During the current economic recovery, Goldman Sachs Group, Inc. (NYSE: GS) kept its basic business model, more so that the other big US banks.
During the early years of the recovery, Goldman did pretty well, outperforming most of its big rivals, with the exception of Wells Fargo.
It's return on shareholder's equity fell to 6.4 percent in 2011, but has been around 10.0 percent ever since.
In the first quarter of 2016, Goldman really got "thumped" with net income falling by 60 percent and its annualized return on equity dropping to 6.4 percent.
A major question that came up in Tuesday's conference call was about whether or not Goldman Sachs needed to change its business model.
Nathaniel Popper of the New York Times begins his article on Goldman's results with this issue: "Goldman Sachs has been betting that it will again see around the next corner better than its competitors. As other large banks have been cutting back the trading and investing businesses that have long defined Wall Street, Goldman has fearlessly stuck to its guns."
Dakin Campbell and Jennifer Surane, in Bloomberg, bring up the same subject: "The results on Tuesday stem from sweeping structural changes buffeting Wall Street and renewed questions about whether firms including Goldman Sachs are doing enough to adapt to the altered landscape. The bank has been trying to wait out a years-long slump in fixed-income trading to win market share and boost profits once conditions improve. But will the industry ever rebound -- and if so, will it be soon enough?"
Wall Street, as I have been arguing since I began this blog, has built up its current culture over the past fifty-five years responding to the inflation and credit inflation that has dominated the United States economy. Government policy, based upon the use of the Phillips curve, has emphasized the use of fiscal and monetary policy to exploit the tradeoff of inflation and unemployment, hoping that the creation of a little inflation will be able to reduce unemployment a little further.
Although many economists have questioned the use of this reasoning in designing economic policies, both Republican and Democratic administrations have basically pursued the same approach. The consequence has been actual inflation from the 1960s into the 1980s and with continued credit inflation, proceeding into the 1990s and 2000s.
The financial sector of the economy prospered during this time as employment in banking and finance grew to new highs in terms of the proportion of the workforce. And, this environment encouraged increased risk taking which included obtaining results from trading in fixed income, commodities, and currencies, increased use of financial leverage, and almost ubiquitous financial innovation.
Goldman Sachs excelled in all these areas.
It seemed like a good bet that the environment of credit inflation would continue after the Great Recession. Budget deficits were still in vogue in Washington and three rounds of quantitative easing at the Federal Reserve seemed to support this belief.
But, after almost seven years of the current economic recovery, it seems as if the environment has changed. As Campbell and Surane write, "The results on Tuesday stem from sweeping structural changes buffeting Wall Street" and the US economy.
And, as Mr. Popper writes "Goldman's reliance on trading and underwriting has made it more vulnerable than other big American banks to the new regulations and volatile markets."
I haven't mentioned the changes in regulations, yet, but the new regulations following the Great Recession have also impacted banks and what they can or cannot do. This certainly is a part of the picture.
So, what about the future of Goldman Sachs?
They have tried cost cutting, as have all the other big banks, and, according to Goldman's CFO Harvey M. Schwartz, they will continue to reduce costs.
Mr. Schwartz, however, emphasized that investors should not "focus too much on one quarter, particularly with the slide in the price of oil and the unstable outlook for interest rates."
In other words, it sounds like Mr. Schwartz is saying that there are not a lot of changes taking place in Goldman's business model.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.