Goldman Sachs profits hit by tax, fine and poor trading

Goldman Sachs' headquarters reflected in a building in New York
Image caption Even ignoring the tax and the SEC fine, Goldman's net income nearly halved

Goldman Sachs has reported a sharp fall in second-quarter profits after being hit by the UK's bonus tax, a US fine and poor trading revenues.

Net income came in at $613m (£404m), down 83% from $3.4bn a year ago.

But even ignoring the $600m accrued tax in the UK, and the US regulator's record $550m fine, underlying profits fell by nearly half.

The result was driven by a drop in revenues from Goldman's traders, which fell 39% from a year ago.

Declining business

Overall, revenues at the firm were down 36% on a year earlier.

"The market environment became more difficult during the second quarter and, as a result, client activity across our businesses declined," said the Wall Street firm's head, Lloyd Blankfein.

Trading revenues in the firm's equities division alone sank 89%.

According to David Viniar, Goldman's chief financial officer, this was due to clients hedging their exposure to possible stock market volatility at the beginning of the quarter.

By providing these hedges, the firm was then left exposed to what proved to be the most volatile market conditions in a year.

The broker-dealer's investment banking department - which provides financial advice and arranges new share issues for corporate clients - also reported falling business volumes.

Mr Viniar blamed clients' "low risk appetite", which resulted in "significantly lower client activity, particularly during the last two months of the quarter"

Markets underwhelmed

Markets were anticipating poor results for the second quarter, which saw the first major market sell-off since the end of the financial crisis.

The big US commercial banks that are active in capital markets - JP Morgan, Bank of America and Citigroup - have also reported falling trading revenues.

However, Goldman's result undershot even these low expectations by about 17%.

The firm's share price dropped 2.4% at the open of trading in New York, following the Tuesday morning announcement, before fully recovering its losses as the wider market rallied back.

"It was a tough quarter - trading was particularly challenging... with unmanageable volatility across markets," said Mark Lane, financial stock analyst at Chicago-based investment firm William Blair.

"But it can change very quickly if markets stabilise or recover."

Bonus pool

Accrued employee compensation for the quarter - which includes the bonus pool - was $3.8bn, down 43% from a year ago.

This means that average accrued pay per employee at the firm for the first six months of the year was $273,000.

The broker-dealer said it had set aside an estimated $600m for the quarter, to cover the cost of a one-off tax on bonuses paid to UK employees.

Exceptional quarter

The other major exceptional item to hit the profit was a $550m fine that Goldman agreed to pay the US Securities and Exchange Commission.

The firm hopes the payment will draw a line under civil fraud charges that it misled investors in a subprime mortgage transaction, although the agreement needs to be approved by US courts.

However, Mr Lane at William Blair points out that Goldman also had one even bigger exceptional item go in its favour during the quarter.

The firm was able to book a $905m gain on an investment in Industrial and Commercial Bank of China, after the expiry of a transfer restriction meant that Goldman could mark the value of its stake up to the Chinese bank's increased market value.

Uncertain impact

Morgan Stanley - which like Goldman is a pure broker-dealer with no traditional deposit taking and lending business - is due to report its results on Wednesday.

Both firms face longer uncertainty over the impact of major financial regulation reforms passed by Congress this month, particularly with regards to their profitable derivatives business and their ability to speculate on financial markets.

Mr Viniar refused to be drawn by a series of analysts' questions on the likely impact of the Dodd-Frank act during a conference call following the release of the results.

"It is too early to quantify the financial impact of the bill," though he implied that the firm would use its usual financial ingenuity to find ways to minimise its impact.

Custody fees

Meanwhile, Bank of New York Mellon - one of the biggest US commercial banks - reported that second quarter net income had tripled from the same period in 2009, as expected.

The bank is the world's biggest custody bank, meaning it looks after the ownership of financial assets on behalf of its clients.

Bank of New York's total $658m second quarter net income was helped by a rise in the total fees it earned for these custody services.

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