Personal loan business not a guaranteed success for Goldman Sachs

Source - http://www.forbes.com/sites/nickclements/2015/06/25/personal-loan-business-not-a-guaranteed-success-for-goldman-sachs/

Last week, Goldman Sachs captured headlines with its plans to expand into online consumer lending. Goldman Sachs is famous for its investment banking, trading and wealth management prowess. Making a $5,000 loan to a working class American family couldn’t seem further from their area of expertise. I actually believe they have a good chance of creating a sizeable, profitable franchise. And I explained why I thought Goldman Sachs could succeed last week.

However, their success is far from guaranteed. After publishing the post, I received a lot of feedback from people who had a very different view. In today’s post, I wanted to share some of their best arguments.

Investment Banking and Retail Banking Cultures Don’t Mix

Consumer franchises can take years to build properly. However, once built, the business provides a steady and stable annual annuity. The dynamics of building and managing a consumer business are very different from building and managing a business that is driven by closing deals or trading.
Some of the biggest culprits of the 2008 mortgage crisis were investment banks like Bear Stearns and Lehman Brothers, who brought a short-term mentality and high compensation to the traditionally boring world of mortgages.

I remember having a conversation in 2009 with a former Bear Stearns mortgage banker. He described the way they ran their mortgage operation, and as a retail banker it terrified me. He would start each day talking to the trading floor. He would understand what exposure the traders wanted, and then he would go to the mortgage distribution partners and find a way of originating it. The view was simple: if the market is willing to buy it, the investment bank was willing to sell it. When I joined retail banking, I was taught basic risk management skills from my first day on the job. You only make a loan to someone who can demonstrate the ability and willingness to repay.

Investment banks have the ability to sell assets all over the world, quickly. Historically, poor mortgage underwriting would punish the bank making the bad loans. Regulators would often have to step in and rescue the depositors. But in the last crisis, German banks had exposure to Nevada subprime mortgages. And we did not know who to blame.

Will Goldman Sachs really be able to think like a balance sheet lender, with a long term perspective? Or will they be tempted to relax underwriting standards, package loans and sell them globally? A trading operation would probably prefer originating, selling, and taking a fee. And if they worried about asset quality, they would short the market rather than change underwriting quality, preserving the fee income stream while protecting the balance sheet. That is a very different approach from a commercial bank.