BALTIMORE (Stockpickr) -- OK, we get it. The SEC'sGoldman Sachs (GS) - Get Goldman Sachs Group, Inc. Report suit is a major financial news event from a political perspective. But should you expect the fallout to actually impact your portfolio?
That's a question that most market pundits seem to be markedly less sure about. Here's a glimpse at the companies that could suffer from Goldman's legal troubles --
In short, the SEC filed fraud charges against Goldman last week, alleging that the firm tricked investors into buying collateralized debt obligations, or CDOs, that Goldman and its more-sophisticated clients had an economic interest in seeing go bust. The market reacted to the shock of seeing Wall Street's most-well-connected firm get charged by tumbling, and even worse off was Goldman Sachs' stock itself. The company fell nearly 13% on Friday, in the biggest single-day slide since January 2009.
But Goldman could be headed higher in spite of the added drama.
While the company is facing a PR nightmare right now, its operations aren't largely affected by public perception. Instead, Goldman caters to more-sophisticated institutional investors who are bound to be less concerned with Goldman's blemishes as long as its financial health remains strong.
As far as Goldman's business is concerned, SEC fines and legal liability are the biggest threats presented by the suit. But any SEC-imposed fines are likely going to be immaterial to Goldman's fundamental prospects, and even legal liability is unlikely at this point. After all, Goldman had been well aware of the SEC's concerns over its CDOs. Had liabilities been a real concern, the company would have probably settled quickly and quietly.
I'd expect that the firm's counsel is fairly confident in their legal position. Given the fact that Goldman lost around $12 billion in market capitalization last week, this stock presents a strong value story right now -- particularly after doubling quarterly profits in earnings numbers released yesterday. At current levels, Goldman could be the stock with the most upside potential after last week's news.
That's not to say that other firms won't be affected by what's going on with Goldman right now.
While big name Goldman clients such as
likely won't be affected, the bank's competitors could be. That's because those corporate clients mainly use Goldman's services to manage their investments and their credit facilities -- neither of which should be impacted by an investigation that's focusing on solely CDOs.
Wall Street has been abuzz for a while now about the possibility that the SEC will step up its focus on financial lawbreakers from the last few years. For its part,
has already distanced itself from Goldman, saying that it had nothing to do with the suit and was focused on "responsible finance."
But Citi could be next on the government's hit list: The SEC has been investigating the banking giant's handling of subprime loans since 2007, something that management tried to avoid talking about during Monday's earnings call. While strong earnings performance this week was analysts' main focus, a more detailed look at Citi's situation could yield some interesting analyst reports in the coming months.
And Citi's far from alone in that regard. Scores of other financial firms are currently being investigated by the SEC on their use of subprime investments, and others could easily take a tumble on news of enforcement action.
Among them are
Bank of America
, two of the biggest subprime lenders during Wall Street's period of "irrational exuberance." Both Wells and BofA -- including its Merrill subsidiary -- had extensive experience not only lending to subprime consumer credit risks but also packaging CDOs to the institutional investment world. As a result, the companies are likely to see increased scrutiny from regulators and investors alike.
With corporate events for both companies planned before the end of April (
), analysts should get the chance to grill management on their potential involvement in SEC enforcement action.
Investor anxiety over financials has already spilled over into the market as credit default swap spreads for the banking sector ballooned following Friday's announcement. Although some investors will be tempted by ETFs such as the
ProShares Short Financials
, betting on that fund in the middle of an earnings-induced rally seems a bit too risky.
One financial stock that's already benefiting from the Goldman suit is
Royal Bank of Scotland Group
, the UK-based banking giant that lost $800 million by betting on the wrong side of subprime mortgages through Goldman's infamous Abacus CDO. RBS management has already reported to the media that it's investigating whether or not it has any legal grounds against Goldman for its losses; that news sent shares up around 15% since Friday.
But investors should be careful about betting on RBS for the hope of a nearly billion-dollar legal win. Goldman's allowing the SEC's investigation to reach the courtroom (and not settling when it had the chance) shows that management is confident in its defense against liability suits. It's more likely that shares will take a knock when further details of the lawsuit come out.
For a more in-depth look at stocks that could be affected by the Goldman Sachs fraud lawsuit, check out
-- Written by Jonas Elmerraji in Baltimore.
Follow Stockpickr on
and become a fan on
Jonas Elmerraji is the editor and portfolio manager of the
Rhino Stock Report
, a free investment advisory that returned 15% in 2008. He is a contributor to numerous financial outlets, including
, and has been featured in
Investor's Business Daily