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Goldman May Be a Big Loser in Metromedia Fiber Bonds (Update1)
By Mark Lake
New York, April 17 (Bloomberg) -- Goldman Sachs Group Inc. may be a big loser if Metromedia Fiber Network Inc. files for Chapter 11 bankruptcy protection.
The third-largest securities firm by capital, which has been taking bigger trading risks, held at least $100 million of the data-network owner's bonds as recently as three weeks ago, people familiar with the situation said. The trade was discussed on an internal conference call involving Goldman's debt capital markets group on March 25, they said.
Goldman began buying the bonds last year at about 30 cents on the dollar, betting Metromedia Fiber, which operates fiber-optic networks in cities including New York, Chicago and Los Angeles, would survive a slowdown in demand for its services, the people said. The value had slumped to 7.5 cents on the dollar at the time of the meeting.
``It sounds like a big position,'' said Scott Lasser, an author and former Lehman Brothers Holding Inc. bond trader. ``That hurts, obviously.''
Metromedia Fiber yesterday defaulted on an interest payment on $975 million it owes Verizon Communications Inc. and said it may file for bankruptcy if debt-restructuring talks fail. Earlier this month, the company replaced its chief executive and chief financial officers after defaulting on an $8.1 million interest payment owed to Nortel Networks Inc.
Calls to Goldman Chief Executive Henry Paulson were returned by company spokesman Lucas Van Praag, who said the firm would have no comment.
Goldman shares closed yesterday at $84.59, up 3.6 percent. For the year, the shares have declined 8.8 percent.
`Stretching' for Income
Wall Street firms are wagering more on trading to offset a slowdown in stock underwriting, merger-advisory services and other fee-based businesses. ``It's no different than any company that is stretching during a difficult period,'' said Mike Vogelzang, who helps manage $2 billion for Boston Advisors Inc., a unit of Advest Group Inc. ``It's an indication of the pressure these guys feel to meet Wall Street earnings numbers in the midst of a downturn.''
At Goldman, where investment-banking revenue declined 29 percent last year, the increase in trading risk has come largely from bonds. By one measure, the amount of capital the firm has at risk has risen three-fold in the past year, according to Securities and Exchange Commission filings.
Goldman's ``value at risk'' -- which measures the risk of losses in the value of positions from market swings over the course of a day -- surged to $39 million in the fourth quarter on trades related to interest rates, from $13 million earlier in 2001, according to SEC filings. While part of the increase may have reflected increased volatility following the September terrorist attacks, the firm's value at risk remained at $39 million during this year's first quarter.
Missed Payments
Metromedia Fiber, which is controlled by billionaire John Kluge, said in mid-March it may file for Chapter 11 after two customers, Genuity Inc. and Verizon, canceled contracts. The White Plains, New York-based company missed a $30 million interest payment to Verizon and failed to pay Nortel on $231 million of notes that mature in 2007. As of Feb. 28, the money-losing company's debt totaled $3.3 billion.
Investors flocked to corporate debt last year, lured by the prospect that debt securities would outperform stocks or government bonds as the economy emerged from recession and earnings growth picked up. Investment-grade debt returned 10.7 percent in 2001, according to Merrill Lynch & Co., while junk bonds returned 4.5 percent.
Those betting on a revival in telecommunications bonds didn't fare as well. As Global Crossing Ltd. and others filed for bankruptcy protection, junk-rated telecom debt lost 15 percent, according to a Merrill index of 132 issuers including Metromedia Fiber. The market was especially weak in the fourth quarter, when investors lost 10 percent on holdings. During this year's first quarter, junk-related telecom debt returned a negative 13.7 percent, while other junk-rated securities gained.
Boosting Revenue
For Goldman, putting more of its own money at risk helped boost revenue from fixed-income, currency and commodities trading to a record $4.05 billion in fiscal 2001 and a record $1.22 billion in the first quarter of 2002, said Diane Glossman, an analyst at UBS Warburg LLC.
Investment banks such as Goldman are able to earn money by holding high-coupon securities and financing them at close to the Federal Reserve's target interest rate, helping boost fixed-income profit. On securities such as Metromedia Fiber bonds, which had coupons of 10 percent, the difference between the financing costs and the interest earned can work out to more than $500,000 a month on $100 million of bonds.
Taking on increased trading risks can also prove costly. Goldman's revenue from equity trading nearly evaporated last quarter, falling 91 percent to $105 million from $1.2 billion, on a losing trade involving Vivendi Universal SA shares. Goldman and Deutsche Bank AG in January failed to sell all of the 3.3 billion euros ($3 billion) in stock they bought from Vivendi Universal SA, Europe's biggest media company, for resale to investors.
``We take risks,'' said Goldman Chief Financial Officer David Viniar on March 19 when earnings were reported. ``Sometimes the rewards aren't there.''
Goldman's management is in a position to know how costly the pursuit of trading rewards can be. It reported $663 million in trading losses, mostly in bonds, for the fourth quarter of 1998. Those losses forced the firm to delay its initial stock sale and led to the June 1988 exit of co-CEO Jon Corzine, who had advocated the big trading bets that soured.
Corzine was elected senator from the state of New Jersey two years after his departure from the firm. |
