Will Goldman Torpedo Your Portfolio?

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The SEC's lawsuit against Goldman Sachs (NYSE: GS  ) is, for lack of a better word, gold for the news industry. Goldman is a financial giant, renowned for its smarts, and the suit smacks of conspiracy; it's a financial journalism softball of ridiculous proportions.

But many investors may be reading about this and scratching their heads, wondering whether it has any real significance beyond the delicious salaciousness.

Well, here's the deal: If you're steering clear of big banks and investment banks -- here we're talking about Goldman, along with Morgan Stanley (NYSE: MS  ) , JPMorgan Chase (NYSE: JPM  ) , and their ilk -- then you can let this go in one ear and out the other because it's unlikely that this is going to have much of an impact on your other investments.

However, if you do have your eye on the big bank cartel, then this could be one more reason to tread carefully or backpedal altogether.

The SEC ain't walking softly, but it has a big stick
There were no kid gloves involved when it came to announcing the suit, in which the SEC alleges that Goldman misrepresented the nature of a collateralized debt obligation (CDO) to buyers. The announcement came on a Friday, right in the middle of the trading day. If it were a missile, it would have been a satellite-guided cruise missile aimed right at Goldman's heart.

Unless you're Royal Bank of Scotland (NYSE: RBS  ) -- which ended up losing $840 million on the deal in question -- Goldman's alleged missteps really seem more smarmy than outright illegal.

That's the whole point. The charges aren't terribly damning, and yet the Securities and Exchange Commission, the Democrats, and the media are playing it up as if there were conclusive evidence that Lloyd Blankfein was beating third-graders up to take their lunch money. And that can only mean one thing: The SEC is on a war path.

It makes perfect sense. With egg still on its face from the whole Bernie Madoff debacle, the folks at the SEC want the commission's name to once again strike fear into the hearts of financial evildoers. The biggest and easiest targets are the major investment banks, and thanks to the bravado, hubris, and the general masters-of-the-universe idiocy that pervade Wall Street, finding fodder for the SEC's comeback tour shouldn't be all that challenging.

Reform food
But the potential for other banks to get roped in to the SEC's witch hunt isn't the only reason that the Goldman suit puts an overhang over the financial industry. The suit has also re-energized calls for financial reform.

The fact that the timing of the lawsuit seems almost too picture perfect is already the subject of an internal SEC investigation. But leaving aside the possibility that there was any SEC / Democrat collaboration here, this suit was exactly what reformers in Congress needed to help give new regulations a final push.

I happen to be an unabashed fan of financial reform (and actually think it should go a lot further than it's slated to), but there's little doubt that certain reforms will not be good news for big financial companies.

For one, reformers want to put as much of the derivatives market on open exchanges as possible. The problem is that investment banks like Goldman are able to charge an arm and a leg for structuring and selling derivatives right now precisely because there's no readily available market or standardized contracts. Put it all on open exchanges, and whammo!, profits start shrinking.

The Goldman suit may even create enough momentum so that more stringent limitations end up as law. Senators Sherrod Brown, D-Ohio, and Ted Kaufman, D-Del., have put together the cutely titled "SAFE Banking Act," which -- among other things -- would limit bank holding companies to non-deposit liabilities of no greater than 2% of U.S. gross domestic product. Based on the bill's definition of GDP, that would mean that currently, a bank holding company would be limited to $281 billion in non-deposit liabilities. And for most banks that would mean some serious downsizing.


Current Non-Deposit Liabilities

Potential Required Reduction

Bank of America (NYSE: BAC  )

$1.1 trillion

$846 billion


$1 trillion

$765 billion

Citigroup (NYSE: C  )

$1 trillion

$742 billion

Goldman Sachs

$767 billion

$486 billion

Morgan Stanley

$704 billion

$423 billion

Source: Capital IQ, a division of Standard & Poor's. All data except for Goldman and Morgan Stanley as of March 31. Goldman and Morgan Stanley data as of Dec. 31, 2009.

And these numbers actually understate how much size the banks would have to shed because the Brown-Kaufman bill includes off-balance-sheet items as part of non-deposit liabilities.

Not a big deal, but totally a big deal
The bottom line of the Goldman lawsuit is that while the charges aren't terribly egregious, it's a sure sign that lawmakers are on the hunt for banking scalps. There's always the possibility that this somehow blows over and leaves the financial system intact, but I doubt that'll be the case.

Think I'm off my rocker and that banks are the best stocks out there right now? Head down to the comments section and share your thoughts.

Fool co-founder Tom Gardner doesn't think you should sell. But then again, he's not talking about banks.

Fool contributor Matt Koppenheffer does not own shares of any of the companies mentioned. You can check out what Matt is keeping an eye on by visiting his Motley Fool CAPS portfolio, or you can follow Matt on Twitter @KoppTheFool or on his RSS feed. The Fool's disclosure policy assures you no Wookiees were harmed in the making of this article.

Read/Post Comments (7) | Recommend This Article (9)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 27, 2010, at 5:04 PM, justinjcates wrote:

    I own some BAC & C in my portfolio, which have taken a hit due to this GS Suit. I also own an etf, UYG, which has investments with GS & JPM. Am I doomed?

  • Report this Comment On April 27, 2010, at 6:31 PM, TMFKopp wrote:


    Doomed? I don't know if I'd term it like that, but I'm obviously less than bullish on the big banks.

    When you're investing, it's always key to know exactly why you own a stock. You should understand that company, understand what it does, understand how it makes its money, where growth can come from, and what are the risks.

    One of my biggest issues with the big banks is that they are so darn opaque that it's very difficult to answer these questions -- particularly when it comes to risks.

    If you have a thesis for owning those stocks that you like and believe in, more power to you. If you're blindly speculating, it might be a good idea to either look more deeply into these companies to see whether you really think they're worthwhile investments or find some other stocks that you can understand, evaluate, and determine that they're legitimately good investments.


  • Report this Comment On April 28, 2010, at 1:11 AM, dgmennie wrote:

    "There's always the possibility that this [Goldman lawsuit] somehow blows over and leaves the financial system intact, but I doubt that'll be the case."

    More to the point: Nobody has yet to discover how many other incomprehensable and creative "bad deals" are out there, perepetrated by Goldman and many others on Wall Street who let greed and ego get the best of them.

    Considerable housecleaning remains to be done everywhere. The arrogance of the Goldman crew on TV today was self-serving, discusting, and ultimately irrelevant to the problems at hand. Its like the captain of the Titanic radioing desperately...for lawyers.

    Sadly, Congress must also accept blame for enacting legislation "requiring" lenders to give mortgages to unqualified borrowers in the name of "minority rights" or some other politically-correct nonsense. This has, in the end, only put millions into forclosure regardless of ethic persuasion.

    It will take only a few more economic boat anchors, such as Europe's ongoing failure to deal successfully with Greece, to turn the ongoing recession into a worldwide disaster.

  • Report this Comment On April 28, 2010, at 4:52 AM, TMFKopp wrote:


    re: the TV appearances today... classic line by Viniar when asked how he felt about what Goldman employees wrote over email:

    "It's regrettable that those things were said over email."

    It was one of those moments that was very funny because it was very true. The Wall Street ethos is "do what you need to do, but CYA."


  • Report this Comment On April 28, 2010, at 5:42 AM, sarenjo wrote:

    Goldman clearly violated common ethics, but proving it did anything illegal is a much tougher hurdle to climb. I think bank stocks (especially, JPM and GS) actually are attractive here given all the fear built into them.

    I'm conducting research on how the stock market's volatility has impacted household portfolio allocations over the past two years. The link below will take you to a brief survey. Once you have completed the survey, you will see a graphic of the average portfolio allocation at 3/31/2010.

  • Report this Comment On April 28, 2010, at 6:36 AM, brianc410 wrote:

    The SEC brought this suit against Goldman, not it's clients.

    It's a civil suit.

    The suit was brought on the cusp of financial reform. This is straight out of the dem playbook. Gain populist support for legislation by finding a bad guy.

    Goldman's PE is under 7, they are the most profitable firm on wall street EVER and they are getting bigger.

  • Report this Comment On April 28, 2010, at 10:06 AM, kgeechee wrote:

    "This is straight out of the dem playbook. Gain populist support for legislation by finding a bad guy.

    Goldman's PE is under 7, they are the most profitable firm on wall street EVER and they are getting bigger."

    Typical Repub response! They are bigger and DIRTIER than Dirt! They need to be taken down several notches; just read the emails from the smarty sinners: "we got you and you can't do 'nothing' about it.

    DO SOMETHING REAL BAD TO THEM; all of them. Jail, execution, familycide, American Gulag, GitMo Bay, whatever.

    All US Marines, in my era, trained by "invading" GitMo. Dropped on the beaches and came ashore firing at the enemy. I suggest dropping the Goldman Group offshore a little further, outside the 20 mile limit. Those who make ashore, good for them; those that don't, well, they must have been the ENEMY of the US Investing Public!

    Not many of us left, the US Investing Public, you know. We just stand the ROT on Wall Street.

    "Oh, it's Hard, Oh, it's Hard, it's so Hard, to love a Concept that just can't be True." That's the Free Market concept and it does not work due to the malfeasence of the participants, not the concept.

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