003
2004
2005
2006
2007
2008
2009
PrivateEquityDryPowder($bn)
503
Asia
EU
US
Source: Dealogic, Goldman Sachs Research. Source: Prequin, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
20/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
21/41
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
22/41
Goldman Sachs Global Investment Research 22
While shadow inventory continues to grow, it theoretically does so in part due to anticipation of successful mortgage
modifications. While not yet material to the overall 4.5 million borrowers behind on their payments, the most recent data point
(January HAMP report from the Treasury) suggests some early signs of success (see Exhibit 42). Specifically, cumulative
permanent modifications increased to 160,000, a 75% increase in one month. Furthermore, there are an additional 76,000 loans
which have been permanently modified by the servicers and are pending final borrower approval. While the sum of these two
(192,000) is a mere 3.5% of delinquent mortgages (60 day+), the rate of acceleration is meaningful. In addition, recent news fromBank of America that they are willing to forgiveness principal for borrowers where loan-to-value ratios are above 120% imply that
banks are willing to work with some borrowers, particularly in those circumstances where losses are likely to be significant anyway.
Exhibit 42: HAMP continues to grow which could begin to meaningfully benefit MI losses on a go-forward basisMortgage Insurance Industry Participation in Home Affordable Modification Program
MTG 1,874 5,623 $26,773 $150,546,621
RDN 1,312 3,936 $19,421 $76,444,116
PMI 1,221 3,662 $18,611 $68,150,613
GNW 1,499 4,498 $19,265 $86,665,198
Implied Cure
Benefit
Incremental
Jan. Mods
Reserve
Per Loan=
1Q2010
Implied ModX
0
20,000
40,000
60,000
80,000
100,000
120,000
HAMPPermanentMods(#ofloans)
MTGRDN
PMIGNWOther MIs
Jan. 2010
HAMPMortgage
InsurersHAMP
Implied
Mortgage
Insurers
10,207
66,465
17,860
116,297
4Q 2009
MIs = 15% MIs = 15%
Source: United States Treasury Department, Goldman Sachs Research, company commentaries.
One issue that has come up a lot more recently is rep and warranty charges, which are likely to be a risk to banks earnings this year.Recent data points suggest continued acceleration of put-back requests from the GSEs. Fannie Mae has been driving most of the
volume and the focus is still on the 2007 vintage. A big swing factor, therefore, is whether Freddie Mac steps up its put back rate.
More importantly, this issue will likely last for several quarters / years as its still unclear how much ultimately gets put back at this
point. See Exhibit 43.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
23/41
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
24/41
Goldman Sachs Global Investment Research 24
Exhibit 44: CRE values are still off 30-40% but may be inflectingindexed as of YE-2000
Exhibit 45: Spreads still wide but recent deals show tighter bids can be hitas of March 2010
-10%
-8%
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
Dec-00
Jun-01
Dec-01
Jun-02
Dec-02
Jun-03
Dec-03
Jun-04
Dec-04
Jun-05
Dec-05
Jun-06
Dec-06
Jun-07
Dec-07
Jun-08
Dec-08
Jun-09
Dec-09
100
120
140
160
180
200
Monthly Price Change Index Value (Right Axis)
Recent CRE TransactionsAsset Value Date Cap rate Buyer Seller
Griffin Towers (office) $90.0mn Mar-10 8.1% Angelo Gordon JV Maguire PropertiesColumbia Uptown (apt) 11.8mn Mar-10 5.0% Van Metre Compaies Pennrose PropertiesThe Palatine (apt) 118.0mn Feb-10 4.5% Crescent Heights Monument Realty8599 Rochester Ave ( ind) 12.3mn Jan-10 7.3% KTR Capital Par tners Panattoni Dev' l
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
J
'01
A J O J
'02
A J O J
'03
A J O J
'04
A J O J
'05
A J O J
'06
A J O J
'07
A J O J A J O J
'09
A J O J
'10
100
200
300
400
500
600
10-Year Treasury avg cap rate spread (bps)
Source: Moodys, Real Capital Analytics. Source: Real Capital Analytics, Bloomberg.
Fundamentals In most markets, signs of the bottom for rents and occupancy are emerging and we expect comparisons to
improve on a quarterly basis over the course of this year. For REITs specifically, we expect FFO growth to be flat by year-end and
turn positive in early 2011. Market rents have started to flatten out after a period of steep declines in late 2008 and much of 2009.
That being said, a true recovery may take longer than in prior cycles, as our economists expect the unemployment rate to pick up
over the course of this year and not peak until the first half of 2011. See Exhibits 46-47.
Exhibit 46: FFO year-on-year growth comparison to improve incrementallyin 2010
Exhibit 47: CRE fundamentals lag the broader economy we do notanticipate a recovery until 2012 / 2013
FFO growth by sector 1Q10E 2Q10E 3Q10E 4Q10E 2010E 2011E
Regional Malls -32.9% -16.5% -10.2% -9.5% -18.3% 7.3%
Office -20.6% -19.6% -7.2% 2.6% -16.1% 2.6%
Apartments -20.0% -22.7% -14.1% -2.5% -16.4% 3.8%
Industrial -41.3% -19.9% -15.7% -12.4% -25.7% 5.8%
Shopping Centers -30.6% -18.6% -15.4% -1.7% -18.2% 3.0%
REIT Average -29.1% -19.5% -12.5% -4.7% -18.9% 4.5%
We expect FFO growth to improve onquarterly basis going into 2010 with modest
recovery in 2H and 2011.
4%
6%
8%
10%
12%
14%
16%
18%
20%
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
VacancyRate,bysect
or
Office
Industrial
Multifamily
Retail
CRE fundamentals typically lag the
economy by 18-24 months
Source: Goldman Sachs Research estimates. Source: PPR.
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
25/41
Goldman Sachs Global Investment Research 25
Bank losses The key concern for banks are what losses may ultimately total. To date, banks have recognized losses of about 2.5%,
a fraction of the 7% we expect them to eventually realize. Part of the issue is persistency given the long-tailed nature, we expect it
could take up to 15 years for banks to fully realize the losses on CRE. See Exhibits 48-49.
Exhibit 48: Banks recognized losses are a fraction of what they mayultimately end up being Exhibit 49: It will take 10 years to reach cumulative default
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
7.0%
8.0%
3Q07
4Q07
1Q08
2Q08
3Q08
4Q08
1Q09
2Q09
3Q09
4Q09
G
Ses
t
CommercialMortg
ageLosses:
Cumulativerecognized
todatebybanks
0% 2
%9
%
18%
28%
38%
47% 5
7% 6
4 % 6
9%7
4 % 7
9%
83%
85%8
8%
91%
93%
95%
97%
98%
99%
99%
99%
100%
0%
10%
20%
30%
40%
50%60%
70%
80%
90%
100%
0 1 2 3 4 5 6 7 8 910
11
12
13
14
15
16
17
18
19
20
21
22
23
Years since origination
CREcumulativedefaultprofile
Source: Goldman Sachs Research estimates. Source: PPR.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
26/41
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
27/41
Goldman Sachs Global Investment Research 27
often five years. After that period, the rate is reset and then floats based on a specified index (often the Monthly Treasury Average
(MTA), plus a spread. Currently, payment shock is approximately 30%-40%, which is down considerably from 160% at the end of
2007. Low rates imply that payment shock will fall even further to 20%-30% next year as interest rates stay near zero. Historically,
delinquencies have picked up following the reset, particularly when the payment shock is high. Given that 2010 and 2011 are peak
years for option ARM resets, there is some concern that an increase in rates may result in a new round of losses (see Exhibit 52). A
significant amount of CRE matures over the next few years as well and likely will need to be re-financed.
Exhibit 52: Debt service coverage vs. Loan to value Exhibit 53: Delinquencies positively correlated with payment shock
2007
Origination
Annual cash flow 5 4 -20%
Cap rate 5% 8% 1.6x
Property value 100 50 -50%
Loan 70 70 0%Loan to value (LTV) 70% 140% 2.0x
Loan rate* 5.50% 1.50% -73%
Annual debt expense 4.8 2.9 -39%
Debt service coverage (DSC**) 1.0x 1.4x 1.3x
*Assume 30y amortization schedule, f loating rate LIB+50bp w ith 100bp floor
**Cash f low divided by debt expense
Today Change
0%
10%
20%
30%
40%
50%
60%
70%
1-25% 25-50% 51-75% 76-100% 101+%
payme nt shock at res et
%D
606m
afterreset
Source: Goldman Sachs Research Source: Loanperformance.
One of the biggest beneficiaries of rate increases across the space would be the discount brokers. When the Fed does begin to
tighten its fiscal policy and short-term yields begin to shift higher, net interest margins should move back to more normalized levels.
We estimate that the average EPS effect on the Discounters for the first 100 bp move in Fed Funds/Treasury yields will be roughly
24% on our 2011 estimates (see Exhibit 54). Similarly, a rising Fed Funds rate should benefit security lending spreads at trust banks,
as these companies typically invest cash collateral in LIBOR-based securities but pay out Fed Funds-based rates. Exhibit 55
summarizes how we would be positioned should rates start to increase.
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
28/41
Goldman Sachs Global Investment Research 28
Exhibit 54: SCHW and TRAD most sensitive to a 100 bp shift higher in rates Exhibit 55: The outlook for different sectors when rates rise
2011E EPS Impact % Change
Charles Schwab $0.80 $0.33 41%
TradeStation $0.40 $0.17 41%
TD Ameritrade $1.50 $0.28 19%
optionsXpress $1.30 $0.24 18%
E*TRADE Financial $0.11 ($0.00) (0%)
Average 24%
Note: TRAD estimate based on 100 bps increase in US Treasury yield
Fed FundsBest Interest Income
PerformanceRationale(s)
Discount Brokers Immediate leverage to higher rates
Cards (ex AXP)Business model has become more asset sensitive but it is hard to
pass on to customers with Fed funds above 1%
Below 1%, regionals don't benefit much given interest rate floors
Above 3%, deposit mix shift from non-interest bearing to CDsbecomes a headwind
Trust banks benefit most in a high rate environment after the Fedhas stopped rising rates. The f irst few increases in rates are usually
neutral to negative for trust banks NII.
0% - 1%
1% - 3% Regionals
Above 3% Trust Banks
Source: Goldman Sachs Research estimates. Source: Company data, Goldman Sachs Research.
However, higher rates do not necessarily imply that money market outflows will reverse. In the first quarter, money market
funds saw outflows of nearly $325 billion, approximately 10% of total industry assets or 40% annualized organic decay.
This would mark a record quarterly outflow for the industry. The yield differential between money market funds and CDs remains
at the historically wide level of 125 bp, which is likely to keep pushing investors out of money funds. While higher yields should
theoretically also help money market funds given the more attractive yield, what is important is what is driving the higher rates. If
rates are going up because of inflation concerns, then money markets should see inflows as investors flock to safety. But if rates
rise because of better growth expectations, money markets actually see more dramatic outflows as investors move up the risk
curve. FII is one of the most leveraged names to money market funds, and is one of the key reasons behind our CL-Sell ratingon the stock. See Exhibits 56-57.
April 7, 2010 United States: Financial Services
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
29/41
Goldman Sachs Global Investment Research 29
Exhibit 56: Money market funds are on track to see record outflows in 1Q10Quarterly money market fund flows; 1Q2010 data is quarterized based on 2/18 data
Exhibit 57: The yield differential between MMFs and CDs remains wide7-day annualized MMF yield versus 1-year CD rate
*1Q10 is "quarterized"
-300,000
-200,000
-100,000
0
100,000
200,000
300,000
400,000
500,000
1Q01
3Q01
1Q02
3Q02
1Q03
3Q03
1Q04
3Q04
1Q05
3Q05
1Q06
3Q06
1Q07
3Q07
1Q08
3Q08
1Q09
3Q09
1Q09*
MoneyMarketFlows($mm)
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
50%
A
nnualizedOrganicGrowthRate
Flows (left axis) Organic growth (right axis)
0.0%
1.0%
2.0%
3.0%
4.0%
5.0%
6.0%
Oct-06
Dec
-06
Feb
-07
Apr-
07
Jun
-07
Aug
-07
Oct-07
Dec
-07
Feb
-08
Apr-
08
Jun
-08
Aug
-08
Oct-08
Dec
-08
Feb
-09
Apr-
09
Jun
-09
Aug
-09
Oct-09
Dec
-09
Feb
-10
Money Market Yield 1-Year CD Rate
125 bps
Source: Investment Company Institute, Goldman Sachs Research. Source: Bloomberg, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
30/41
April 7, 2010 United States: Financial Services
i i l b k h C di S i D h B k UBS B d l l i h l i f
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
31/41
Goldman Sachs Global Investment Research 31
international banks such as Credit Suisse, Deutsche Bank, UBS, etc. Based on our calculations, the average gross leverage ratio for
the major US banks could quadruple from the current level (see Exhibit 59). While the leverage threshold has not been set, a
stringent requirement would likely result in further deleveraging at large banks. In addition, under the proposed market risk
framework, risk weighting for most assets held on banks trading books would increase significantly. For example, non-agency
RMBS capital utilization would likely increase to 33% from 5% currently under the new proposal, based on our estimates. RMBS
only accounts for 5% of total trading revenue, and as a result, banks may choose to exit this market as it becomes prohibitively
capital intensive (see Exhibit 60).
Exhibit 59: Basel III gross leverage with no netting of derivatives couldquadruple leverage ratioscurrent leverage (TCE as denominatory) vs. leverage on Basel III proposal
Exhibit 60: Non-agency mortgage could turn prohibitively capital intensiveunder market risk proposalsour estimate of non-agency mortgage revenues currently as % of total acrossindustry, and capital utilization under proposed market risk framework
0x
20x
40x
60x
80x
100x
120x
140x
160x
180x
C BAC WFC JPM MS WFC C BAC JPM MS
LeverageRatios
Current: 19X average
gross leverage ratio
Basel III as proposed:
78X average gross
leverage ratio
M easured as 4Q09 = current, Basel III on a pro-f orma basis with no future earnings, changes in b/s size etc.
Leverage measured using tangible common equity.
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Revenues Capital Utilization
All Other
Mortgages*
* excluding agency MB S
Source: Company data, Goldman Sachs Research estimates. Source: Goldman Sachs Research estimates.
Part of the reason there is such a focus is the potential impact these new capital requirements will have on credit growth. So far this
cycle, bank lending and securitization have shrunk by over $1 trillion, which has been offset by government lending (via Fannie,
Freddie and the FHA). For the longer term, private markets must take up the slack, but at the same time regulatory efforts to make
banks hold more capital or to limit non-deposit liabilities both imply that the banking industry would become smaller, not bigger
(see Exhibit 61).
April 7, 2010 United States: Financial Services
E hibit 61 Wh dit f b k b k / iti ti d th t/GSE
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
32/41
Goldman Sachs Global Investment Research 32
Exhibit 61: Where credit comes from banks vs. non-banks/securitization and the government/GSEsbased on total US mortgage, commercial real estate, consumer and corporate credit outstanding of approximately $23 trillion
Outstanding
($TN)*
% of US
Credit Market
YoY %
Change
YoY $bn
Change
Non-banks + securitization 9.2 40% -12% -607
Bank loans 7.2 31% -7% -552
Government incl GSEs 6.5 29% +8% +495
Total 22.9 100% -3% -664
*: non-financial non-government credit outstanding.
Non-banks and securitization account for biggest piece ofcredit outstanding and credit shrinkage
Private credit is being transferred to Government balancesheet
Source: Federal Reserve, Goldman Sachs Research.
In addition, most proposed bank reforms have been targeted at the large banks. The unintended consequence, in our view, is alikely further reduction in credit availability and liquidity across markets and products.The top 5 banks in the United States (BAC,
JPM, C, WFC and MS) have an almost 60% share of total assets and total liabilities (broadly defined) and about 40% of total loans
and deposits in the United States. Forcing large banks to shrink their balance sheets would disproportionately hit consumer credit
availability and would also be an issue for agency MBS demand. Specifically, the top 5 banks have more than 50% market share of
total credit card outstanding, home equity, other consumer, and C&I. In addition they have +40% of the banking systems holdings
in US Treasuries, agency MBS and mortgages (see Exhibits 62-63).
Exhibit 62: The top 5 banks have more than 50% share of liabilities & assets
top 5 banks as % of total US banking industry
Exhibit 63: The top 5 banks have large market shares across most products
top 5 banks as % of total US banking industry
57%56%
42%
40%
25%
30%
35%
40%
45%
50%
55%
60%
Liabilities Assets Loans Deposits
Top5Bank
s'MarketShare
56%54%
51%48% 47%
45%43%
16%
0%
10%
20%
30%
40%
50%
60%
Cards
(Managed)
Other
Consumer
Home
Equity
C&I US
Treasuries
Agency
MBS
Mortgages CRE
Top5Banks'SharebyLoanType
Source: Company reports, SNL, Goldman Sachs Research. Source: Company reports, SNL, Goldman Sachs Research.
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
33/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
34/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
35/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
36/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
37/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
38/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
39/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
40/41
-
8/9/2019 GS Financials Positioning for the Next Leg of the Rally
41/41