Goldman Sachs (GS) to face bad quarter

Goldman Sachs (NYSE: GS), the darling of Wall Street, may be about to turn in some very bad numbers [subscription required] for the quarter just ended. The reason is that the company holds a lot of debt related to LBOs. Trouble in that market is making it harder for banks that want to sell this debt to other institutions. The lack of liquidity makes the paper less valuable, leading to write-downs.

According to The Wall Street Journal, "One of the biggest worries is Goldman's large exposure to leveraged loans, which totaled $42 billion at the end of the firm's last quarter, according to analyst calculations."

Goldman has a strong enough balance sheet to weather a 10% write-down in LBO loans, a number that analysts throw around as the likely decreased value in LBO loans. That is because the default rate on bonds is still fairly low for corporations. Goldman may not be able to sell these bonds, but in almost all cases, the companies with the debt have not lost their ability to pay their interest.

The real story behind Goldman's tough quarter is what it means to banks like Citigroup (NYSE: C) that have much weaker financials than the leading investment bank. They cannot afford write-downs in their large LBO portfolios on top of the subprime mortgage damage that they have already incurred and possible bond losses if the muni-bond insurance companies lose their high credit ratings.

Goldman will be fine. Some large banks may not be.

Douglas A. McIntyre is an editor at 247wallst.com.