Goldman Sachs (NYSE:GS) exceeded investors' expectations when they released their earnings report on Wednesday, January 16, 2013, reporting a net earnings of $2.8 billion in the 4th quarter of 2012. That increased their earnings per share to $5.60, a big increase from $1.84 in the 4th quarter of 2011. Share prices closed the day at $141.09, a 4.06% increase, which means that Goldman is finally trading above book value. However despite their increased profitability, Goldman still faces the same problems that held it under book value for so long.
While Goldman's investment banking and investment management departments were able to perform very well, they remain vulnerable to regulation in a way that other banks with large commercial lending departments are not. Goldman does not have the same exposure to consumers that competitors like JP Morgan Chase (NYSE:JPM) do. By not engaging in commercial lending and mortgage banking like JP Morgan does, risk factors like increased government oversight and adverse economic conditions put Goldman Sachs in a more delicate situation.
Like Goldman Sachs, JP Morgan also released their earnings report on Wednesday, January 16th, 2013. JP Morgan also exceeded expectations, increasing their earnings per share to $1.39 from $0.90 in the 4th quarter of 2011. This is not as extreme as a jump as Goldman's, which was reflected in the share price only rising 1.01% after earnings, compared to Goldman's 4% jump. What investors did not realize though is how big the jump was in profitability when it came to real estate investments. Mortgage banking had a net income of $418 million, as opposed to a $269 million loss in the 4th quarter of 2011. Mortgage production's net income increased to $789 million, a jump of $628 million from last year. Real estate portfolios reported a pre-tax income of $812 million, up from a loss of $18 million last year.
This exposure to the housing is what makes the difference to me in choosing which bank is a better pick going forward. They are both trading around book value, both beat estimates for earnings, and both are trading near 52-week highs. While Goldman Sachs has the same business model as before the financial crisis, JP Morgan's model may be better going forward. While JP Morgan has been held down by unprofitable real estate holdings since the housing market crashed, a pickup in private sector hiring and in the housing market has put them in a good position to remain profitable in coming years. With the Federal Reserve tying fiscal policy to unemployment/inflation, it seems that the housing market will be boosted by further balance sheet expansions, making it a good thing to bet on.
Variant View: Further tax increases and spending cuts by the Federal government will hurt the U.S. economy, which makes them risk factors for both JP Morgan and Goldman Sachs. Increased regulation of the financial services industry is more of a possibility with a second-term president who does not have an election to worry about. Further fighting over the debt ceiling hurts investor confidence, and more downgrades of U.S. debt are a possibility that would harm both banks.