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Goldman Sachs is now Wall Street’s least valued bank

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Lloyd Blankfein, CEO and Chairman of Goldman Sachs.Photograph by Getty Images

The king of Wall Street is now the jester.

Goldman Sachs (GS) was once the envy of all other financial firms, posting a return on equity north of 20%. Recently, returns have been half that. Now, investors seem concerned that the bank will never return to its past glory.

Goldman’s shares have fallen nearly 10% this year, to a recent $175. The result: Goldman Sachs’ stock has a price-to-earnings multiple of just 8.8, based on the last 12 months. That’s the lowest p/e multiple of any of the nation’s largest banks. Shares of Morgan Stanley (MS), Goldman’s closest rival, have a p/e of over 14. JPMorgan Chase (JPM), which this year is ahead of Goldman in terms of overall investment banking fees, trades at nearly 10 times its earnings.

Even the shares of beleaguered Citigroup (C), which nearly had to be rescued in the financial crisis and is still hobbled, are looking healthier than Goldman these days. It has a p/e ratio of 9.3, nearly 6% higher than Goldman.

To be sure, Goldman still tops a number of investment bank rankings, including those that relate to stock offerings and mergers and acquisition advisory services. But the bank has a number of issues, including the fact that it doesn’t have a great succession plan. Goldman’s CEO Lloyd Blankfein recently disclosed that he has cancer, which he described as “highly curable.”

The biggest issue for Goldman is risk. It still makes a large portion of its revenue, around 60%, from its trading operations or investing its own money. That’s compared to about 50% for Morgan Stanley, and 25% for JPMorgan. The perception is that those trading revenues are more susceptible to the ups and downs of the market than, say, asset management or fees from advising on mergers or offerings. And with the stock and commodities markets tumbling recently, Goldman’s investors are nervous it could be hit as well. What’s more, Goldman may still have to exit some of its trading operations. New regulations bar banks from making most bets in which they risk their own money. Goldman says it will be fully compliant with those new rules by the time they go into effect in 2017.

Even now, Goldman has said that very little of the revenue it gets from its trading operations comes from risky bets it makes with its own money. Instead, it says its trading business is completely focused on executing trades for clients and collecting commissions. Still, buying and selling shares for clients requires taking on some risk. Goldman needs to, at least temporarily, be on the other side of that trade. If Goldman’s clients are right, and the bank can’t hedge or offload its positions fast enough, then the bank would have to swallow some losses.

And while the bank has reduced the number of traders it has on staff, reportedly resulting in an entire floor on in its Manhattan headquarters going vacant, Goldman executives say they still have ambitions to be the top trading house on Wall Street. As long as that is the case, Goldman’s market risk is likely to remain greater than its rivals. In its most recent quarter, Goldman said its value-at-risk, which is a crude measure of how much money a bank could lose in its trading operations on any given day, was $77 million. That’s a fraction of what it was before the financial crisis, but it’s still higher than rivals. The same gauge at Morgan Stanley averaged $54 million in the second quarter. It was $42 million at JPMorgan.

That’s why Goldman’s third quarter earnings results, which the bank plans to report early next month, could be key. A number of analysts have recently upgraded Goldman’s shares, saying the company has moved away from its most capital intensive, and therefore less profitable and riskier, businesses. The moves have helped. Goldman’s return on equity has approached the mid-teens.

But the third quarter was a volatile one for stock markets around the world, as well as in the U.S., including a morning where stocks dropped 1,000 points at the opening, one of the worst starts to a trading day ever. If Goldman can prove it was able to insulate itself from those swings, investors might be willing to rush back into its shares. Already, however, it has been reported that Goldman lost as much as $60 million on a series of bad bets in the distressed debt market. If it turns out that is only one of a number of market-related losses for Goldman in the third quarter, investors may very well believe that buying the bank’s shares is an even worse bet than they do now.