« Exchanges at Goldman Sachs

The State of the Markets: Gary Cohn on Interest Rates, Liquidity and Risk Management

2015-06-24

Gary Cohn, president and chief operating officer of Goldman Sachs, discusses key issues impacting the global economic landscape, including the anticipated rise in interest rates, market liquidity and the relationship between clearing houses and systemic stability.

This podcast was recorded on June 17, 2015.

This podcast should not be copied, distributed, published or reproduced, in whole or in part. The information contained in this podcast is not financial research nor a product of Goldman Sachs Global Investment Research. Neither Goldman Sachs nor any of its affiliates makes any representation or warranty, as to the accuracy or completeness of the statements or any information contained in this podcast and any liability therefore (including in respect of direct, indirect or consequential loss or damage) is expressly disclaimed. The views expressed in this podcast are not necessarily those of Goldman Sachs, and Goldman Sachs is not providing any financial, economic, legal, accounting or tax advice or recommendations in this podcast. In addition, the receipt of this podcast by any listener is not to be taken as constituting the giving of investment advice by Goldman Sachs to that listener, nor to constitute such person a client of any Goldman Sachs entity.

Copyright 2015 Goldman Sachs. All rights reserved.

This is an unofficial transcript meant for reference. Accuracy is not guaranteed.
This is exchanged. The Goldman Sachs were people from our firm share, their insights on developments currently shaping markets industries in the global economy. I'm Jake's, Ewart Global, had of corporate Jimmy and here, the firm today we are joined by our president and chief operating officer Gary COM to discuss key issues affecting financial markets and the current macro environment, was to talk a bit about his career and what he's learned during his twenty five years, its official twenty five years of Goldman Sachs Gary welcome to the programme, Jake Bogey Room of the great debate here Gary will get to interest rates and hot topics in the markets and the second, but first we ve recent
seen pretty dramatic improvements, labour market. Yet we hear of jobs going unfilled and there are still a lot of people looking for work. What do you think is at play here between this mismatch between people looking for jobs and jobs that we can't fill? And how can we be thinking about addressing that gap?. that's great. By start, we have a unique position. This country, where there are many many job openings. in many many unemployed people, and you say how could that be so? Well, it's so because the skill set that are needed for the job openings. Aren't the skill sets that the working force our labor force has today and many of the skill sets are not skill. Sets that you need to go to college to have some of them are program Some of them are service jobs, where you can go into a vocational education, a trade education, a service education in really come out with a profession
something that allows you to thrive and have a great career and have a great lifestyle, which is the lifestyle I grew up in. My grandfather and Father Uncle together built very nice business with having a tray. background and trade education, but my girl, and father and my father it their lifelong goal to make sure that the next generation of our family got an education and I know that it was a motivating factor to them every day of their life and in the family. I came from has always believed that. I do believe this today. That education is the key to success, Now, when I say that they have this is but my father today, it's not just college education, graduate school education, its education in a skill set. What we need to do in this country is, we need to make sure that I labour force has a skill set in a marketable skill set, so lets them back and talk a little bit just about the markets
in the period we find ourselves in one way or another. We're gonna be seeing higher interest rates at something it here, new asset and perhaps in Europe in someone's, while too weak. I'd go on indefinitely. Do you think we're ready to think anyone's winter think about it forever. But do you think markets have fully price in the risks were proud, less raven people think it always is neatly interesting how it comes as a surprise that everyone, when something happens that we ve been talking about for a long period of time, so you know you have that. Two years ago right, we talked about quantitative easing for a year. For it happened, we talked Quantitative easing in Europe for many many many months before it happened so the reality of something happening is always different.
then the dialogue of it's obviously going to happen, and when it does happen, it's usually not the first derivative event that people are caught off guard by caught off guard by the second third or fourth derivatives. Oh yeah, when interest rates go up that happens, Oh yeah, when that happens, this happens and people tend not to think in a elongated fashion of all of the effects of a change in monetary policy although we ve been debating it now, four years on, went interfere to change. It won't wanted all be surprising to me if there are some interesting market reactions based on official change in rate policy by the fat. So you ve been talking about it. You ve been thinking about what you tell clients when they say it's gonna happen. How should I get ready? Some of our toys should in, I have taken advantage of lower interest rates, so, if you want it,
the advantage of the lower costs scenario take advantage of it now in most of our court replies, almost all of them have done. It was very cheap in the United States. Then, recently, at the beginning of this year they got very cheap. to borrow money. Now in a razor stand back up a little bit everywhere. So, to the extent you are corporate assure you that the view as the taken damage, while the opportunity was there on the flip side, We ve got a lot of people that we manage their money, for they have to worry about their s, liability mix if you're in the insurance, business or you're in pension business. Higher rates are good for you. So there's a different answer for almost everyone dependent their circumstances. You rode and appeared recently about the role of central clearing in today's markets element secure of an issue, but talk a little bit about whites, important why we should be discussing that and for search warrant super from low with clearing. what is it? What's that supposed to do, houses post a function, so Jake remember,
These issues are obscure till they're not and one as we learn about financial markets is things that we never thought matter. matter a lot when something bad habits, and so you're. The one thing that we always talk about in the financial services industry is trying to look around corners and understand what could happen good negatively impact our industry in our business in clearing Is one of those objects that I would say has a potential? So let me back up for a second in weighing clearing clearing was one of the great inventions other financial services industry. It really was. and why it was a great invention when it was first use it. We used to allow dealers and clients to consolidate their trades interests,
Joe Facility to allow those trade to net. To do that efficiently, clearing houses taken what called initial Marge so both sides of the transit put in an initial margin like an insurance policy that protects the other side against an initial market move aids a great that it really has helped financial market. Create. Transparency is allowed them to grow allowed people to minimize credit exposure counterparty exposure? All the things that we do want to mitigate as whole. So the new regulation says that everything that can be cleared must be cleared. The real question is just because it can be cleared, it declared in the reason I say that is the premise of a clearing house is: they debate, clearing member defaults, meaning one of the people. The has trades in the clearing house can't come up with their money.
once there is a market move. What the clearing house does. Is it instantaneously liquidates. I was out all of their open positions. and then basically returns the access initial margin to that clearing member. If there is an initial excess Martin, if there's not initial excess margin, it assesses all of the other clearing members and so what the premises based on, is that everything in the clearing house will be easily liquidated in a time of market this location hi volatility or stress it historically, that with a hundred per cent, What I'm worried about is if we start clearing, which we have lesson last liquid instruments that are harder and harder to live
date in the amount of market dislocation that you'll need to liquidate those defaulting instruments increases the clearing house won't have enough initial margin or national capital from the defaulting remember, and therefore they will need to assess all the other clearing members which in itself means that those Clary members have to put up capital, which means that day me start liquidating their positions, which more for selling white systemic and the clearing Shouldn t never ever be systemic. The clearing house socialized risk and therefore has to be the most liquid highly secure place that we transacting So, as the clearing houses have grown by design really in the wake of financial regulation and they ve
on some of the rules. The banks used to play some level. They become another potential source of instability. What can we do about it? Your point is correct. So what happened prior to the financial crisis is all of the very fungible, highly transactional instruments cleared, which was great and then all of the nine highly transit, for non highly fungible. Now an heavily traded instruments. They try bilaterally, meaning a customer would call two or three banks. They would get the best price in their trade with that bank and it would stay on the beach its books and they would have a bilateral obligation with each other and therefore.
if there was a large market move, it was contained between that bank in that customer it wasn't socialized in the clearing house. So what she would simply, we shouldn't clear everything just because we can we should level the playing field for what does get clear. So you should have to have a certain amount of daily trading volume in any security they get clear. That's the first thing: you should have some standardization of what that instrument. Like so many many many market makers will and can make a price in case. There is a time to liquidate. Make sure that our governance in the clearing houses of the committees and the margin committees, a strong rumour, clearing houses. Many of them are owned as public institutions, so they are competing with each other for business and that's not a bad thing. I like the fact that the competing,
at each other, but I dont want the near term profit motivation to trumpet the long term financial stability of a clearing house. We should make sure that clearing houses are collecting enough initial margin. So, if you're collecting higher margins for those by definition, you gonna see a little less liquidity products, of course, but were already seeing less liquidity, which is another reason why the clearing house concerns your many people have already written and I completely agree that there has been a decline in liquidity in the markets and one of the basic premises of the clearing house is. It will be able to liquidate defaulting, Cleary members quickly and efficiently without market dislocation. Lotta people are trying to sort out how much in a lawful acquainted put it in fixed income markets is a function of the electronic
in that market increasing high frequency trading in those markets and how much is a product, the regulation. How do you see those two factors in the confluence of those factors contributing to the drops when seen in liquidity? I think it's more of the latter are they it's much more a function of the regulatory world. It's not a single factor in the regulatory worm. It's the cumulative effect. Of a variety of different regulations has had a impact on the liquidity of all markets, including the fixed income work. One has been. The combination of vulgar and Godfrey where the brokering dealer community no longer has the liberty to commit their own capital to stabilize markets historically
one of the most important roles of a broker dealer was to provide capital into stabilize markets when they got out of line. Meaning that when there were too many buyers, the broker deals with step in and sell product to. Many sellers broker deal with stepping in buying product they would allow the market to stabilize whether stabilized over thirty six or thirty days they would use a balance sheet and they would allow the market to return back to equilibrium. Prices in two good Tory environment you are not allowed to do that. That ability has been taken away from the broker deal to me. That's number one number two. Which is equally as important, if not greater importance is all of the financial institutions today have to live by a very elaborate set of regulatory ratios,
Creating a ratio means that your dividing one number by another, the number It's in the denominator is always the balance, so the bigger your balance. She gets the worse. Your ratio gets meaning if I wanted to or any other wanted to step into a market in create liquidity by buying security or selling a security. It would make my balance sheet bigger, so every time I would buy that security to damp and volatility or create liquidity for the end user. My bound she would have to grow, meaning that my ratios half the shrink. So I myself or we as a broker dealer, cannot step in and buy and sell because our balance sheet would grow. The other piece of that which is equally important, has historically we fund at other clients who would say
been and damp and market volatility, so your investment adviser your fund and you said, look. I think this more it is out of line, I want to step in and by the securities I'm willing to put up twenty percent of copper. Thirty per se. capital- you lend me the other seventy or eighty percent. We would have historically done that because you're putting up twenty or thirty percent of the first loss think it's a relatively good value. We think you're gonna trade I've at relatively quickly. But again, if you step and I lend you the seventy or eighty percent expanding you're, my vanity growth. So what biology grows. My quality. Leverage ratio goes down. My net stable funding ratio goes down and these are ratios that are highly watched by the regular community and we have no accessibility and these ratios. So to that extent that we want to bring some normalized liquidity back to the market. We have to give the brokered dealer community some more
the authority to normalize liquidity and market when markets get out of control, you I spend a lot of time in the Valley in Silicon Valley, as you are out there recently in Europe. Was to allow the start up ceos. Would you tell them with the valuations were seeing too, and what kind of advice you giving to companies that are looking to go public or thinking as thing private, the guy There's not a universal bit of advice for any other companies in the valley Vast majority of the company's out there are still very comfortable being I've accompanies there is not a huge impetus to go public right now. That will change. This is all part of the cycle. This in some respects, has to do with the very low interest rates you are forced to buy ten year. Government bonds were one in three quarters percent. Now there are two point: three two point: four percent
and your invest your looking for long term returns when you think the opportunity cost to invest in a start up verses to two and a half percent, not at huge: there is enormous amount of money available in the valley right, so we ve been A period of time where the entrepreneurs Silicon Valley had been able to raise capital you'll somewhat easily, if they ve got a great business model. There executing the strategy is good, so you're in the last year or to most of the arch, whereas we ve been talking to it. It has been about their equity capital, their balance sheet How much can you want to raise the billowy to raise capital will not always be this easy? This will come to an end as well. We re rise. The alternatives for investors will will go a different
and you may not always have the access to capital. So, let's, let's figure out which are capital needs, are for the next two years and figure out how you can and should brief on them now. So you a lot of the companies we ve talked to have or are raising tapir right now, which It is very prudent for them. Some of them are even figuring out how to approach the debt markets. Some of them have gotten big enough as private companies. They can actually go out and raise debt, whether be private place, that or public debt should they be doing that with interest rates at these levels. We think some of them should be doing that with interest rates these levels and, in a word, explain to them that this is a more opportune time to do that. Other companies our farther down the path it may be thinking of an IP o, Neill, maybe not this year, but next year or the year after you start having common. With them about what it is to be a public company, what you should
dark doing now as a private company to get yourself ready to be a public company. Something is simple: is creating quarters for yourself creative closing process, where you closure books for the three months, create a rebel statement created earning stable, create a mark, earning release. You know when you get in the practice and it will teach you a lot about what is going to be a public companies so you'll. If your company, that's talking about going public, Two thousand sixty two thousand seventeen in order to how about a quarter rising your company and thinking about the disgust, in writing the report, because it will help you think, better about managing your companies and public company. So these private companies that are thinking about going public, their hot places, free recent college graduates to work. We hear Goldman continue to seek out the best and brightest to you. Ve got three college
age, daughters of your own, what kind of advice to give people that no matter where they end up in a hot tech start up at a financial institution? What should they be thinking about as they enter the workforce and their careers? So the first thing I would tell him it's not, can be easy. Gonna be hard work. The one thing you realize if you're going to be successful no matter where you grew up, no matter what you're educational level is a? U can succeed, but be the only way you're going to succeed is by outworking everyone else, and I tell it to like it. I mean look at some of the new entrepreneurs that I'm lucky enough to come in contact with in my job, and you look at these eyes and these women than are starting companies, their working twenty four hours a day. Seven days a week there not just coming up with a great idea in saying: hey: we should start Excellency Company or create excellency service, and it just
winning it's happening because aid, they have a great idea, but be their willing to outwork everyone around them? It really is its exciting to watch them. It's the bare contagious soap, for young people interests in a career on Wall Street. What is on the skills and qualities looking for what should they be thinking about as they contemplate a career in financial services. We are a huge recruiter of young people. Today, young people are the core of what we are going. facts were always looking for. Great people were looking for: talented kids, we're looking for kids with diverse backgrounds first thing. I would say that we're looking for is someone with a passion, some with a passion to be unlawful street. Someone wants to work hard, someone who wants to make a difference. Someone who wants to be an organization, that's gonna, be involved with the shaping of global economies.
We are at the root of a lot of the most interesting transactions. that are really aimed at creating jobs, expansion, creating economic growth around the world when you're financing countries. We are financing companies or merging companies together or helping new entrepreneurs great product, that's where we play our strongest role. So when we're hiring, we want people there, want to throw themselves into the middle of that opportunity and really make a difference in the world. So you just marked the twenty fifth year: Goldman dig I think you'd better this long and order some highs and lows anything you want to share. I never would have thought I would it be. twenty five years. It would have probably been the farther thing from my mind when I joined the farm, the fur dear, I was a Goldman Sachs. I didn't think I would be here a year is a tough learning experience. It takes
here to understand and organization, and it was a tough first year for me very tough first year from think how you asked me six months into my first year: Goldman Sachs you how long micro, governments act would be. I would say about another hundred eighty days and I'll make it through year now move on to something else, but with pay various and hard work every day to get a little bit better in the second six months, so that one of the experiences that has stuck with me- and I try to remind myself or that all the time, because we're bringing new people into the regulation all the time, and remembering how difficult it is to assimilate into an organization is something that is important for us to remember, to make it as easy as we possibly can to allow people the real memories I have so far. On that day, with memories, is the firm
just giving me enormous opportunity to build businesses. When I look back at the twenty five years, you know the fact that I got to be involved with the creation of the Goldman Sachs Commodity Index you'll, something that didn't exist when I came to Goldman Sachs got to be involved with the creator. The index on the n word part then got to be involved with the marketing of the index. Then I got to go. Manage the index for a risk management standpoint was really phenomenal. Interesting that led me in building a base? Metals business of Goldman Sachs that we did not have because three or four of the underlying index components were base metals, which led me to you: do a six year stint in London building our
business and then coming back in literally getting exposed to almost every business in the securities business, whether it be fixed income or the equities world. Just a phenomenally interesting experience to go through business by business by business. Whether you know you go from emerging market debt, which has its own unique Ceta characteristics than yours and start working on the mortgage department, which is completely different. Then you go over and you start thinking about. Equity is nothing about dividends in all these different phenomena. You get the learn about you like, so it's been a grey experience so far carry. Thank you very much. Thank you, Jake. That concludes deception,
exchanges of Goldman Sachs, I'm Jake Seward, and thanks for this, the spot gas was recorded on June. Seventeenth, two thousand fifteen. This podcast should not be copied distributed, published or reproduced in whole or in part. The information contained in the spot cast is not financial research nor a product of Goldman Sachs, global investment research. Neither Goldman Sachs nor any of its affiliates makes any representation or warranty as
accuracy or completeness of the statements or any information contained in this podcast, and any liability, therefore, including in respect of direct indirect or consequential loss or damage, is expressly disclaimed. The views expressed in this podcast are not necessarily those of Goldman Sachs and Goldman Sachs is not providing any financial, economic, legal, accounting or tax advice or recommendations in this podcast. In addition, the receipt of this pop cast by any listener is not to be taken as constituting the giving of investment advice by Goldman Sachs too. That listener, nor to constitute such person a client of any Goldman Sachs Entity.
Transcript generated on 2021-10-15.