GS: Don't miss the finale of the firework; PT raised.

I wanted to give you my take on the latest earning result for Goldman Sachs. The company reported Dec 06 result pre-market on Tuesday. Ahead of the earning, I suggested you take some money off the table should there be a pullback given the torrid earning upward revision (especially if you are playing with call options). I also claim that GS should be still able to beat the consensus estimate by a solid margin (by margin of 10 to 15 cents).

http://www.investorhives.com...

GS delivered the near best quarter performance in the company franchise history. Quarterly revenue came in at 9.4 billion. EPS was $6.59, significantly above the consensus estimate of $6.05. The company thus beat the bottom-line number by outstanding 54 cents, much higher than what I have expected despite the significant analysts' earning revision prior to the earning.

Despite the blowout earning, the stock dipped slightly from $205 level that the stock was trading heading into the earning call, settling slightly below $200 level. Friday was an option expiration day. So there was a battle among institutional traders who want their call option at $200 in the money and those who wanted to see their put option in the money as well. This caused the stock to remain volatile, fluctuating around $200 level throughout the week after the earning. Frankly, given the large price appreciation ahead of the earning, I thought I would see more downward pressure but the stock held firm and I believe it is in a position to make a solid advance in coming days. Consequently, I want you to use the profits gained by selling some portion of GS holding ahead of earning to buy back the shares at these level. I believe that the stock still has substantial upside. I am further raising the target price to $250 from $230.

Because GS earning performance has been so stellar this year, many analysts expect the earning has peaked for the company. At near $20 EPS, the stock is currently trading barely above PE of 10 on a trailing basis. In the future, many analysts see EPS performance dropping to $16 ~ $17 range next year and think that the stock is trading with forward PE of 11 ~ 12 range. Given the market uncertainty in the US rate environment and economic uncertainties, the traders may feel inclined to be extremely conservative with assigning appropriate PE multiple.

Traders were looking so hard for reasons to sell the stock after the quarter that their reason almost appeared to be trivial without much ground. Bears contend that this quarter's performance was entirely helped by the one-time $500 mil investment gain from its FICC (Fixed Income, Currency, and Commodity) operation with Accordia Golf in Japan. Also they were disappointed in the growth of the revenue in the Investment banking side which showed only 4% growth sequentially from the previous Q. In addition, the comp ratio was lowest at 26.6% so operating cost going forward is likely to increase, pressuring the earning performance.
The truth is that great environment in the investment banking area is just beginning. GS reported the extremely strong backlog in the investment banking side. The good news is still to come given the record amount of M&A activities and IPO deals in the US and abroad. In fact, GS has the strongest presence in China (see figures below) and I believe that the investment banking revenue from China alone will surprise many investors' expectation and take the GS shares to much higher level. In addition, in the winter, commodity market has firmed up from the previous Q and could again help GS to achieve higher than expected revenue in FICC side. Finally, as I expect good 2007 in terms of the market performance (although we could see some correction in early 2007), equity trading revenue could remain strong as well. In my opinion, analysts are too concerned about the fact that GS is doing too well.

However, GS's great performance should be interpreted as better performance to come rather than peaking earning for the company. 15 to 20 % EPS drop that many bears are seeing are the reason that GS shares may continue to advance. I see the earning leveling off from the current level but don't see the EPS dropping by the magnitude that some bears may content GS will face. I expect EPS performance of somewhere between $18 and $19, slightly lower from the current record $20 performance. Furthermore, towards the end of 2007, Fed could ease after making sure inflation is under control. This could support the PE multiple of the financial sectors to expand to 13 ~ 14 range from the depressed 10 ~ 11. As a result, the shares can trade decidedly above $250 if my contentions actually pan out in the market place.

In conclusion, GS had a great 2006. 2007 will be another solid year for GS and the shares could continue to rise as investors gain more confidence that GS business in no where near the state of collapse. I think investors should use any weakness in the stock price as a chance to add to their position.