Goldman most exposed to regulatory reforms: Citigroup

Date: Thursday, June 17, 2010
Author: Reuters

The proposed U.S. financial reforms will hurt Goldman Sachs Group the most, followed by Morgan Stanley, J.P. Morgan Chase and Bank of America, analysts at Citigroup said.

The Volcker rule and the over-the-counter derivatives rules are expected to take the biggest toll on profits of these banks, Citigroup analysts said in a note to clients.

The Volcker rule proposes a ban on proprietary trading by bank-owned units and potentially requires divesting private equity and hedge fund businesses.

The OTC rules seek to redirect the $615 trillion OTC derivatives market to a centralized clearing house, and even require banks to spin off their swaps-trading units.

Citigroup analysts said Goldman's profit could be hurt by 23 percent annually from the new rules, while Morgan Stanley's profit could see a hit of 20 percent.

"We believe the timing of EPS hits, however, will take longer than most investors expect, with multi-year transitions, and minimum of 12 months to see the application of rules by regulators," analysts led by Keith Horowitz said.

The analysts said the regulations would impact Bank of America, JPMorgan, Goldman, and Morgan Stanley the most with a 2 percent impact on average for OTC derivatives rules and a 4 percent impact on average for the Volker rule.

However, uncertainty remains on how regulators are going to interpret the rules, they added.

"In the end it is possible that regulators develop more nuanced views on the topics, dampening the ultimate impact," the analyst said.

"However, the uncertainty and potential leaking out of rule interpretations over time may prevent complete visibility for some time."

Bigger banks are pressing the U.S. Congress for exemptions to a part of the proposed Volcker rule under Wall Street reform legislation, which would curtail their ties to private equity and hedge funds.

Financial giants such as Goldman Sachs, JPMorgan, Credit Suisse and Citigroup have been deeply involved in private equity deals, according to a recent study by professors at Harvard University and INSEAD, an international graduate business school.

The uncertainty regarding the regulations have been a drag on the banks' stocks, and has in fact created an attractive buying opportunity, Citigroup analysts said.

"We see most upside potential in American Express, Bank of America, Goldman Sachs, and State Street Corp."

LIMITED IMPACT TO STOCKS?

Most of the impact on profits have already been factored into the stocks and finality of regulatory reforms should be a modest positive catalyst for the sector, the analysts said.

American Express Co, Bank of New York Mellon, BB&T Corp Comerica Inc and New York Community Bancorp will be the least impacted by the reforms, they added.

Some amendments to the rules will be made, but it is unlikely that all trust preferreds and preferred stock under the bailout program would immediately be excluded from Tier 1 capital, Citigroup analysts said.

The new bills propose raising capital requirements on firms as they get bigger and riskier. Bank holding companies could no longer count trust-preferred securities and other hybrids as Tier One capital, a key measure of a bank's strength, if the rules are approved.