January 23, 2019

Goldman Sachs looks like a good long bet for 2019

Financial stocks had a terrible time in Q4 2019. Doug Kass likes Goldman Sachs and outlines his reasonings for why it is his favorite large cap stock for 2019.

* For one of the few times since Goldman went public, investors can become a "partner" of Goldman Sachs at a discount to tangible book value. By my calculation, at the time its fourth-quarter results are reported, Goldman's book value will stand at about $187 a share compared to the current share price of $168 a share.

* Assuming a base case of $1.75 billion to $2.0 billion in reimbursement and fines for the Malaysian liability, the market has over-discounted its impact given Goldman's sizable capital base and strong earnings generation. The event likely does not pose an existential risk to the brokerage.

* On Monday Goldman Sachs fired back against the Malaysian government. I expect the litigation to be resolved sooner than later as both parties are incentivized, and there should be limited long-term impact on Goldman. Remember that the Malaysia government has a documented history of being notoriously corrupt.

* While Goldman's leverage has been administered lower by regulators, which has produced lower returns, the brokerage is still Best of Breed. Goldman's employee base is a talented and innovative pool. History has shown the brokerage's strong ability to strike a balance between risk and reward. The current management review of the company's operations (next year is Goldman's 150th birthday) will likely result in a thoughtful going-forward strategy that should improve current returns on invested capital. 

* Goldman Sachs is a prime beneficiary of the business retrenchment of previously large, profitable, healthy and well-regarded but now-crippled European financial institutions (e.g., Credit Suisse (CS) and Deutsche Bank (DB) ). 

* A reasonably high and sustainable profit growth picture lies ahead, absent the earnings volatility (from prop operations) of the past. Slower yet more stable and steady profit streams should be more valuable as the domestic economy matures. 

* Goldman Sachs has beaten consensus EPS expectations over the last four quarters by 15.4%, 24.6%, 28.3% and 16.7%, respectively

* With a market capitalization of $62.5 billion, GS trades at only 1.7x sales, 0.85 of book value and 7.5x projected EPS of $25 a share. Goldman's return on equity (ROE) is about 13.2%. A rule of thumb I sometimes use with financials is that a 10% ROE justifies 1.0x book multiple, so a 13% ROE justifies a 1.3x book multiple, projecting to a value of $247 a share.

With the share price so low, there is optionality that Goldman may go private. 






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