It’s tough out there for Goldman Sachs

0:05Pushkin. Goldman Sachs CEO David Solomon, he's not likable. He's a tough guy with a very short fuse. He dehumanizes you when he talks to you. This is the scurrilous gossip that has appeared in a recent, quite brutal New York magazine piece on Goldman Sachs' CEO. And it's not the only one. Solomon's been having a pretty bad time in the press recently. But today on the show, we got to ask, is it fair? This is Unhedge, the markets and finance show from the Financial Times and Pushkin. I am reporter Ethan Wu here in the New York studio in a very quiet Financial Times office, joined today by Rob Armstrong from sunny Long Island.

0:48Actually, Ethan, I'm coming to you from a janitorial closet at the Goldman Sachs office. Ah, okay. Where I'm listening for tittle tattle to confirm the reporting that we've seen so much of recently. Listeners, the Financial Times will go to no end to get you the deep scoops in this industry, including infiltrating the closets of Goldman Sachs. So Rob, we're talking about David Solomon today and the really horrible time he's had recently. It's not just New York Magazine. It's not just New York Magazine. There has been rough coverage in the Wall Street Journal. Yep. Our own reporters, led by our colleague Josh Franklin, have reported that people are leaving.

1:28Important executives are heading for the exits at Goldman Sachs. So it's been a tough season in print for David Solomon overall. Yes, it absolutely has been. And in the Unhedged newsletter recently, Rob, you wrote a bit of a contrarian take that, hey, maybe Solomon's being scapegoated here. Maybe it's not as bad as it would seem from the headlines. But before we get into that, I think we need to just kind of talk big picture about what we're talking about when we talk about Goldman. What do we think of when we think of Goldman Sachs? And to me, its reputation before and during and after the financial crisis was this kind of like impenetrable fortress of Scrooge McDuck swimming through piles of gold coins, right?

2:10These elite cabal of bankers that always knew how to time the market. People will know the vampire squid quote about Goldman. But that's not totally true in the year 2023. After the financial crisis, there were all these regulations. Goldman has been a publicly traded business since 1999. And in some ways, the banking business is not the hot, sexy thing it was in 2007, 2006. I think that's right. I mean, some point before the financial crisis, the image, the powerful image of Scrooge McDuck backstroking through a pool of gold coins might have been true. There was the famous economist piece that sort of called the top on that image in 2006.

2:54It was called something like, you know, Goldman Sachs on top of the world. And the idea was these are the people who are leading financial capitalism globally. They are in the flow of information. They're making the right calls. They are influencing the big deals and et cetera, et cetera. And a lot has changed since then. Goldman Sachs people will tell you that actually Goldman would have been fined in the financial crisis. It didn't really need a government bailout. Others disagree. But the point is, because of the financial crisis, Goldman Sachs became a bank holding company and was caught in the net of post-crisis financial regulation.

3:42And it became a less dynamic, more highly scrutinized business. That's been a huge change for them. So that's Goldman's reputation. But we should talk about why it's had such a bad time in the press recently. And I think you can break that down into a couple of different categories. One being, people don't like Solomon as a dude. They think he's got an abrasive personality. But there's a couple other issues at hand, Rob. Maybe you could talk through those. So the main operational criticism of Solomon is that he put a lot of muscle and money behind Goldman Sachs' attempt to build a consumer banking franchise.

4:24And that attempt failed very badly. The idea at the outset, and I should note here that David Solomon was not the CEO at the outset of this experiment, the Marcus experiment. It was Lloyd Blankfein. But the idea was twofold originally. One, if we have a more diversified business, Wall Street will love us more. The market will pay more for our shares if we have a more diversified, less cyclical and market-focused business. So one idea was to get the share price up by building up this franchise. The second idea was that it would bring in cheap funding for the business, that consumer deposits would come in, and that's a good, low-cost way to get funding for the entire bank.

5:13Neither of those things turned out to be true. It turned out to be very difficult to compete with established consumer banks. The funding was actually expensive because Goldman Sachs had to pay a lot of money to attract deposits. And the loans they made, for example, through the Apple card business, didn't perform that well. Yeah. Because they had to reach hard to get customers. So they got customers who weren't that credit worth. Yeah. And the whole thing turned out to be expensive and they turned around. So that's the operational complaint. I think one important thing to draw out of the point that you're making, Rob, is that unlike Goldman's main competitors, Morgan Stanley and JP Morgan, Goldman doesn't have some of these more stable businesses like wealth management, where you just take care of some rich people's pile of cash or consumer banking like Chase, which is owned by JP Morgan, where you just earn a bit of a spread on what people put in your bank.

6:09Goldman has these much more cyclical, volatile businesses, like you were mentioning, like trading and investment banking, where you're doing deals between different companies. And so when it tried to build out these businesses, it was really hard. It ran into all these problems. Yeah. No, it's really tough. And you can see the justification. In the post-2008 world, investors just like the boring businesses more. Yes. They don't want to pay up for the exciting, glamorous world of Goldman Sachs. They prefer Morgan Stanley, which has some of the glamour, which does make high profits, but very unevenly tied to a day in, day out business like wealth management.

6:55So Goldman's effort was the correct effort. They were going for something that made sense. It just turned out to be much harder than they thought. And it had a very important side effect for Solomon personally, which it pissed all the partners off in the core Goldman businesses, trading, investment banking. It's like, what are you doing, buddy? We are the hot shops. And you're out there trying to build, what, a credit card business, a deposit business? We're Goldman Sachs. You're spending time and money on this nonsense? Come on. So you can see how the resentment of people who are in those core Goldman businesses builds.

7:45Yes. As the consumer business is tried and the consumer business fails. Yes. I'm glad you brought up resentment because I think that's that's such a key part of the story. And it brings us to the other main criticism of Solomon, which is about pay. An important thing to understand about banking in general, but I'd say especially investment banking, is that you've got to pay these people a hell of a lot of money. And these people are incredibly savvy and know their financial worth, know what they're worth to the marketplace. And they're highly portable. They can just go to JP Morgan or whatever.

8:20And so the fact that they get paid a lot of money is absolutely essential to retaining them. And if pay goes down, they get pissed off and they start resenting the management. The New York Magazine piece I quoted at the top has a very nice paragraph about this, quoting a former Goldman executive. If you are a master of the universe, the only proof that you are a master of the universe is how much money you get paid. Man, that's it. That's it. Right. And think about where David Solomon has to sit. He sits in a little chair and on his left are those partners who are like, pay me. And on his right are investors and the board who are like our stock trades at one times tangible book value, which is very low.

9:07Investors want more. And what giving investors more means in practice is often doing things that are not conducive to paying those partners the money that they want. So he is at the middle of two opposed goals. Yeah. He's balancing two opposed objectives. And every CEO of every business is in this position. There are the spoils that the business creates, the profits, and the executive's job is to decide how much of this goes to the employees, how much of this goes to the shareholders. Yeah. But it's particularly acute, this tension at Goldman Sachs, because the partners are so savvy. Yes. And their skills are so portable.

10:01And so just to zoom out on your big picture point, right? We have all this bad press coverage for Solomon and we have him overseeing a structural shift in Goldman's business at the same time that this tension between shareholders and partners and the staff that work at Goldman is becoming acute with markets turning down. And I think your argument, Rob, if I understand it correctly is that because there are these real tensions in the business model of Goldman that are in some ways not exactly related to Solomon, they need someone to get mad at. They need someone to point and say, this is the man who did it when maybe this is just what it's going to be like for Goldman for some time.

10:44I think you've nailed it there. I mean, summing up, you might say this, being a Goldman Sachs partner no longer places you at the apex of global financial capitalism. Those seats are held by the big shots at the biggest hedge funds, the biggest private equity funds or whatever. So the prestige and power of being a Goldman Sachs partner since 2008 has gone down. At the same time, the tension that the CEO has to manage, which is how are we going to get our investors paid has only grown more acute over time as Goldman Sachs business model grows a bit less popular with investors. And in that world, whoever, whatever poor souls, I'm using the word poor metaphorically here, of course, that whatever poor soul is sitting in the CEO's seat at Goldman Sachs is going to have a target painted on the back of his very expensive suit.

11:50All right, Rob, it's put up or shut up time. Would you buy Goldman Sachs stock today? This is an excellent way to kind of frame the very points we're talking about here. Because on Wall Street, what is the right way to judge a CEO? Right? The right way is, how's the stock done? How is the company performed? Not how many people are calling journalists to bitch. Right. The simple fact is that with one exception, among its peers of global banks, Goldman Sachs stock has done very well. Hasn't done as well as Morgan Stanley, which has been on an absolute rip. But Goldman Sachs over the last five, the last 10, the last 20 years, that stock has performed very well by the standards of global banks.

12:37And what's more, the internal metrics for Goldman Sachs business are pretty good too, in terms of its ability to grow what they call book value per share, which is the equity value of the business divided by the number of shares that's been rising. And look, any Wall Street bank analyst will tell you this, internally, externally, Goldman's performed pretty well. Yep. Even the critics of Goldman Sachs on Wall Street, the bank analysts, they're not telling investors to sell. They're saying buy or hold. I was looking at this the other day. Overwhelming majority of Wall Street analysts have buys on this stock.

13:18A few have holds. There are no sells. Now, if your work had made you cynical, you might think that the reason there's so many buys among Wall Street analysts is that working on Wall Street and saying mean things about Goldman Sachs is not a very good career move. Yes. But still, there's a lot of buys out there and there are buys out there for a reason. Now, there is a more general question. So granting that Goldman Sachs has performed quite well relative to its peers in global banking. The deeper question is, do you want to own a global bank at all? Yeah. Right. Are these good businesses to own?

13:57And there is a case and we've made the case in the newsletter that these aren't structurally terrific businesses. Yeah. So that is something you have to think about. They are highly leveraged. So that makes them a bit volatile. They are vulnerable to systemic risks. The banking business is kind of unique in that your bank can fail because another bank is badly managed. Right. If you know what I mean, that's not true for like machine companies, right? Only in banking, do you really hope that your competitors manage themselves well, right? Because if they don't, their problems are going to become your problem.

14:36So that's unique to banking. It's not a good, good feature. And the returns for all their leverage and all their systemic risk return on equity, not that high in banking right now. So maybe you want to skip the whole group. I think the point is, as banks go, Goldman has done a good job. Solomon may be the worst guy to hang out with personally. Goldman, not the worst bank to own. Correct. We'll be back in a moment with Long Short.

15:11Welcome back. This is Long Short, that part of the show where we go, long a thing we love, short a thing we hate. Rob, I'm maintaining my long on Japan, specifically the economy. I mean, they put up 6 % GDP growth. Japan is one of the fastest growing economies in the world, which is a statement I really never thought I would make, but it appears to be true. At least for now, there's some expected slowing later this year, but 6 % in Japan, I just, it's just what a weird world we live in. Ethan, I am short Rob Armstrong stock picker. That's a good one. And I'll tell you why. I mean, first of all, you know, we made some stock picks for the stock picking contest earlier this year that were based on our recession call.

15:58Those have gone south because, as we know, we're not heading for a recession. But more recently on the show, I had some skeptical things to say about NVIDIA, which just reported this incredible set of earnings. And I am starting to wonder if what I thought was a simple case of Wall Street euphoria or hysteria is actually a really good fundamental story at NVIDIA. So once again, I have to be very humble and skeptical and short my own ability to predict how a company is going to perform. Yes. Listeners, if you're actually investing money out there, you should just take what we say, the calls we make, do the opposite, and let us know how it goes.

16:50There's a decent chance you'll make some money. All right, Rob, thanks for being here. We'll have you back soon. And listeners, we'll be back in your feed on Tuesday with another episode of Unhedged. Catch you then. By the way, if you like the show, We'd really appreciate it if you left us a five-star rating on Apple Podcasts, Spotify, wherever you listen. It really does help get the word out there. And if you're not already subscribed, I just don't know what you're doing. Unhedged is produced by Jake Harper and edited by Brian Erstat. Our executive producer is Jacob Goldstein. We had additional help from Topher Forges.

17:27Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, and Jess Trulia. FT Premium subscribers can get the Unhedged newsletter for free. A 90-day free trial is available to everyone else. Just go to ft.com slash unhedged offer. I'm Ethan Wu. Thanks for listening.