$GS Q2 Earnings Cheat Sheet

by Enis July 11, 2014 11:51 am • Commentary
Event:  GS reports its Q1 earnings Tuesday before the open.  The options market is implying about a 2.25% one day move, which is slightly above both the 4 quarter average of 1.5% and the 8 quarter average of about 1.75%.
Sentiment:  Wall Street analysts are relatively negative on GS, with only 7 buys, 22 holds and 4 sells, though the average 12 month price target is around $175.  GS is down 8% year-to-date, underperforming ever since the mid-January earnings report.  Short interest is around 2% of the float.
Options Open Interest:  Total open interest in GS favors puts over calls by a ratio of about 1.1 to 1.  However, the 1 month average daily volume has actually favored calls over puts, by a ratio of 1.5 to 1.   The Jul19th 170 calls have over 10k of open interest.  In Jan15, both the 150 and the 140 strike puts have over 10k of open interest.  No other strikes have over 10k of open interest.  
Price Action / Technicals:  GS has essentially been rangebound for much of the past year.  The stock has two key technical levels from the price action since the second half of 2013.  $155 support (in green) and $170 resistance (in red):
[caption id="attachment_42763" align="alignnone" width="600"]GS daily chart, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg GS daily chart, 50 day ma in pink, 200 day ma in yellow, Courtesy of Bloomberg[/caption]
Given the rangebound price action, both the 50 day ma and the 200 day ma have flattened out between $163 and $165, near the middle of the range.  However, what is more important technically for GS is either a break above $170 or a break below $155.  
Volatility Snapshot:  30 day implied volatility in GS is around 20, lower than it has been prior to earnings announcements over the past 2 years:
[caption id="attachment_42764" align="alignnone" width="600"]GS 30 day implied volatility, Courtesy of Bloomberg GS 30 day implied volatility, Courtesy of Bloomberg[/caption]
The volatility in the stock has picked up this week, so implied volatility is unlikely to drop back down near 15, even after the earnings report.  However, if it does, it might make sense to look at long volatility structures in GS like a stock replacement trade or put protection.

Our View:  GS has struggled to advance over the past year, as the overall market backdrop for its trading businesses has not been stellar.  Nonetheless, even as analyst project a 5% earnings contraction for 2014, the stock has held up because the valuation is quite cheap on a historical basis.  GS is trading at 1.02x book value, vs. 0.98x book value for MS, its closest competitor.  Goldman’s historical premium valuation has compressed to nearly 0 vs. MS as investors have shifted to prefer the wealth management business to the trading business.

While the trading businesses have struggled, management remains confident that the tide will eventually turn back in the firm’s favor (that likely occurs if volatility increases).  When that happens though is an open question.  In the meantime, we don’t expect much strength in the shares, and management’s outlook for the second half of the year will be crucial on the earnings call tomorrow.