Goldman Sachs has long faced accusations of being a massive hedge fund with private equity business dressed up as an investment bank. If so, it is not being valued like one.
Fortress Investment Group recently went public and jumped to a heady rating of 30-times earnings. Heavyweight alternative asset manager Blackstone is poised for an initial public offering that some believe will give it a valuation of $40bn or more.
Goldman, meanwhile, has a market capitalisation of about $90bn and trades on 10 times earnings.
Yet, according to recent filings it has $147bn of “alternative” assets under management compared with Blackstone’s $79bn and asset management is only one part of the overall Goldman group.
There are plenty of potential reasons for the apparent discrepancy. Blackstone could be viewed as having more growth opportunities. It might have a better track record of investment returns from its funds (something Goldman does not reveal).
Goldman has a broad range of businesses that include sales and trading, investment banking and asset management.
Those produce different levels of returns and in some cases put large amounts of the bank’s own capital at risk. While Blackstone does not look poised to become a beacon of transparency itself, there has long been the justifiable gripe that Goldman’s trading business ressembles a black box that spits out profits without investors fully understanding where they come from.
The current wave of euphoria that has encouraged leading alternative asset managers to go public – or crystallise value in other ways – risks making Goldman turn a nasty shade of green.
If the likes of Blackstone do achieve hefty valuation multiples and sustain them for a while, Goldman will no doubt want more of the glow reflected in its own business.
One option is to do what the bank would no doubt advise its clients to do: spin off the alternatives group. That would give it a clear market value. (It would also remove the potential conflicts of interest created by owning a huge private equity fund within the bank.)
Realistically, though, Goldman is unlikely to relish losing control of such a fast-growing and lucrative business. It would also argue it gets real benefits from having it in-house.
The other option is selling a partial stake. That is messy. Moreover, such structural engineering often ends with the business simply being bought back into the parent when the craze that precipitated the change in the first place comes to an end.
There is, after all, a decent chance that life becomes more difficult for private equity, some buy-outs go bad, hedge fund returns get squeezed and alternatives lose some of their allure.
The easiest option would be for Goldman to take the boom in alternative asset management as a sign that it is time for more transparency.
If it believes it is being short-changed on valuation it could give more detail on exactly how it generates profits in its different businesses. In that way, investors could get more comfortable with the mechanics of the group (even if that meant seeing the gut-wrenching volatility in some areas). This would also give investors a clearer view of what the sum of Goldman’s parts is really worth.
The fact that alternative asset managers currently enjoy such high valuations does not mean Goldman is necessarily undervalued.
There must be a sneaking suspicion that, for the likes of Fortress, investors are over-optimistically factoring in a strong record of investment returns well into the future and that those will yield a tasty stream of incentive fees.
For Goldman, investors continue to assume – probably correctly – that it remains subject to the ups and downs that have always plagued Wall Street. That said, its long-term track record in making money from investments is hardly shabby.
Big structural change is unlikely unless it is forced on Goldman. Even without that, it can easily give investors more information about its businesses to let them make an informed decision on whether its investing capabilities are being appropriately valued.
The risk would be limited and the cost minimal. There would be no big upheaval and Goldman might just benefit from investors actually being able to understand how it makes its money.