Goldman’s online lending, Brexit plans show risk strategy’s bottom-line focus

July 27, 2016

By Richard Satran, Regulatory Intelligence

(Thomson Reuters Regulatory Intelligence) – Goldman Sachs wants to be known as the best-in-class risk firm. At the start of the year Goldman’s chief financial officer Howard Schwartz told analysts the firm saw bottom-line benefits in its compliance hiring binge while other banks were pulling back or staying pat.

The need for Goldman to have a robust compliance program is obvious after the billions in fines it paid since the financial crisis, not to mention the reputational damage it suffered. But a longer range view of how risk controls fit the firm’s growth strategy began to emerge when Goldman again met this week with analysts to review so-so results for the latest quarter. Chief Financial Officer Howard Schwartz talked about Goldman’s potential to grow in unlikely, and risky, places — saying the firm stands to increase market share in post-Brexit Europe and by expanding into an online lending market hit hard recently by mounting regulatory concerns and credit worries after financial scandal hit the fledgling industry’s largest player.

The firm’s expanding investment in compliance technology worried some investors who wanted to see expenses level off as the post-crash regulatory repairs ran their course. The intervening period illustrates how Goldman’s risk capability means more than image repair.

The risk and compliance profit motive

Goldman’s risk management focus could help it gain market share in post-Brexit Europe where demand for advice is seen on the rise. Schwartz saw upside, as well, in another risky vertical, online lending. Goldman is set to double down in the sector after the industry leader, Lending Club, had its own Brexit event in the form of a loan-reporting scandal that led big bank funds to exit the online lending market.

Online lending hardly seems the kind of venture to replace Goldman’s onetime trading prowess that was producing a legendary string of million-dollar-a-day gains. But it has potential for Goldman, with its ability to assess credit-risks of borrowers to create securities for its affluent investors. Even as a defensive move it makes sense. Goldman’s analysts estimated that $5 billion of bank industry profits are at risk from online firms, which could eventually capture 15 percent of the $850 billion consumer lending market.

There are signs the online lending model is busted. There has been no lack of demand from borrowers. The problem has been a disconnect with credit providers. Lending Club had long ago given up on its idea of creating a self-funding online banking firm. The No.1 player and its competitors flooded bank debt markets with loans of uncertain value and pricing problems, exacerbated by uncertainty over charges that Lending Club altered loan applications. Regulatory concerns are on the rise. The Financial Stability Oversight Council in its annual report released last month said the online growth has been significant enough to put online lending on its radar as posing a potential systemic risk.

The risk and compliance profit motive

Firms like Goldman may be better prepared to deal with cyber security, anti-money laundering, bank lending rules and other difficult challenges in the emerging online lending arena. Even before the Lending Club loan problems triggered a Securities and Exchange Commission investigation and a broader probe of the sector by New York Department of Financial Services regulators, Goldman had seized on the opening for a firm that can nail compliance in the new sector. Staffing up this year with the best available talent, it snatched one of the architects of regulatory oversight at the Consumer Financial Protection Board, Mitch Hochberg, along with recruits from mainstream consumer finance players like American Express, Barclays, and Discover, and online veterans from Lending Club and other startups.

Lesser known data scientists, risk analysts, engineers, customer relations and online marketers have been added, and it acquired General Electric’s online platform and crew. Compliance professionals, to be sure, are mission critical to success in an industry trying to implement controls that have been tested by its sudden growth spurt. Goldman’s much-anticipated new platform due this fall is expected to put a sharp focus on risk metrics and data reliability.

Risk to riches: Beyond Brexit

Risk management is also an essential element of Goldman’s post-Brexit push. Schwartz told analysts the firm was surprised by how quickly markets recovered from their swoon over the Brexit exit. Crisis averted, Schwartz suggested that Goldman, the U.S. firm with the largest share of its business centered in London, could now turn its high exposure there into a positive. Corporations will no doubt pay a premium for expertise needed to manage in uncertain times along the sterling-Euro fault line.

Looking homeward, Goldman faces uncertainty over an upcoming U.S. election in which Republicans have surprisingly called for a return of the Glass- Steagall Act separating commercial and investment banking. Schwartz conceded “this cycle will have its unique aspects to it versus other presidential cycles.”

Goldman chief Lloyd Blankfein had his own cameo in the year’s political drama, calling Bernie Sanders’ political rise in the Democratic presidential primary campaign “a dangerous moment.” This was personal for Blankfein, since the Vermont senator, speaking on the Senate floor, had called him “the face of class warfare” in America. The Goldman chief joked later joked that he and Sanders, whose nomination bid fell short, were both old boys from Brooklyn. Political junkie Blankfein added that he planned to stay out of the election entirely this time since his support would only hurt the (usually Democratic) candidates he normally backs.

As risk assessments go it seemed politically correct.

Transcripts of the analyst meetings referred to in this article can be found here and here.

(Richard Satran is a financial journalist covering daily and emerging issues for Thomson Reuters Regulatory Intelligence.)

(This article was produced by Thomson Reuters Regulatory Intelligence and initially posted on July. 22. Regulatory Intelligence provides a single source for regulatory news, analysis, rules and developments, with global coverage of more than 400 regulators and exchanges. Follow Regulatory Intelligence compliance news on Twitter: @thomsonreuters)

 

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