Investment Banks Losing Leverage

Some firms on Wall Street are actively trying to reassure investors that they are reduced their exposure to borrowed money, given the recent problems at Bear Stearns. Of course, to reduce leverage, firms must either raise money or sell assets. In the current market, both are proving to be costly. Furthermore, reduced leverage means reduced profits, at least in those areas where firms were able to increase profits by using leverage to their advantage. Before the recent credit problems, such firms had ratios of assets to shareholder equity of 30 or more. Goldman Sachs may be one holdout, with a ratio of assets to shareholder equity of 28.2 in their fiscal first quarter, up from 26.2 as of last November. A Goldman Sachs spokesman is reported to have stated that they are comfortable with current leverage levels, and that current measures of financial strength are misplaced. They believe that risk-adjusted capital and the quality of assets are more important measure for performance. They stress that they are focused more on opportunities and observed stresses, and less on leverage compared to liquidity. Of course, shorting sub-prime paper at the right time also helps (the spokesman did not make the last statement, but probably wanted to).

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