GOLDMAN SACHS Investment Category: Income Sector: FINANCIAL Fixed Income Research Evan Marks, CFA January 17, 2018 Company Overview The Goldman Sachs Group Inc. is a bank holding and a global investment banking, securities and investment management company. The company provides a range of financial services to customers, including corporations, financial institutions, governments and high-net-worth individuals. Appropriate for Income Recommendation We consider bonds of Goldman Sachs Group to be an appropriate holding for investors seeking Income within a well-diversified portfolio. Edward Jones Credit Strength Assessment Parent Credit Ratings Moody's... A3/Stable S&P... BBB+/Stable Fitch... A/Stable Financial Data Debt/Capital... 71% Total Debt/Equity... 298% Earnings to Fixed Charges... 2.6x U.S. Recommended Corporate Bond Sector Weightings Financial (30%- 45%) Utilities (10%- 25%) Industrial (35%- 55%) Investment Summary Goldman Sachs is a premier investment banking firm whose financial condition was negatively impacted by the financial turmoil of 2007 2008; however, Goldman has strengthened its financial position over the past several years as the firm has increased its capital and deleveraged its balance sheet. While Goldman Sachs' business model remains more exposed to another market downturn or a risk- management lapse, we believe the firm has taken many positive steps to reduce its overall risk profile. While we remain concerned about Goldman's reliance on short-term funding and the potential riskiness of Goldman's assets, we believe that Goldman Sachs' current financial position is sound with the ability to continue to pay interest and principal payments. Bond Strengths Solid financial position with strong capital levels and high levels of short-term liquidity. Significant deleveraging over the past couple of years. Lower leverage is generally viewed as positive. Strong risk-management culture and procedures. U.S. Recommended Bond Ladder Short-term (up to 5 years) 30%- 40% Intermediate-term (6-15 years) 40%- 50% Long-term (16+ years) 15%- 25% Leading market position within global investment banking. Bond Weaknesses Moderate reliance on short-term funding sources, which makes the confidence in Goldman Sachs financial position important and exposes Goldman Sachs to moderate funding risks. If Goldman is unable to fund its business in the short term, this would materially impair Goldman's business. The potential to be more exposed, in our view, to market-related and counterparty risks relative to other financials, and experience higher losses if we see severe market dislocations. A business model that is less transparent than peers because of the nature of its trading and principal investing operations. Please see important disclosures and certification on page 4 of the report. Page 1 of 5
Improved Financial Position Recent News and Analysis 1/17/18: Goldman Sachs reported fourth-quarter adjusted earnings of $5.68 per share, ahead of analysts' expectations. The results exclude a $4.4 billion charge taken in the quarter related to the recently passed tax reform. The upside compared with expectations that was driven by strong investment banking results and better-than-anticipated net interest income, which offset much weaker-than-anticipated trading results. Fixedincome, currency and commodity (FICC) trading results declined 50% compared with the same period a year ago, with the current quarter's results nearing the lowest levels in a decade. Goldman Sachs announced that its regulatory capital declined during the quarter. From a bondholder's perspective, Goldman Sachs produced a mixed quarter as its overall results were solid but masked some concerning underlying trends in some businesses, and capital levels declined. Expenses were down roughly 1% year-over-year largely due to lower compensation expenses. Goldman's trading revenue declined much more than peers and is a bit concerning because it has generally been weaker than peers for the better part of a year. The firm has outlined plans to address areas of opportunity in the business in the next few years, and we will continue to monitor its progress on this front. Goldman Sachs' regulatory capital declined during the quarter, but, in our view, remains adequate. We continue to consider bonds of Goldman Sachs to be an appropriate holding for investors. 2/15/17: Fixed Income Research has increased its credit strength assessment of Goldman Sachs to Average from Below Average. Goldman Sachs has reduced its reliance on short-term funding, greatly increased its deposit-gathering capabilities, reduced leverage, and increased the amount of liquid assets it maintains on its balance sheet. The firm has also built one of the stronger capital positions among its peers. We believe the firm's improved funding model and reduced overall risk appetite, combined with its demonstrated strong risk-management cultures and procedures, should allow the firm to continue to generate solid profitability while managing the amount of potential operating performance fluctuation through the course of an economic cycle. As a result, we believe that Goldman Sachs has average credit strength and that its bonds remain an appropriate holding for investors who seek income within a well-diversified portfolio. Company Outlook Leading Market Position Goldman Sachs is one of the leading investment banks in the world. Goldman has leading market positions in several investment banking categories such as trading, securities underwriting and mergers and acquisitions advice. We believe Goldman's industry-leading positions are sustainable given Goldman's talented employee base and the strong riskmanagement discipline that we believe has become part of the culture at Goldman. Goldman Sachs converted to a bank holding company during the midst of the financial services turmoil to allow it access to government funding. As a bank holding company Goldman is required to hold minimum levels of capital and is subject to more regulatory oversight. Goldman's financial position has improved quite a bit over the past few years as earnings have rebounded. We would also note that Goldman only lost money for one quarter during the financial turmoil, a testament to its strong operations. Currently we believe Goldman's financial position appears favorable when compared with other bank holding companies. Current Basel III Common Equity Tier 1 Ratio (%) Current Basel III Common Equity Tier 1 Ratio (%) 13.0% 12.5% 12.0% 11.5% 11.0% 10.5% 10.0% 9.5% 9.0% 8.5% Q214 Q414 Q115 Q315 Q415 Q216 Q316 Q117 Q217 Q417 Deleveraged Balance Sheet 18% 16% 14% 12% 10% 8% 6% CurrentCET1 Ratio CET1 Required Ratio MS C JPM WFC BAC GS, Edward Jones estimates Goldman Sachs has attempted to reduce its overall risk by holding more capital, which we discussed above, but it has also attempted to reduce risk by deleveraging its balance sheet. Leverage refers to the amount of assets held versus the amount of capital. Think of leverage in terms of buying a house: The more money you put down, the less you are leveraged. Goldman has deleveraged its balance sheet by reducing its assets and also by increasing its capital. The result of this deleveraging should result in a less risky balance sheet and a stronger overall financial condition. Moderate Reliance on Short-term Funding, Partially Offset by Rising Liquidity Based on the nature of Goldman's large trading business, Goldman relies more heavily than peers on short-term funding to facilitate its operations. A sudden loss of confidence in Goldman, or a market dislocation, could result in loss of funding for a period of time. Funding and liquidity is of critical importance to Goldman and others in the financial services industry. Most failures of financial companies have occurred in large part due to insufficient funding and liquidity. To offset the potential loss of funding, Goldman has made a conscious effort to increase the size of its liquidity pool, which has grown from $61 billion at the end of 2007 to over $219 billion currently. This liquidity pool consists primarily of U.S. government securities and cash and could be used for a short period of time if Goldman were to lose access to funding. Goldman has also decreased the amount of level 3 assets (which do not trade in a liquid market and can be difficult to sell) it carries on its balance sheet. Page 2 of 5
Level 3 Assets as a % of Total Assets 9% 8% 7% 6% 5% 4% 3% Rising Liquidity 250 200 150 Billions 100 Global Core Liquid Assets GCLA as a % Of Total Assets 40% 35% 30% 25% 20% 15% We believe Goldman Sachs' credit strength assessment is Average. This is due to an improved capital and financial position along with reduced risk exposures and a more balanced revenue stream. These factors help to offset the more volatile nature of Goldman Sachs' earnings when compared with other credits. 2% 1% 50 10% 5% 0% Q407 Q308 Q209 Q110 Q410 Q311 Q212 Q113 Q413 0 Q407 Q308 Q209 Q110 Q410 Q311 Q212 Q113 Q413 0% Business Model Less Transparent While financial services companies in general are somewhat opaque and it is difficult to know the exact risks that are being taken, we believe Goldman Sachs' model is less transparent and has the potential to generate significant risks that could negatively impact its financial position. Goldman's large trading business, while primarily only executing transactions, does allow for the ability to put some of its own capital at risk. While Goldman's track record is very good, the potential risk of this activity could lead to significant losses, which could impact Goldman's financial position. Industry Outlook Goldman Sachs operates in four main business segments investment banking, trading, principal investing and lending, and asset management. Investment banking involves Goldman advising companies and underwriting debt and equity. Trading is Goldman acting as a market maker for a number of products and also risking its own money in trading. Principal investing is investing Goldman's own money; this is primarily in real estate. Goldman also offers loans and houses its banking operations within its principal lending segment. Asset management involves managing and servicing assets for others. The industries that Goldman operates in are generally viewed as competitive with many large financial firms such as Morgan Stanley, JPMorgan Chase, Bank of America and Citigroup participating in all or parts of these industries. Financial Strength We believe Goldman Sachs' financial position is sound. While the company was impacted by the market dislocation associated with the financial turmoil, it was hurt less than many of its financial services peers. Goldman has taken steps to deleverage its balance sheet and strengthen its financial position. We believe these steps have left Goldman Sachs well-positioned to continue to meet its debt obligations. Edward Jones clients own both senior and subordinate debt of Goldman Sachs, with subordinated debt ranking lower and having a one-notch-lower credit rating. Edward Jones Credit Strength Assessment Page 3 of 5
Required Research Disclosures January 16, 2018 BUY HOLD SELL Corporate Credits 0% 89% 11% Investment Banking Services 0% 21% 0% The table lists the percent of corporate credits we follow globally in each of the equivalent rating categories. We do not assign a "Buy" rating to any corporate credits. Investment banking services indicate the percentage of those subject companies that have been investment banking clients within the last 12 months. Appropriate for Income Appropriate for Aggressive Income Sell FYI Appropriate for Income We consider bonds Appropriate for Aggressive Income We consider Sell We recommend investors sell these bonds. We FYI - For informational purposes only; to be an appropriate holding for investors seeking Income within a well-diversified portfolio. Our time horizon is 3-5 years. bonds appropriate only as a small Aggressive Income portion within a well-diversified portfolio. Bonds within this category are riskier, with a higher possibility of loss due to default, than bonds classified as Income. Our time horizon is 3-5 years. believe these bonds are no longer an appropriate fixedincome holding because, in our opinion, they offer an factual, no opinion. unattractive risk/reward scenario at current prices. Our time horizon is 3-5 years. Initiated Coverage (Appropriate for Income) 12/23/10 Analyst Certification I certify that the views expressed in this research report accurately reflect my personal views about the subject securities and issuers; and no part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views contained in the research report. Evan Marks, CFA Edward Jones has received compensation from this company for investment banking services within the last twelve months. Edward Jones has provided investment banking services for this company within the past twelve months. Edward Jones has received compensation from this company for providing non-investment banking securities-related services within the past twelve months. The member or its affiliates have a banking/borrowing relationship with this company. This company, or an affiliate, is a Program Bank in the Edward Jones Insured Bank Deposit Program. Edward Jones transfers available cash balances in client accounts into FDIC insured deposit accounts at Program Banks. Edward Jones receives a fee from each Program Bank based upon total balances on deposit. This company, its parent or an affiliate is a product partner of Edward Jones. Edward Jones received both standard compensation and reimbursement for certain expenses as well as additional financial and non-cash incentives and benefits for non-investment banking services in connection with the sales of financial products from this product partner within the past twelve months. Analysts receive compensation that is derived from revenues of the firm as a whole which include, but are not limited to, investment banking, sales, and trading revenues. Edward Jones trades as principal in the debt securities that are the subject of this research report. Other Disclosures This report is a product of the Edward Jones Fixed Income Research Department. All investment decisions need to take into consideration individuals unique circumstances such as risk tolerance, taxes, asset allocation and diversification. Before investing in bonds, you should understand the risks involved, including interest rate risk, credit risk and market risk. Bond investments are subject to interest rate risk such that when interest rates rise, the prices of bonds can decrease, and the investor can lose principal value if the investment is sold prior to maturity. Edward Jones limits inventory positions for fixed income securities. This security may currently be subject to these internal limits; however, this should not be considered contrary to our current recommendation. It is the policy of Edward Jones that analysts are not permitted to have an ownership position in the credits they follow directly or through derivatives. This opinion is based on information believed reliable but not guaranteed. The foregoing is for INFORMATION ONLY. Additional information is available on request. Past performance is no guarantee of future results. This issuer may have issued bonds in both large and small offering sizes. Bonds which are part of small offerings are generally less liquid, which may cause the price you receive in the secondary market to be lower than prices received by investors in large issues of the same issuer's bonds. If you sell this security prior to maturity, you may receive more, less, or the same dollar amount you originally invested because the security's market value may fluctuate over time due to various market factors (e.g., interest rates). Information about research distribution is available through the Investments and Services link on www.edwardjones.com. For U.S. clients only: Member SIPC --- For Canadian clients only: Member - Canadian Investor Protection Fund Diversification does not guarantee a profit or protect against loss in declining markets. In general, Edward Jones analysts do not view the material operations of the issuer. Credit ratings generally represent the rating company's opinion of the bond's ability to meet its ongoing contractual obligations. These ratings are estimates and should be one of many factors considered in evaluating fixed income investments. These ratings do not address suitability or future performance. N/A indicates no rating available. When investing in issuers incorporated outside your own country of residence, you should consider all other material risks such as currency risk, political risk, liquidity risk and accounting rules differences, which can adversely affect the value of your investment. Please consult your Financial Advisor for more information. Edward Jones Credit Strength Assessment: Low Our opinion is these credits are of low financial quality. We believe these credits are the most likely to default and experience the most financial hardship. Below Average Our opinion is these credits are of below-average financial quality. We believe these credits are more likely to default or experience financial hardship than the average. Average Our opinion is these credits are of average financial quality. We believe these credits have a low probability of default or low chance of experiencing financial hardship. Above Average Our opinion is these credits are of above-average financial quality. We believe these credits are less likely to default or experience financial hardship than the average. High Our opinion is these credits are of the highest financial quality. We believe these credits have the lowest probability of default and will experience the least financial hardship. Ratings from Standard & Poor's ("S&P"), Moody's and Fitch may be shown for certain securities. S&P requires we inform you: (1) Ratings are NOT recommendations to buy, hold, sell or make any investment decisions and DO NOT address suitability or future performance; (2) S&P DOES NOT Page 4 of 5
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