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Goldman Earnings: Unfair Advantage or Trading Prowess?

The friendly folks at CBS Radio woke me up early this morning to talk about a front page New York Times article about Goldman Sachs. In my sleepy, throaty voice, all I could ask is, "Goldman again?"

Goldman will release its second-quarter earnings before the bell tomorrow morning amid high expectations. Analysts expect that the firm earned between $1.8-$2 billion in the March-June period and some believe that the number could be even larger. The pop in earnings likely came from positive results from fixed income, commodities and currencies (FICC) trading operations.

There will be those who rightly acknowledge that Goldman profited with the help of Uncle Sam. I'm not talking so much about the $10 billion in TARP funds, which has already been repaid, but about Goldman being made whole when the government saved AIG. That was the overlooked real story when I appeared on CNN the morning the AIG bonus news broke, but I was prevented from raising the issue--watch the video and you'll see what I mean.

Goldman has also used cheap government money to issue $28 billion worth of bonds. But what everyone seems to be talking about is that the resurgence in Goldman's earnings has more to do with the firm's decision to assume risk when others were too nervous to do so. This includes executing lots of trades based on proprietary computer models, known as high-frequency trading. Think of this as a sophisticated form of day-trading with risk controls in place.

Goldman also benefited from lack of competition: with fewer players in the game, the spreads (the difference between bids and offers) have been wider, allowing for more robust profits for those who have the wherewithal to enter the game.

Where does that leave everyone? Here's how it shakes out:

  • GS shareholders: happy that shares have increased 68% this year to $141.87 (through Friday's close)
  • GS employees: cautiously optimistic that the bonus pool remains in tact through the end of the year
  • Taxpayers: angry that the firm is profiting amid a deluge of rotten news
  • Financial journalists: delighted that there's a story to talk about on a summer Monday morning
Image by Flickr User epicharmus, CC 2.0