10-Q 1 y90630e10vq.htm FORM 10-Q e10vq
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
Form 10-Q
 
     
x
  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
     
    For the quarterly period ended March 31, 2011
 
or
     
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
     
    For the transition period from                        to
 
Commission File Number: 001-14965
 
The Goldman Sachs Group, Inc.
(Exact name of registrant as specified in its charter)
 
     
Delaware   13-4019460
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
     
200 West Street, New York, NY   10282
(Address of principal executive offices)   (Zip Code)
 
(212) 902-1000
(Registrant’s telephone number, including area code)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
x  Yes  o  No
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
x  Yes  o  No
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer x      Accelerated filer o
 
Non-accelerated filer o (Do not check if a smaller reporting company) Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
o  Yes  x  No
 
APPLICABLE ONLY TO CORPORATE ISSUERS
 
As of April 21, 2011, there were 517,735,289 shares of the registrant’s common stock outstanding.
 


 

 
THE GOLDMAN SACHS GROUP, INC.
 
QUARTERLY REPORT ON FORM 10-Q FOR THE FISCAL QUARTER ENDED MARCH 31, 2011
 
INDEX
 
                 
 
Form 10-Q Item Number   Page No.    
 
      2      
             
        2      
        3      
        4      
        5      
        6      
        7      
        7      
        7      
        8      
        12      
        13      
        19      
        26      
        39      
        43      
        46      
        49      
        54      
        55      
        57      
        57      
        58      
        61      
        62      
        68      
        70      
        74      
        74      
        75      
        75      
        76      
        80      
        81      
        92      
        93      
      96      
      149      
      149      
      149      
      149      
      150      
      150      
      151      
    152      
 
 
 EX-3.1 : CERTIFICATE OF ELIMINATION OF 10% CUMULATIVE PERPETUAL PREFERRED STOCK, SERIES G, OF THE GOLDMAN SACHS GROUP, INC.
 EX-3.2: RESTATED CERTIFICATE OF INCORPORATION OF THE GOLDMAN SACHS GROUP, INC.
 EX-12.1: STATEMENT RE: COMPUTATION OF RATIOS OF EARNINGS TO FIXED CHARGES AND RATIOS OF EARNINGS TO COMBINED FIXED CHARGES AND PREFERRED STOCK DIVIDENDS
 EX-15.1: LETTER RE: UNAUDITED INTERIM FINANCIAL INFORMATION
 EX-31.1: RULE 13A-14(A) CERTIFICATIONS
 EX-32.1: SECTION 1350 CERTIFICATIONS
 EX-101 INSTANCE DOCUMENT
 EX-101 SCHEMA DOCUMENT
 EX-101 CALCULATION LINKBASE DOCUMENT
 EX-101 LABELS LINKBASE DOCUMENT
 EX-101 PRESENTATION LINKBASE DOCUMENT
 EX-101 DEFINITION LINKBASE DOCUMENT

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PART I. FINANCIAL INFORMATION
 
Item 1.  Financial Statements (Unaudited)
 
THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
 
                     
 
    Three Months
    Ended March
in millions, except per share amounts   2011     2010      
 
Revenues
                   
Investment banking
  $ 1,269     $ 1,203      
Investment management
    1,174       1,008      
Commissions and fees
    1,019       880      
Market making
    4,462       6,385      
Other principal transactions
    2,612       1,881      
 
 
Total non-interest revenues
    10,536       11,357      
                     
Interest income
    3,107       3,001      
Interest expense
    1,749       1,583      
 
 
Net interest income
    1,358       1,418      
 
 
Net revenues, including net interest income
    11,894       12,775      
 
 
                     
Operating expenses
                   
Compensation and benefits
    5,233       5,493      
                     
Brokerage, clearing, exchange and distribution fees
    620       562      
Market development
    179       110      
Communications and technology
    198       176      
Depreciation and amortization
    590       372      
Occupancy
    267       256      
Professional fees
    233       182      
Other expenses
    534       465      
 
 
Total non-compensation expenses
    2,621       2,123      
 
 
Total operating expenses
    7,854       7,616      
 
 
                     
Pre-tax earnings
    4,040       5,159      
Provision for taxes
    1,305       1,703      
 
 
Net earnings
    2,735       3,456      
Preferred stock dividends
    1,827       160      
 
 
Net earnings applicable to common shareholders
  $ 908     $ 3,296      
 
 
                     
Earnings per common share
                   
Basic
  $ 1.66     $ 6.02      
Diluted
    1.56       5.59      
                     
Dividends declared per common share
  $ 0.35     $ 0.35      
                     
Average common shares outstanding
                   
Basic
    540.6       546.0      
Diluted
    583.0       590.0      
 
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
 
                     
 
    As of 
    March
    December
     
in millions, except share and per share amounts   2011     2010      
 
Assets
                   
Cash and cash equivalents
  $ 42,683     $ 39,788      
Cash and securities segregated for regulatory and other purposes (includes $34,325 and $36,182 at fair value as of March 2011 and December 2010, respectively)
    53,512       53,731      
Collateralized agreements:
                   
Securities purchased under agreements to resell and federal funds sold (includes $162,094 and $188,355 at fair value as of March 2011 and December 2010, respectively)
    162,094       188,355      
Securities borrowed (includes $62,236 and $48,822 at fair value as of March 2011 and December 2010, respectively)
    184,217       166,306      
Receivables from brokers, dealers and clearing organizations
    12,207       10,437      
Receivables from customers and counterparties (includes $8,095 and $7,202 at fair value as of March 2011 and December 2010, respectively)
    75,412       67,703      
Financial instruments owned, at fair value (includes $47,268 and $51,010 pledged as collateral as of March 2011 and December 2010, respectively)
    374,806       356,953      
Other assets
    28,358       28,059      
 
 
Total assets
  $ 933,289     $ 911,332      
 
 
                     
Liabilities and shareholders’ equity
                   
Deposits (includes $1,914 and $1,975 at fair value as of March 2011 and December 2010, respectively)
  $ 38,727     $ 38,569      
Collateralized financings:
                   
Securities sold under agreements to repurchase, at fair value
    165,475       162,345      
Securities loaned (includes $1,430 and $1,514 at fair value as of March 2011 and December 2010, respectively)
    12,222       11,212      
Other secured financings (includes $25,153 and $31,794 at fair value as of March 2011 and December 2010, respectively)
    36,914       38,377      
Payables to brokers, dealers and clearing organizations
    5,572       3,234      
Payables to customers and counterparties
    187,824       187,270      
Financial instruments sold, but not yet purchased, at fair value
    150,998       140,717      
Unsecured short-term borrowings, including the current portion of unsecured long-term borrowings (includes $22,212 and $22,116 at fair value as of March 2011 and December 2010, respectively)
    53,746       47,842      
Unsecured long-term borrowings (includes $20,665 and $18,171 at fair value as of March 2011 and December 2010, respectively)
    173,793       174,399      
Other liabilities and accrued expenses (includes $7,400 and $2,972 at fair value as of March 2011 and December 2010, respectively)
    35,549       30,011      
 
 
Total liabilities
    860,820       833,976      
                     
Commitments, contingencies and guarantees
                   
                     
Shareholders’ equity
                   
Preferred stock, par value $0.01 per share; aggregate liquidation preference of $3,100 and $8,100 as of March 2011 and December 2010, respectively
    3,100       6,957      
Common stock, par value $0.01 per share; 4,000,000,000 shares authorized, 790,021,786 and 770,949,268 shares issued as of March 2011 and December 2010, respectively, and 517,917,496 and 507,530,772 shares outstanding as of March 2011 and December 2010, respectively
    8       8      
Restricted stock units and employee stock options
    4,759       7,706      
Nonvoting common stock, par value $0.01 per share; 200,000,000 shares authorized, no shares issued and outstanding
               
Additional paid-in capital
    44,852       42,103      
Retained earnings
    57,803       57,163      
Accumulated other comprehensive loss
    (330 )     (286 )    
Stock held in treasury, at cost, par value $0.01 per share; 272,104,292 and 263,418,498 shares as of March 2011 and December 2010, respectively
    (37,723 )     (36,295 )    
 
 
Total shareholders’ equity
    72,469       77,356      
 
 
Total liabilities and shareholders’ equity
  $ 933,289     $ 911,332      
 
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
(UNAUDITED)
 
                     
    Three Months Ended     Year Ended      
    March
    December
     
in millions   2011     2010      
 
Preferred stock
                   
Balance, beginning of year
    $ 6,957     $ 6,957      
Repurchased
    (3,857 )          
 
 
Balance, end of period
    3,100       6,957      
Common stock
                   
Balance, beginning of year
    8       8      
Issued
               
 
 
Balance, end of period
    8       8      
Restricted stock units and employee stock options
                   
Balance, beginning of year
    7,706       6,245      
Issuance and amortization of restricted stock units and employee stock options
    1,541       4,137      
Delivery of common stock underlying restricted stock units
    (4,448 )     (2,521 )    
Forfeiture of restricted stock units and employee stock options
    (38 )     (149 )    
Exercise of employee stock options
    (2 )     (6 )    
 
 
Balance, end of period
    4,759       7,706      
Additional paid-in capital
                   
Balance, beginning of year
    42,103       39,770      
Delivery of common stock underlying restricted stock units and proceeds from the exercise of employee stock options
    4,461       3,067      
Cancellation of restricted stock units in satisfaction of withholding tax requirements
    (1,782 )     (972 )    
Excess net tax benefit related to share-based compensation
    105       239      
Cash settlement of share-based compensation
    (35 )     (1 )    
 
 
Balance, end of period
    44,852       42,103      
Retained earnings
                   
Balance, beginning of year
    57,163       50,252      
Net earnings
    2,735       8,354      
Dividends and dividend equivalents declared on common stock and restricted stock units
    (198 )     (802 )    
Dividends on preferred stock
    (1,897 )     (641 )    
 
 
Balance, end of period
    57,803       57,163      
Accumulated other comprehensive income/(loss)
                   
Balance, beginning of year
    (286 )     (362 )    
Currency translation adjustment, net of tax
    (22 )     (38 )    
Pension and postretirement liability adjustments, net of tax
    1       88      
Net unrealized gains/(losses) on available-for-sale securities, net of tax
    (23 )     26      
 
 
Balance, end of period
    (330 )     (286 )    
Stock held in treasury, at cost
                   
Balance, beginning of year
    (36,295 )     (32,156 )    
Repurchased
    (1,482 )     (4,185 )    
Reissued
    54       46      
 
 
Balance, end of period
    (37,723 )     (36,295 )    
 
 
Total shareholders’ equity
    $ 72,469     $ 77,356      
 
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
(UNAUDITED)
 
                     
 
    Three Months
    Ended March
in millions   2011     2010      
 
Cash flows from operating activities
                   
Net earnings
  $ 2,735     $ 3,456      
Non-cash items included in net earnings
                   
Depreciation and amortization
    594       375      
Share-based compensation
    1,512       2,160      
Changes in operating assets and liabilities
                   
Cash and securities segregated for regulatory and other purposes
    219       (6,378 )    
Net receivables from brokers, dealers and clearing organizations
    568       (1,540 )    
Net payables to customers and counterparties
    (9,671 )     (1,793 )    
Securities borrowed, net of securities loaned
    (16,901 )     (13,269 )    
Securities sold under agreements to repurchase, net of securities purchased under agreements to resell and federal funds sold
    29,391       3,068      
Financial instruments owned, at fair value
    (14,701 )     6,986      
Financial instruments sold, but not yet purchased, at fair value
    10,278       11,056      
Other, net
    (2,124 )     (11,625 )    
 
 
Net cash provided by/(used for) operating activities
    1,900       (7,504 )    
Cash flows from investing activities
                   
Purchase of property, leasehold improvements and equipment
    (277 )     (278 )    
Proceeds from sales of property, leasehold improvements and equipment
    9       28      
Business acquisitions, net of cash acquired
    (5 )     (699 )    
Proceeds from sales of investments
    216       173      
Purchase of available-for-sale securities
    (761 )     (864 )    
Proceeds from sales of available-for-sale securities
    930       674      
 
 
Net cash provided by/(used for) investing activities
    112       (966 )    
Cash flows from financing activities
                   
Unsecured short-term borrowings, net
    1,501       525      
Other secured financings (short-term), net
    1,340       (312 )    
Proceeds from issuance of other secured financings (long-term)
    1,291       1,541      
Repayment of other secured financings (long-term), including the current portion
    (3,580 )     (1,880 )    
Proceeds from issuance of unsecured long-term borrowings
    8,805       6,081      
Repayment of unsecured long-term borrowings, including the current portion
    (7,364 )     (5,584 )    
Derivative contracts with a financing element, net
    210       110      
Deposits, net
    158       (987 )    
Common stock repurchased
    (1,481 )     (2,269 )    
Dividends and dividend equivalents paid on common stock, preferred stock and restricted stock units
    (358 )     (363 )    
Proceeds from issuance of common stock, including stock option exercises
    63       138      
Excess tax benefit related to share-based compensation
    333       243      
Cash settlement of share-based compensation
    (35 )          
 
 
Net cash provided by/(used for) financing activities
    883       (2,757 )    
 
 
Net increase/(decrease) in cash and cash equivalents
    2,895       (11,227 )    
Cash and cash equivalents, beginning of year
    39,788       38,291      
 
 
Cash and cash equivalents, end of period
  $ 42,683     $ 27,064      
 
 
SUPPLEMENTAL DISCLOSURES:
 
Cash payments for interest, net of capitalized interest, were $2.71 billion and $2.01 billion during the three months ended March 2011 and March 2010, respectively.
 
Cash payments for income taxes, net of refunds, were $296 million and $778 million during the three months ended March 2011 and March 2010, respectively.
 
Non-cash activities:
 
The firm assumed $90 million of debt in connection with business acquisitions during the three months ended March 2010. In addition, in the first quarter of 2010, the firm recorded an increase of approximately $3 billion in both assets (primarily financial instruments owned, at fair value) and liabilities (primarily unsecured short-term borrowings and other liabilities) upon adoption of Accounting Standards Update (ASU) No. 2009-17, “Consolidations (Topic 810) — Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities.”
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
(UNAUDITED)
 
                     
 
    Three Months
    Ended March
in millions   2011     2010      
 
Net earnings
  $ 2,735     $ 3,456      
Currency translation adjustment, net of tax
    (22 )     (4 )    
Pension and postretirement liability adjustments, net of tax
    1       6      
Net unrealized gains/(losses) on available-for-sale securities, net of tax
    (23 )     4      
 
 
Comprehensive income
  $ 2,691     $ 3,462      
 
 
 
The accompanying notes are an integral part of these condensed consolidated financial statements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
 

Note 1.  Description of Business
 
The Goldman Sachs Group, Inc. (Group Inc.), a Delaware corporation, together with its consolidated subsidiaries (collectively, the firm), is a leading global investment banking, securities and investment management firm that provides a wide range of financial services to a substantial and diversified client base that includes corporations, financial institutions, governments and high-net-worth individuals. Founded in 1869, the firm is headquartered in New York and maintains offices in all major financial centers around the world.
 
The firm reports its activities in the following four business segments:
 
Investment Banking
The firm provides a broad range of investment banking services to a diverse group of corporations, financial institutions, investment funds and governments. Services include advisory assignments with respect to mergers and acquisitions, divestitures, corporate defense activities, risk management, restructurings and spin-offs, and debt and equity underwriting of public offerings and private placements, as well as derivative transactions directly related to these activities.
 
Institutional Client Services
The firm facilitates client transactions and makes markets in fixed income, equity, currency and commodity products, primarily with institutional clients such as corporates, financial institutions, investment funds and governments. The firm also makes markets and clears client transactions on major stock, options and futures exchanges worldwide and provides financing, securities lending and prime brokerage services to institutional clients.
 
Investing & Lending
The firm invests in and originates loans to provide financing to clients. These investments and loans are typically longer-term in nature. The firm makes investments, directly and indirectly through funds that the firm manages, in debt securities, loans, public and private equity securities, real estate, consolidated investment entities and power generation facilities.

Investment Management
The firm provides investment management services and offers investment products (primarily through separately managed accounts and commingled vehicles, such as mutual funds and private investment funds) across all major asset classes to a diverse set of institutional and individual clients. The firm also offers wealth advisory services, including portfolio management and financial counseling, and brokerage and other transaction services to high-net-worth individuals and families.
 
Note 2.  Basis of Presentation
 
These condensed consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States (U.S. GAAP) and include the accounts of Group Inc. and all other entities in which the firm has a controlling financial interest. Intercompany transactions and balances have been eliminated.
 
These condensed consolidated financial statements are unaudited and should be read in conjunction with the audited consolidated financial statements included in the firm’s Annual Report on Form 10-K for the year ended December 31, 2010. References to “the firm’s Annual Report on Form 10-K” are to the firm’s Annual Report on Form 10-K for the year ended December 31, 2010. The condensed consolidated financial information as of December 31, 2010 has been derived from audited consolidated financial statements not included herein.
 
These unaudited condensed consolidated financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented. These adjustments are of a normal, recurring nature. Interim period operating results may not be indicative of the operating results for a full year.
 
All references to March 2011 and March 2010, unless specifically stated otherwise, refer to the firm’s periods ended, or the dates, as the context requires, March 31, 2011 and March 31, 2010, respectively. All references to December 2010, unless specifically stated otherwise, refer to the date December 31, 2010. Certain reclassifications have been made to previously reported amounts to conform to the current presentation.
 
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Note 3.  Significant Accounting Policies
 

The firm’s significant accounting policies include when and how to measure the fair value of assets and liabilities, accounting for goodwill and identifiable intangible assets, and when to consolidate an entity. See Notes 5 through 8 for policies on fair value measurements, Note 13 for policies on goodwill and identifiable intangible assets, and below and Note 11 for policies on consolidation accounting. All other significant accounting policies are either discussed below or included in the following footnotes:
 
     
Financial Instruments Owned, at Fair Value and Financial Instruments Sold, But Not Yet Purchased, at Fair Value   Note 4
Fair Value Measurements
  Note 5
Cash Instruments
  Note 6
Derivatives and Hedging Activities
  Note 7
Fair Value Option
  Note 8
Collateralized Agreements and Financings
  Note 9
Securitization Activities
  Note 10
Variable Interest Entities
  Note 11
Other Assets
  Note 12
Goodwill and Identifiable Intangible Assets
  Note 13
Deposits
  Note 14
Short-Term Borrowings
  Note 15
Long-Term Borrowings
  Note 16
Other Liabilities and Accrued Expenses
  Note 17
Commitments, Contingencies and Guarantees
  Note 18
Shareholders’ Equity
  Note 19
Regulation and Capital Adequacy
  Note 20
Earnings Per Common Share
  Note 21
Transactions with Affiliated Funds
  Note 22
Interest Income and Interest Expense
  Note 23
Income Taxes
  Note 24
Business Segments
  Note 25
Credit Concentrations
  Note 26
Legal Proceedings
  Note 27

Consolidation
The firm consolidates entities in which the firm has a controlling financial interest. The firm determines whether it has a controlling financial interest in an entity by first evaluating whether the entity is a voting interest entity or a variable interest entity (VIE).
 
Voting Interest Entities.  Voting interest entities are entities in which (i) the total equity investment at risk is sufficient to enable the entity to finance its activities independently and (ii) the equity holders have the power to direct the activities of the entity that most significantly impact its economic performance, the obligation to absorb the losses of the entity and the right to receive the residual returns of the entity. The usual condition for a controlling financial interest in a voting interest entity is ownership of a majority voting interest. If the firm has a majority voting interest in a voting interest entity, the entity is consolidated.
 
Variable Interest Entities.  A VIE is an entity that lacks one or more of the characteristics of a voting interest entity. The firm has a controlling financial interest in a VIE when the firm has a variable interest or interests that provide it with (i) the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and (ii) the obligation to absorb losses of the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. See Note 11 for further information about VIEs.
 
Equity-Method Investments.  When the firm does not have a controlling financial interest in an entity but can exert significant influence over the entity’s operating and financial policies, the investment is accounted for either (i) under the equity method of accounting or (ii) at fair value by electing the fair value option available under U.S. GAAP. Significant influence generally exists when the firm owns 20% to 50% of the entity’s common stock or in-substance common stock.
 
In general, the firm accounts for investments acquired subsequent to November 24, 2006, when the fair value option became available, at fair value. In certain cases, the firm applies the equity method of accounting to new investments that are strategic in nature or closely related to the firm’s principal business activities, when the firm has a significant degree of involvement in the cash flows or operations of the investee or when cost-benefit considerations are less significant. See Note 12 for further information about equity-method investments.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Investment Funds.  The firm has formed numerous investment funds with third-party investors. These funds are typically organized as limited partnerships or limited liability companies for which the firm acts as general partner or manager. Generally, the firm does not hold a majority of the economic interests in these funds. These funds are usually voting interest entities and generally are not consolidated because third-party investors typically have rights to terminate the funds or to remove the firm as general partner or manager. Investments in these funds are included in “Financial instruments owned, at fair value.” See Notes 6, 18 and 22 for further information about investments in funds.
 
Use of Estimates
Preparation of these condensed consolidated financial statements requires management to make certain estimates and assumptions, the most important of which relate to fair value measurements, accounting for goodwill and identifiable intangible assets, discretionary compensation accruals and the provision for losses that may arise from litigation, regulatory proceedings and tax audits. These estimates and assumptions are based on the best available information but actual results could be materially different.
 
Revenue Recognition
Financial Assets and Financial Liabilities at Fair Value.  Financial instruments owned, at fair value and Financial instruments sold, but not yet purchased, at fair value are recorded at fair value either under the fair value option or in accordance with other U.S. GAAP. In addition, the firm has elected to account for certain of its other financial assets and financial liabilities at fair value by electing the fair value option. The fair value of a financial instrument is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Financial assets are marked to bid prices and financial liabilities are marked to offer prices. Fair value measurements do not include transaction costs. Fair value gains or losses are generally included in “Market making” for positions in Institutional Client Services and “Other principal transactions” for positions in Investing & Lending. See Notes 5 through 8 for further information about fair value measurements.

Investment Banking.  Fees from financial advisory assignments and underwriting revenues are recognized in earnings when the services related to the underlying transaction are completed under the terms of the assignment. Expenses associated with such transactions are deferred until the related revenue is recognized or the assignment is otherwise concluded. Expenses associated with financial advisory assignments are recorded as non-compensation expenses, net of client reimbursements. Underwriting revenues are presented net of related expenses.
 
Investment Management.  The firm earns management fees and incentive fees for investment management services. Management fees are calculated as a percentage of net asset value, invested capital or commitments, and are recognized over the period that the related service is provided. Incentive fees are calculated as a percentage of a fund’s or separately managed account’s return, or excess return above a specified benchmark or other performance target. Incentive fees are generally based on investment performance over a 12-month period or over the life of a fund. Fees that are based on performance over a 12-month period are subject to adjustment prior to the end of the measurement period. For fees that are based on investment performance over the life of the fund, future investment underperformance may require fees previously distributed to the firm to be returned to the fund. Incentive fees are recognized only when all material contingencies have been resolved. Management and incentive fee revenues are included in “Investment management” revenues.
 
Commissions and Fees.  The firm earns “Commissions and fees” from executing and clearing client transactions on stock, options and futures markets. Commissions and fees are recognized on the day the trade is executed.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Transfers of Assets
Transfers of assets are accounted for as sales when the firm has relinquished control over the assets transferred. For transfers of assets accounted for as sales, any related gains or losses are recognized in net revenues. Assets or liabilities that arise from the firm’s continuing involvement with transferred assets are measured at fair value. For transfers of assets that are not accounted for as sales, the assets remain in “Financial instruments owned, at fair value” and the transfer is accounted for as a collateralized financing, with the related interest expense recognized over the life of the transaction. See Note 9 for further information about transfers of assets accounted for as collateralized financings and Note 10 for further information about transfers of assets accounted for as sales.
 
Receivables from Customers and Counterparties
Receivables from customers and counterparties generally consist of collateralized receivables, primarily customer margin loans, related to client transactions. Certain of the firm’s receivables from customers and counterparties are accounted for at fair value under the fair value option, with changes in fair value generally included in “Market making” revenues. See Note 8 for further information about the fair values of these receivables. Receivables from customers and counterparties not accounted for at fair value are accounted for at amortized cost net of estimated uncollectible amounts, which generally approximates fair value. Interest on receivables from customers and counterparties is recognized over the life of the transaction and included in “Interest income.”

Insurance Activities
Certain of the firm’s insurance and reinsurance contracts are accounted for at fair value under the fair value option, with changes in fair value included in “Market making” revenues. See Note 8 for further information about the fair values of these insurance and reinsurance contracts.
 
Revenues from variable annuity and life insurance and reinsurance contracts not accounted for at fair value generally consist of fees assessed on contract holder account balances for mortality charges, policy administration fees and surrender charges. These revenues are recognized in earnings over the period that services are provided and are included in “Market making” revenues. Interest credited to variable annuity and life insurance and reinsurance contract account balances and changes in reserves are recognized in “Other expenses.”
 
Premiums earned for underwriting property catastrophe reinsurance are recognized in earnings over the coverage period, net of premiums ceded for the cost of reinsurance, and are included in “Market making” revenues. Expenses for liabilities related to property catastrophe reinsurance claims, including estimates of losses that have been incurred but not reported, are included in “Other expenses.”


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Share-based Compensation
The cost of employee services received in exchange for a share-based award is generally measured based on the grant-date fair value of the award. Share-based awards that do not require future service (i.e., vested awards, including awards granted to retirement-eligible employees) are expensed immediately. Share-based employee awards that require future service are amortized over the relevant service period. Expected forfeitures are included in determining share-based employee compensation expense.
 
The firm pays cash dividend equivalents on outstanding restricted stock units (RSUs). Dividend equivalents paid on RSUs are generally charged to retained earnings. Dividend equivalents paid on RSUs expected to be forfeited are included in compensation expense.
 
The firm accounts for the tax benefit related to dividend equivalents paid on RSUs as an increase to additional paid-in capital.
 
In certain cases, primarily related to the death of an employee or conflicted employment (as outlined in the applicable award agreements), the firm may cash settle share-based compensation awards. For awards accounted for as equity instruments, additional paid-in capital is adjusted to the extent of the difference between the current value of the award and the grant-date value of the award.
 
Foreign Currency Translation
Assets and liabilities denominated in non-U.S. currencies are translated at rates of exchange prevailing on the date of the condensed consolidated statements of financial condition and revenues and expenses are translated at average rates of exchange for the period. Foreign currency remeasurement gains or losses on transactions in nonfunctional currencies are recognized in earnings. Gains or losses on translation of the financial statements of a non-U.S. operation, when the functional currency is other than the U.S. dollar, are included, net of hedges and taxes, in the condensed consolidated statements of comprehensive income.

Cash and Cash Equivalents
The firm defines cash equivalents as highly liquid overnight deposits held in the ordinary course of business. As of March 2011 and December 2010, “Cash and cash equivalents” included $3.23 billion and $5.75 billion, respectively, of cash and due from banks and $39.45 billion and $34.04 billion, respectively, of interest-bearing deposits with banks.
 
Recent Accounting Developments
Improving Disclosures about Fair Value Measurements.  In January 2010, the FASB issued ASU No. 2010-06, “Fair Value Measurements and Disclosures (Topic 820) — Improving Disclosures about Fair Value Measurements.” ASU No. 2010-06 provides amended disclosure requirements related to fair value measurements. Certain of these disclosure requirements became effective for the firm beginning in the first quarter of 2010, while others became effective for the firm beginning in the first quarter of 2011. Since these amended principles require only additional disclosures concerning fair value measurements, adoption did not affect the firm’s financial condition, results of operations or cash flows.
 
Reconsideration of Effective Control for Repurchase Agreements. In April 2011, the FASB issued ASU No. 2011-03, “Transfers and Servicing (Topic 860) — Reconsideration of Effective Control for Repurchase Agreements.” ASU No. 2011-03 changes the assessment of effective control by removing (i) the criterion that requires the transferor to have the ability to repurchase or redeem financial assets on substantially the agreed terms, even in the event of default by the transferee, and (ii) the collateral maintenance implementation guidance related to that criterion. ASU No. 2011-03 is effective for periods beginning after December 15, 2011. The adoption of ASU No. 2011-03 will not affect the firm’s financial condition, results of operations or cash flows.
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Note 4.  Financial Instruments Owned, at Fair Value and Financial Instruments Sold, But Not Yet Purchased, at Fair Value
 

Financial instruments owned, at fair value and financial instruments sold, but not yet purchased, at fair value are accounted for at fair value either under the fair value option or in accordance with other U.S. GAAP. See Note 8 for further information about the fair value option. The table below presents the firm’s financial instruments owned, at fair value, including those

pledged as collateral, and financial instruments sold, but not yet purchased, at fair value. Financial instruments owned, at fair value included $3.41 billion and $3.67 billion as of March 2011 and December 2010, respectively, of securities accounted for as available-for-sale, substantially all of which are held in the firm’s insurance subsidiaries.
 


 
                                     
 
    As of March 2011     As of December 2010
          Financial
          Financial
     
          Instruments
          Instruments
     
    Financial
    Sold, But
    Financial
    Sold, But
     
    Instruments
    Not Yet
    Instruments
    Not Yet
     
in millions   Owned     Purchased     Owned     Purchased      
 
Commercial paper, certificates of deposit, time deposits and other money market instruments
    $ 13,100  2   $       $ 11,262  2   $      
U.S. government and federal agency obligations
    100,222       30,138       84,928       23,264      
Non-U.S. government obligations
    44,540       28,423       40,675       29,009      
Mortgage and other asset-backed loans and securities:
                                   
Loans and securities backed by commercial real estate
    5,912             6,200       5      
Loans and securities backed by residential real estate
    8,426       5       9,404       6      
Loan portfolios
    1,314  3           1,438  3          
Bank loans and bridge loans
    18,063       1,428  4     18,039       1,487  4    
Corporate debt securities
    26,515       7,745       24,719       7,219      
State and municipal obligations
    2,718             2,792            
Other debt obligations
    3,599             3,232            
Equities and convertible debentures
    75,343       31,861       67,833       24,988      
Commodities
    5,911       7       13,138       9      
Derivatives 1
    69,143       51,391       73,293       54,730      
 
 
Total
    $374,806     $ 150,998       $356,953     $ 140,717      
 
 
 
1.   Net of cash collateral received or posted under credit support agreements and reported on a net-by-counterparty basis when a legal right of setoff exists under an enforceable netting agreement.
 
2.   Includes $2.91 billion and $4.06 billion as of March 2011 and December 2010, respectively, of money market instruments held by William Street Funding Corporation (Funding Corp.) to support the William Street credit extension program. See Note 18 for further information about the William Street credit extension program.
 
3.   Consists of acquired portfolios of distressed loans, primarily backed by commercial and residential real estate.
 
4.   Includes the fair value of unfunded commitments to extend credit. The fair value of partially funded commitments is primarily included in “Financial instruments owned, at fair value.”

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
 

Gains and Losses from Market Making and Other Principal Transactions
The table below presents, by major product type, the firm’s “Market making” and “Other principal transactions” revenues. These gains/(losses) are primarily related to the firm’s financial instruments owned, at fair value and financial instruments sold, but not yet purchased, at fair value, including both derivative and non-derivative financial instruments. These gains/(losses) exclude related interest income and interest expense. See Note 23 for further information about interest income and interest expense.
 
The gains/(losses) in the table are not representative of the manner in which the firm manages its business activities because many of the firm’s market making, client facilitation, and investing and lending strategies utilize financial instruments across various product types. Accordingly, gains or losses in one product type frequently offset gains or losses in other product types.
 
For example, most of the firm’s longer-term derivatives are sensitive to changes in interest rates and may be economically hedged with interest rate swaps. Similarly, a significant portion of the firm’s cash instruments and derivatives has exposure to foreign currencies and may be economically hedged with foreign currency contracts.
 
                     
 
    Three Months Ended March
in millions   2011     2010      
 
Interest rates
  $ 2,406     $ (1,932 )    
Credit
    2,051       4,233      
Currencies
    (1,606 )     3,439      
Equities
    2,850       1,381      
Commodities
    957       609      
Other
    416       536      
 
 
Total
  $ 7,074     $ 8,266      
 
 
 
Note 5.  Fair Value Measurements
 
The fair value of a financial instrument is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Financial assets are marked to bid prices and financial liabilities are marked to offer prices. Fair value measurements do not include transaction costs.

The best evidence of fair value is a quoted price in an active market. If listed prices or quotations are not available, fair value is determined by reference to prices for similar instruments, quoted prices or recent transactions in less active markets, or internally developed models that primarily use, as inputs, market-based or independently sourced parameters, including but not limited to interest rates, volatilities, equity or debt prices, foreign exchange rates, commodities prices and credit curves.
 
U.S. GAAP has a three-level fair value hierarchy for disclosure of fair value measurements. The fair value hierarchy prioritizes inputs to the valuation techniques used to measure fair value, giving the highest priority to level 1 inputs and the lowest priority to level 3 inputs. A financial instrument’s level in the fair value hierarchy is based on the lowest level of any input that is significant to its fair value measurement.
 
The fair value hierarchy is as follows:
 
Level 1.  Inputs are unadjusted quoted prices in active markets to which the firm had access at the measurement date for identical, unrestricted assets or liabilities.
 
Level 2.  Inputs to valuation techniques are observable, either directly or indirectly.
 
Level 3.  One or more inputs to valuation techniques are significant and unobservable.
 
See Notes 6 and 7 for further information about fair value measurements of cash instruments and derivatives, respectively.
 
The fair value of certain level 2 and level 3 financial assets and financial liabilities may include valuation adjustments for counterparty and the firm’s credit quality, transfer restrictions, large and/or concentrated positions, illiquidity and bid/offer inputs. See Notes 6 and 7 for further information about valuation adjustments.
 
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Level 3 financial assets are summarized below.
 
                     
 
    As of
    March
    December
     
in millions   2011     2010      
 
Total level 3 assets
  $ 45,843     $ 45,377      
Total assets
  $ 933,289     $ 911,332      
Total financial assets at fair value
  $ 641,556     $ 637,514      
Total level 3 assets as a percentage of Total assets
    4.9%       5.0%      
Total level 3 assets as a percentage of Total financial assets at fair value
    7.1%       7.1%      
 
 
 
Financial Assets and Financial Liabilities by Level

The tables below present, by level within the fair value hierarchy, financial instruments owned, at fair value and financial instruments sold, but not yet purchased, at fair value, and other financial assets and financial liabilities accounted for at fair value under the fair value option. See Notes 6 and 7 for further information on the assets

and liabilities included in cash instruments and derivatives, respectively, and their valuation methodologies and inputs. See Note 8 for the valuation methodologies and inputs for other financial assets and financial liabilities accounted for at fair value under the fair value option.
 


                                             
 
    Financial Assets at Fair Value as of March 2011 
                      Netting and
           
in millions   Level 1     Level 2     Level 3     Collateral     Total      
 
Total cash instruments
  $ 132,377     $ 139,760     $ 33,526     $     $ 305,663      
Total derivatives
    43       164,843       11,837       (107,580 ) 3     69,143      
 
 
Financial instruments owned, at fair value
    132,420       304,603       45,363       (107,580 )     374,806      
Securities segregated for regulatory and other purposes
    19,584  1     14,741  2                 34,325      
Securities purchased under agreements to resell
          161,936       158             162,094      
Securities borrowed
          62,236                   62,236      
Receivables from customers and counterparties
          7,773       322             8,095      
 
 
Total
  $ 152,004     $ 551,289     $ 45,843     $ (107,580 )   $ 641,556      
 
 
 
                                             
 
    Financial Liabilities at Fair Value as of March 2011 
                      Netting and
           
in millions   Level 1     Level 2     Level 3     Collateral     Total      
 
Total cash instruments
  $ 88,633     $ 10,492     $ 482     $     $ 99,607      
Total derivatives
    167       63,838       5,034       (17,648 ) 3     51,391      
 
 
Financial instruments sold, but not yet purchased, at fair value
    88,800       74,330       5,516       (17,648 )     150,998      
Deposits
          1,914                   1,914      
Securities sold under agreements to repurchase
          163,529       1,946             165,475      
Securities loaned
          1,430                   1,430      
Other secured financings
          18,046       7,107             25,153      
Unsecured short-term borrowings
          19,003       3,209             22,212      
Unsecured long-term borrowings
          18,261       2,404             20,665      
Other liabilities and accrued expenses
          548       6,852             7,400      
 
 
Total
  $ 88,800     $ 297,061     $ 27,034  4   $ (17,648 )   $ 395,247      
 
 
 
1.   Principally consists of U.S. Department of the Treasury (U.S. Treasury) securities and money market instruments as well as insurance separate account assets measured at fair value.
 
2.   Principally consists of securities borrowed and resale agreements. The underlying securities have been segregated to satisfy certain regulatory requirements.
 
3.   Represents cash collateral and the impact of netting across levels of the fair value hierarchy. Netting among positions classified in the same level is included in that level.
 
4.   Level 3 liabilities were 6.8% of total financial liabilities at fair value.
 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                             
 
    Financial Assets at Fair Value as of December 2010 
                      Netting and
           
in millions   Level 1     Level 2     Level 3     Collateral     Total      
 
Total cash instruments
  $ 117,800     $ 133,653     $ 32,207     $     $ 283,660      
Total derivatives
    93       172,513       12,772       (112,085 3     73,293      
 
 
Financial instruments owned, at fair value
    117,893       306,166       44,979       (112,085 )     356,953      
Securities segregated for regulatory and other purposes
    19,794  1     16,388  2                 36,182      
Securities purchased under agreements to resell
          188,255       100             188,355      
Securities borrowed
          48,822                   48,822      
Receivables from customers and counterparties
          6,904       298             7,202      
 
 
Total
  $ 137,687     $ 566,535     $ 45,377     $ (112,085 )   $ 637,514      
 
 
 
                                             
 
    Financial Liabilities at Fair Value as of December 2010 
                      Netting and
           
in millions   Level 1     Level 2     Level 3     Collateral     Total      
 
Total cash instruments
  $ 75,668     $ 9,873     $ 446     $     $ 85,987      
Total derivatives
    45       66,963       5,210       (17,488 3     54,730      
 
 
Financial instruments sold, but not yet purchased, at fair value
    75,713       76,836       5,656       (17,488 )     140,717      
Deposits
          1,975                   1,975      
Securities sold under agreements to repurchase
          160,285       2,060             162,345      
Securities loaned
          1,514                   1,514      
Other secured financings
          23,445       8,349             31,794      
Unsecured short-term borrowings
          18,640       3,476             22,116      
Unsecured long-term borrowings
          16,067       2,104             18,171      
Other liabilities and accrued expenses
          563       2,409             2,972      
 
 
Total
  $ 75,713     $ 299,325     $ 24,054  4   $ (17,488 )   $ 381,604      
 
 
 
1.   Principally consists of U.S. Treasury securities and money market instruments as well as insurance separate account assets measured at fair value.
 
2.   Principally consists of securities borrowed and resale agreements. The underlying securities have been segregated to satisfy certain regulatory requirements.
 
3.   Represents cash collateral and the impact of netting across levels of the fair value hierarchy. Netting among positions classified in the same level is included in that level.
 
4.   Level 3 liabilities were 6.3% of total financial liabilities at fair value.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Level 3 Unrealized Gains/(Losses)

Cash Instruments.  Level 3 cash instruments are frequently economically hedged with level 1 and level 2 cash instruments and/or level 1, level 2 and level 3 derivatives. Accordingly, gains or losses that are reported in level 3 can be partially offset by gains or losses attributable to level 1 or level 2 cash instruments and/or level 1, level 2 and level 3 derivatives.
 
Derivatives.  Gains and losses on level 3 derivatives should be considered in the context of the following:
 
•   A derivative with level 1 and/or level 2 inputs is classified in level 3 in its entirety if it has at least one significant level 3 input.
 
•   If there is one significant level 3 input, the entire gain or loss from adjusting only observable inputs (i.e., level 1 and level 2 inputs) is classified as level 3.

•   Gains or losses that have been reported in level 3 resulting from changes in level 1 or level 2 inputs are frequently offset by gains or losses attributable to level 1 or level 2 derivatives and/or level 1, level 2 and level 3 cash instruments.
 
The table below presents the unrealized gains/(losses) on level 3 financial assets and financial liabilities at fair value still held at the period-end. See Notes 6 and 7 for further information about level 3 cash instruments and derivatives, respectively. See Note 8 for further information about other financial assets and financial liabilities at fair value under the fair value option.
 


 
                     
 
    Level 3 Unrealized
    Gains/(Losses)
    Three Months
    Ended March
in millions   2011     2010      
 
Cash instruments — assets
  $ 1,262     $ 833      
Cash instruments — liabilities
    (41 )     34      
 
 
Net unrealized gains on level 3 cash instruments
    1,221       867      
Derivatives — net
    (560 )     1,568      
Receivables from customers and counterparties
    16       (28 )    
Other secured financings
    (9 )     (10 )    
Unsecured short-term borrowings
    204       82      
Unsecured long-term borrowings
    (45 )     12      
Other liabilities and accrued expenses
    (152 )     64      
 
 
Total
  $ 675     $ 2,555      
 
 
 
 

Gains and losses in the table above include:
 
Three Months Ended March 2011
 
•   A net unrealized gain on cash instruments of $1.22 billion primarily consisting of unrealized gains on bank loans and bridge loans, private equity investments, and corporate debt securities. Gains during the first quarter of 2011 reflected strengthening global credit markets and equity markets.
 
•   A net unrealized loss on derivatives of $560 million primarily attributable to increases in equity index prices, tighter credit spreads and changes in foreign exchange rates (all of which are level 2 observable inputs) on the underlying instruments.

Three Months Ended March 2010
 
•   A net unrealized gain on cash instruments of $867 million, primarily consisting of unrealized gains on corporate debt securities, bank loans and bridge loans, loans and securities backed by commercial real estate, and loans and securities backed by residential real estate reflecting a decrease in market yields evidenced by sales of similar assets during the period.
 
•   A net unrealized gain on derivatives of $1.57 billion, primarily attributable to changes in foreign exchange rates and interest rates (which are level 2 inputs) underlying certain credit derivatives. These unrealized gains were substantially offset by unrealized losses on currency, interest rate and credit derivatives which are classified within level 2 and are used to economically hedge derivatives classified within level 3.
 
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Level 3 Rollforward

If a financial asset or financial liability was transferred to level 3 during a reporting period, its entire gain or loss for the period is included in level 3. Transfers between levels are recognized at the beginning of the reporting period in which they occur.
 
See Notes 6 and 7 for further information about cash instruments and derivatives included in level 3,

respectively. See Note 8 for other financial assets and financial liabilities at fair value under the fair value option.
 
The tables below present changes in fair value for all financial assets and financial liabilities categorized as level 3 as of the end of the period.
 


 
                                                                     
 
    Level 3 Financial Assets at Fair Value for the Three Months Ended March 2011 
                Net unrealized
                                   
                gains/(losses)
                      Net
           
          Net
    relating to
                      transfers
           
    Balance,
    realized
    instruments
                      in and/or
    Balance,
     
    beginning
    gains/
    still held at
                      (out) of
    end of
     
in millions   of period     (losses)     period-end     Purchases     Sales     Settlements     level 3     period      
 
Total cash instruments — assets
  $ 32,207     $ 434  1   $ 1,262  1   $ 2,816     $ (1,944 )   $ (1,412 )   $ 163     $ 33,526      
Total derivatives — net
    7,562       74  2     (560 ) 2, 3     796       (945 )     (567 )     443       6,803      
Securities purchased under agreements to resell
    100       2             64             (8 )           158      
Receivables from customers and counterparties
    298             16       14             (6 )           322      
 
 
 
1.   The aggregate amounts include approximately $1.26 billion and $432 million reported in “Non-interest revenues” (“Market making” and “Other principal transactions”) and “Interest income,” respectively.
 
2.   Substantially all is reported in “Non-interest revenues” (“Market making” and “Other principal transactions”).
 
3.   Principally resulted from changes in level 2 inputs.
 
                                                                             
 
    Level 3 Financial Liabilities at Fair Value for the Three Months Ended March 2011 
                Net unrealized
                                         
                (gains)/losses
                            Net
           
          Net
    relating to
                            transfers
           
    Balance,
    realized
    instruments
                            in and/or
    Balance,
     
    beginning
    (gains)/
    still held at
                            (out) of
    end of
     
in millions   of period     losses     period-end     Purchases     Sales     Issuances     Settlements     level 3     period      
 
Total cash instruments — liabilities
  $ 446     $ (22 )   $ 41     $ (59 )   $ 90     $     $ 8     $ (22 )   $ 482      
Securities sold under agreements to repurchase, at fair value
    2,060                                     (114 )           1,946      
Other secured financings
    8,349             9                   11       (1,262 )           7,107      
Unsecured short-term borrowings
    3,476       60       (204 )                 562       (153 )     (532 )     3,209      
Unsecured long-term borrowings
    2,104       4       45                   241       (72 )     82       2,404      
Other liabilities and accrued expenses
    2,409             152       4,337                   (46 )           6,852      
 
 
 



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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Significant transfers in or out of level 3 during the three months ended March 2011, included:
 
•   Unsecured short-term borrowings and Unsecured long-term borrowings: net transfer out of level 3 of $532 million and net transfer into level 3 of $82 million, respectively, principally due to a transfer of approximately $230 million from level 3

  Unsecured short-term borrowings to level 3 Unsecured long-term borrowings related to an extension in the tenor of certain borrowings and the transfer to level 2 of certain short-term and long-term hybrid financial instruments due to improved transparency of the equity price inputs used to value these financial instruments.


 
                                                     
 
    Level 3 Financial Assets at Fair Value for the Three Months Ended March 2010 
                Net unrealized
                       
                gains/(losses)
    Net
                 
          Net
    relating to
    purchases,
    Net
           
    Balance,
    realized
    instruments
    issuances
    transfers in
    Balance,
     
    beginning
    gains/
    still held at
    and
    and/or (out)
    end of
     
in millions   of period     (losses)     period-end     settlements     of level 3     period      
 
Total cash instruments — assets
      $34,879     $ 501  1   $ 833  1   $ (2,064 )   $ (1,621 )   $ 32,528      
Total derivatives — net
    5,196       369  2     1,568  2, 3     (917 )     120       6,336      
Securities purchased under agreements to resell
                            268       268      
Receivables from customers and counterparties
          6       (28 )           256       234      
 
 
 
1.   The aggregate amounts include approximately $961 million and $373 million reported in “Non-interest revenues” (“Market making” and “Other principal transactions”) and “Interest income,” respectively.
 
2.   Substantially all is reported in “Non-interest revenues” (“Market making” and “Other principal transactions”).
 
3.   Principally resulted from changes in level 2 inputs.
 
                                                     
 
    Level 3 Financial Liabilities at Fair Value for the Three Months Ended March 2010 
                Net unrealized
                       
                (gains)/losses
    Net
                 
          Net
    relating to
    purchases,
    Net
           
    Balance,
    realized
    instruments
    issuances
    transfers in
    Balance,
     
    beginning
    (gains)/
    still held at
    and
    and/or(out)
    end of
     
in millions   of period     losses     period-end     settlements     of level 3     period      
 
Total cash instruments — liabilities
    $  572     $ (14 )   $ (34 )   $ (10 )   $ (31 )   $ 483      
Securities sold under agreements to repurchase, at fair value
    394                   494       167       1,055      
Other secured financings
    6,756       9       10       1,172       192       8,139      
Unsecured short-term borrowings
    2,310       21       (82 )     (139 )     884       2,994      
Unsecured long-term borrowings
    3,077       13       (12 )     33       (1,396 )     1,715      
Other liabilities and accrued expenses
    1,913       3       (64 )           475       2,327      
 
 
 

Significant transfers in or out of level 3 during the three months ended March 2010, which were principally due to the consolidation of certain VIEs upon adoption of ASU No. 2009-17 as of January 1, 2010, included:
 
•   Unsecured long-term borrowings: net transfer out of level 3 of $1.40 billion, principally due to the consolidation of certain VIEs which caused the firm’s borrowings from these VIEs to become intercompany borrowings which were eliminated in consolidation. Substantially all of these borrowings were level 3.

•   Unsecured short-term borrowings: net transfer into level 3 of $884 million, principally due to the consolidation of certain VIEs.
 
•   Other liabilities and accrued expenses: net transfer into level 3 of $475 million, principally due to an increase in subordinated liabilities issued by certain consolidated VIEs.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 



Note 6.  Cash Instruments
 

Cash instruments include U.S. government and federal agency obligations, non-U.S. government obligations, bank loans and bridge loans, corporate debt securities, equities and convertible debentures, and other non-derivative financial instruments owned and financial instruments sold, but not yet purchased. See below for the types of cash instruments included in each level of the fair value hierarchy and the valuation techniques and significant inputs used to determine their fair values. See Note 5 for an overview of the firm’s fair value measurement policies and the fair value hierarchy.
 
Level 1 Cash Instruments
Level 1 cash instruments include U.S. government obligations and most non-U.S. government obligations, actively traded listed equities and certain money market instruments. These instruments are valued using quoted prices for identical unrestricted instruments in active markets.
 
The firm defines active markets for equity instruments based on the average daily trading volume both in absolute terms and relative to the market capitalization for the instrument. The firm defines active markets for debt instruments based on both the average daily trading volume and the number of days with trading activity.
 
The fair value of a level 1 instrument is calculated as quantity held multiplied by quoted market price. U.S. GAAP prohibits valuation adjustments being applied to level 1 instruments even in situations where the firm holds a large position and a sale could impact the quoted price.

Level 2 Cash Instruments
Level 2 cash instruments include commercial paper, certificates of deposit, time deposits, most government agency obligations, most corporate debt securities, commodities, certain mortgage-backed loans and securities, certain bank loans and bridge loans, less liquid publicly listed equities, certain state and municipal obligations and certain money market instruments and lending commitments.
 
Valuations of level 2 cash instruments can be verified to quoted prices, recent trading activity for identical or similar instruments, broker or dealer quotations or alternative pricing sources with reasonable levels of price transparency. Consideration is given to the nature of the quotations (e.g., indicative or firm) and the relationship of recent market activity to the prices provided from alternative pricing sources.
 
Valuation adjustments are typically made to level 2 cash instruments (i) if the cash instrument is subject to transfer restrictions, and/or (ii) for other premiums and discounts that a market participant would require to arrive at fair value. Valuation adjustments are generally based on market evidence.
 
Level 3 Cash Instruments
Level 3 cash instruments have one or more significant valuation inputs that are not observable. Absent evidence to the contrary, level 3 cash instruments are initially valued at transaction price, which is considered to be the best initial estimate of fair value. Subsequently, the firm uses other methodologies to determine fair value, which vary based on the type of instrument. Valuation inputs and assumptions are changed when corroborated by substantive observable evidence, including values realized on sales of level 3 assets.
 
The table below presents the valuation techniques and the nature of significant inputs generally used to determine the fair values of each class of level 3 cash instrument.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 



       
 Level 3 Cash Instrument     Valuation Techniques and Significant Inputs
 
Loans and securities backed by commercial real estate

•  Collateralized by a single commercial real estate property or a portfolio of properties

•  May include tranches of varying levels of subordination
    Valuation techniques vary by instrument, but are generally based on discounted cash flow techniques.

Significant inputs for these valuations include:

 •  Transaction prices in both the underlying collateral and instruments with the same or
       similar underlying collateral

 •  Current levels and changes in market indices such as the CMBX (an index that tracks
       the performance of commercial mortgage bonds)

 •  Market yields implied by transactions of similar or related assets

 •  Current performance of the underlying collateral

 •  Capitalization rates and multiples
 
 
Loans and securities backed by residential real estate

•  Collateralized by portfolios of residential real estate

•  May include tranches of varying levels of subordination
   
Valuation techniques vary by instrument, but are generally based on relative value analyses, discounted cash flow techniques or a combination thereof.

Significant inputs are determined based on relative value analyses, which incorporate comparisons to instruments with similar collateral and risk profiles, including relevant indices such as the ABX (an index that tracks the performance of subprime residential mortgage bonds). Significant inputs include:

 •  Home price projections, residential property liquidation timelines and related costs

 •  Underlying loan prepayment, default and cumulative loss expectations

 •  Transaction prices in both the underlying collateral and instruments with the same or similar underlying collateral

 •  Market yields implied by transactions of similar or related assets
 
 
Loan portfolios

•  Acquired portfolios of distressed loans

•  Primarily backed by commercial and residential real estate collateral
    Valuations are based on discounted cash flow techniques.

Significant inputs are determined based on relative value analyses which incorporate comparisons to recent auction data for other similar loan portfolios. Significant inputs include:

 •  Amount and timing of expected future cash flows

 •  Market yields implied by transactions of similar or related assets
 
 
Bank loans and bridge loans

Corporate debt securities

State and municipal obligations

Other debt obligations
   
Valuation techniques vary by instrument, but are generally based on discounted cash flow techniques.

Significant inputs are generally determined based on relative value analyses, which incorporate comparisons both to prices of credit default swaps that reference the same or similar underlying credit risk and to other debt instruments for the same issuer for which observable prices or broker quotations are available. Significant inputs include:

 •  Amount and timing of expected future cash flows

 •  Current levels and trends of market indices such as CDX, LCDX and MCDX (indices that track the performance of corporate credit, loans and municipal obligations, respectively)

 •  Market yields implied by transactions of similar or related assets

 •  Current performance and recovery assumptions and, where the firm uses credit default swaps to value the related cash instrument, the cost of borrowing the underlying reference obligation
 
 
Equities and convertible debentures

•  Private equity investments
    Recent third-party investments or pending transactions are considered to be the best evidence for any change in fair value. When these are not available, the following valuation methodologies are used, as appropriate and available:

 •  Transactions in similar instruments

 •  Discounted cash flow techniques

 •  Third-party appraisals

 •  Industry multiples and public comparables

Evidence includes recent or pending reorganizations (e.g., merger proposals, tender offers, debt restructurings) and significant changes in financial metrics, such as:

 •  Current financial performance as compared to projected performance

 •  Capitalization rates and multiples

 •  Market yields implied by transactions of similar or related assets
 
 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Cash Instruments by Level

The tables below present, by level within the fair value hierarchy, cash instrument assets and liabilities, at fair value. Cash instrument assets and liabilities are

included in “Financial instruments owned, at fair value” and “Financial instruments sold, but not yet purchased, at fair value,” respectively.
 


 
                                     
 
    Cash Instrument Assets at Fair Value as of March 2011 
in millions   Level 1     Level 2     Level 3     Total      
 
Commercial paper, certificates of deposit, time deposits and other money market instruments
  $ 6,181     $ 6,919     $     $ 13,100      
U.S. government and federal agency obligations
    39,466       60,756             100,222      
Non-U.S. government obligations
    39,420       5,120             44,540      
Mortgage and other asset-backed loans and securities 1:
                                   
Loans and securities backed by commercial real estate
          3,391       2,521       5,912      
Loans and securities backed by residential real estate
          5,790       2,636       8,426      
Loan portfolios
          2       1,312       1,314      
Bank loans and bridge loans
          8,134       9,929       18,063      
Corporate debt securities 2
    118       23,259       3,138       26,515      
State and municipal obligations
          1,976       742       2,718      
Other debt obligations 2
          2,116       1,483       3,599      
Equities and convertible debentures
    47,192  3     16,386  4     11,765  5     75,343      
Commodities
          5,911             5,911      
 
 
Total
  $ 132,377     $ 139,760     $ 33,526     $ 305,663      
 
 
                                     
 
    Cash Instrument Liabilities at Fair Value as of March 2011 
in millions   Level 1     Level 2     Level 3     Total      
 
U.S. government and federal agency obligations
  $ 29,933     $ 205     $     $ 30,138      
Non-U.S. government obligations
    27,860       563             28,423      
Mortgage and other asset-backed loans and securities:
                                   
Loans and securities backed by residential real estate
          1       4       5      
Bank loans and bridge loans
          987       441       1,428      
Corporate debt securities 6
    27       7,693       25       7,745      
Equities and convertible debentures 7
    30,813       1,036       12       31,861      
Commodities
          7             7      
 
 
Total
  $ 88,633     $ 10,492     $ 482     $ 99,607      
 
 
 
1.   Includes $371 million and $607 million of collateralized debt obligations (CDOs) backed by real estate in level 2 and level 3, respectively.
 
2.   Includes $624 million and $1.61 billion of CDOs and collateralized loan obligations (CLOs) backed by corporate obligations in level 2 and level 3, respectively.
 
3.   Consists of publicly listed equity securities.
 
4.   Principally consists of restricted and less liquid publicly listed securities.
 
5.   Includes $10.54 billion of private equity investments, $1.13 billion of real estate investments and $93 million of convertible debentures.
 
6.   Includes $8 million and $19 million of CDOs and CLOs backed by corporate obligations in level 2 and level 3, respectively.
 
7.   Substantially all consists of publicly listed equity securities.
 
 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                     
 
    Cash Instrument Assets at Fair Value as of December 2010 
in millions   Level 1     Level 2     Level 3     Total      
 
Commercial paper, certificates of deposit, time deposits and other money market instruments
  $ 4,344     $ 6,918     $     $ 11,262      
U.S. government and federal agency obligations
    36,184       48,744             84,928      
Non-U.S. government obligations
    35,504       5,171             40,675      
Mortgage and other asset-backed loans and securities 1:
                                   
Loans and securities backed by commercial real estate
          3,381       2,819       6,200      
Loans and securities backed by residential real estate
          7,031       2,373       9,404      
Loan portfolios
          153       1,285       1,438      
Bank loans and bridge loans
          8,134       9,905       18,039      
Corporate debt securities 2
    108       21,874       2,737       24,719      
State and municipal obligations
          2,038       754       2,792      
Other debt obligations
          1,958       1,274       3,232      
Equities and convertible debentures
    41,660  3     15,113  4     11,060  5     67,833      
Commodities
          13,138             13,138      
 
 
Total
  $ 117,800     $ 133,653     $ 32,207     $ 283,660      
 
 
                                     
 
    Cash Instrument Liabilities at Fair Value as of December 2010 
in millions   Level 1     Level 2     Level 3     Total      
 
U.S. government and federal agency obligations
  $ 23,191     $ 73     $     $ 23,264      
Non-U.S. government obligations
    28,168       841             29,009      
Mortgage and other asset-backed loans and securities:
                                   
Loans and securities backed by commercial real estate
          5             5      
Loans and securities backed by residential real estate
          6             6      
Bank loans and bridge loans
          1,107       380       1,487      
Corporate debt securities 6
    26       7,133       60       7,219      
Equities and convertible debentures 7
    24,283       699       6       24,988      
Commodities
          9             9      
 
 
Total
  $ 75,668     $ 9,873     $ 446     $ 85,987      
 
 
 
1.   Includes $212 million and $565 million of CDOs backed by real estate in level 2 and level 3, respectively.
 
2.   Includes $368 million and $1.07 billion of CDOs and CLOs backed by corporate obligations in level 2 and level 3, respectively.
 
3.   Consists of publicly listed equity securities.
 
4.   Substantially all consists of restricted and less liquid publicly listed securities.
 
5.   Includes $10.03 billion of private equity investments, $874 million of real estate investments and $156 million of convertible debentures.
 
6.   Includes $35 million of CDOs and CLOs backed by corporate obligations in level 3.
 
7.   Substantially all consists of publicly listed equity securities.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
 
Level 3 Rollforward

If a cash instrument was transferred to level 3 during a reporting period, its entire gain or loss for the period is included in level 3. Transfers between levels are reported at the beginning of the reporting period in which they occur.

The tables below present changes in fair value for all cash instrument assets and liabilities categorized as level 3 as of the end of the period.
 


 
                                                                     
 
    Level 3 Cash Instrument Assets at Fair Value for the Three Months Ended March 2011 
                Net unrealized
                                   
                gains/(losses)
                      Net
           
                relating to
                      transfers
           
    Balance,
    Net realized
    instruments
                      in and/or
    Balance,
     
    beginning
    gains/
    still held at
                      (out) of
    end of
     
in millions   of period     (losses)     period-end     Purchases 1     Sales     Settlements     level 3     period      
 
Mortgage and other asset-backed loans and securities:
                                                                   
Loans and securities backed by commercial real estate
    $  2,819     $ 38     $ 141     $ 374     $ (504 )   $ (195 )   $ (152 )   $ 2,521      
Loans and securities backed by residential real estate
    2,373       48       48       573       (215 )     (193 )     2       2,636      
Loan portfolios
    1,285       22       23       17       (38 )     (141 )     144       1,312      
Bank loans and bridge loans
    9,905       169       568       491       (274 )     (604 )     (326 )     9,929      
Corporate debt securities
    2,737       92       216       789       (459 )     (104 )     (133 )     3,138      
State and municipal obligations
    754       1       13       7       (3 )     (1 )     (29 )     742      
Other debt obligations
    1,274       24       20       297       (149 )     (53 )     70       1,483      
Equities and convertible debentures
    11,060       40       233       268       (302 )     (121 )     587       11,765      
 
 
Total
    $32,207     $ 434     $ 1,262     $ 2,816     $ (1,944 )   $ (1,412 )   $ 163     $ 33,526      
 
 
 
                                                                     
 
    Level 3 Cash Instrument Liabilities at Fair Value for the Three Months Ended March 2011 
                Net unrealized
                                   
                (gains)/losses
                      Net
           
                relating to
                      transfers
           
    Balance,
    Net realized
    instruments
                      in and/or
    Balance,
     
    beginning
    (gains)/
    still held at
                      (out) of
    end of
     
in millions   of period     losses     period-end       Purchases     Sales     Settlements     level 3     period      
 
Total
    $446     $ (22 )   $ 41     $ (59 )   $ 90     $ 8     $ (22 )   $ 482      
 
 
 
1.   Includes both originations and secondary market purchases.
 

Significant transfers in or out of level 3 during the three months ended March 2011 included:
 
•   Bank loans and bridge loans: net transfer out of level 3 of $326 million, principally due to transfers to level 2 of certain loans due to improved transparency of market prices as a result of market transactions in these financial instruments, partially offset by transfers to level 3 of certain loans due to reduced transparency of market prices as a result of less market activity in these financial instruments.

•   Equities and convertible debentures: net transfer into level 3 of $587 million, principally due to transfers to level 3 of certain private equity investments due to reduced transparency of market prices as a result of less market activity in these financial instruments, partially offset by transfers to level 2 of certain equity investments due to improved transparency of market prices as a result of initial public offerings.
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                                     
 
    Level 3 Cash Instrument Assets at Fair Value for the Three Months Ended March 2010 
                Net unrealized
                       
                gains/(losses)
    Net
    Net
           
                relating to
    purchases,
    transfers
           
    Balance,
    Net
    instruments
    issuances
    in and/or
    Balance,
     
    beginning
    realized
    still held at
    and
    (out) of
    end of
     
in millions   of period     gains/(losses)     period-end     settlements     level 3     period      
 
Mortgage and other asset-backed loans and securities:
                                                   
Loans and securities backed by commercial real estate
  $ 4,620     $ 63     $ 184     $ (506 )   $ (291 )   $ 4,070      
Loans and securities backed by residential real estate
    1,880       37       102       (141 )     253       2,131      
Loan portfolios
    1,364       28       3       (116 )     12       1,291      
Bank loans and bridge loans
    9,560       180       202       (655 )     36       9,323      
Corporate debt securities
    2,235       82       260       707       (581 )     2,703      
State and municipal obligations
    1,114       1       5       (225 )     (25 )     870      
Other debt obligations
    2,235       (5 )     94       (75 )     (762 )     1,487      
Equities and convertible debentures
    11,871       115       (17 )     (1,053 )     (263 )     10,653      
 
 
Total
  $ 34,879     $ 501     $ 833     $ (2,064 )   $ (1,621 )   $ 32,528      
 
 
                                                     
                                                     
 
    Level 3 Cash Instrument Liabilities at Fair Value for the Three Months Ended March 2010 
                Net unrealized
                       
                (gains)/losses
    Net
    Net
           
                relating to
    purchases,
    transfers
           
    Balance,
    Net
    instruments
    issuances
    in and/or
    Balance,
     
    beginning
    realized
    still held at
    and
    (out) of
    end of
     
in millions   of period     (gains)/losses     period-end     settlements     level 3     period      
 
Total
  $ 572     $ (14 )   $ (34 )   $ (10 )   $ (31 )   $ 483      
 
 
 

Significant transfers in or out of level 3 during the three months ended March 2010 included:
 
•   Corporate debt securities: net transfer out of level 3 of $581 million, principally due to a reduction in financial instruments as a result of the consolidation of a VIE which holds intangible assets.

•   Other debt obligations: net transfer out of level 3 of $762 million, principally due to a reduction in financial instruments as a result of the consolidation of a VIE. The VIE holds real estate assets which are included in “Other assets.”
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Investments in Funds That Calculate Net Asset
Value Per Share

Cash instruments at fair value include investments in funds that are valued based on the net asset value per share (NAV) of the investment fund. The firm uses NAV as its measure of fair value for fund investments when (i) the fund investment does not have a readily determinable fair value and (ii) the NAV of the investment fund is calculated in a manner consistent with the measurement principles of investment company accounting, including measurement of the underlying investments at fair value.
 
The firm’s investments in funds that calculate NAV primarily consist of investments in firm-sponsored funds where the firm co-invests with third-party investors. The private equity, private debt and real

estate funds are primarily closed-end funds in which the firm’s investments are not eligible for redemption. Distributions will be received from these funds as the underlying assets are liquidated and it is estimated that substantially all of the underlying assets of existing funds will be liquidated over the next 10 years. The firm’s investments in hedge funds are generally redeemable on a quarterly basis with 91 days’ notice, subject to a maximum redemption level of 25% of the firm’s initial investments at any quarter-end.
 
The table below presents the fair value of the firm’s investments in, and unfunded commitments to, funds that calculate NAV.


 
                                     
 
    As of March 2011     As of December 2010 
    Fair Value of
    Unfunded
    Fair Value of
    Unfunded
     
in millions   Investments     Commitments     Investments     Commitments      
 
Private equity funds 1
    $  8,627     $ 4,215       $  7,911     $   4,816      
Private debt funds 2
    3,954       3,542       4,267       3,721      
Hedge funds 3
    3,280             3,169            
Real estate and other funds 4
    1,251       1,840       1,246       1,884      
 
 
Total
    $17,112     $ 9,597       $16,593     $ 10,421      
 
 
 
1.   These funds primarily invest in a broad range of industries worldwide in a variety of situations, including leveraged buyouts, recapitalizations and growth investments.
 
2.   These funds generally invest in loans and other fixed income instruments and are focused on providing private high-yield capital for mid- to large-sized leveraged and management buyout transactions, recapitalizations, financings, refinancings, acquisitions and restructurings for private equity firms, private family companies and corporate issuers.
 
3.   These funds are primarily multi-disciplinary hedge funds that employ a fundamental bottom-up investment approach across various asset classes and strategies including long/short equity, credit, convertibles, risk arbitrage/special situations and capital structure arbitrage.
 
4.   These funds invest globally, primarily in real estate companies, loan portfolios, debt recapitalizations and direct property.
 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Note 7.  Derivatives and Hedging Activities
 
Derivative Activities

Derivatives are instruments that derive their value from underlying asset prices, indices, reference rates and other inputs, or a combination of these factors. Derivatives may be privately negotiated contracts, which are usually referred to as over-the-counter (OTC) derivatives, or they may be listed and traded on an exchange (exchange-traded).
 
Market-Making.  As a market maker, the firm enters into derivative transactions with clients and other market participants to provide liquidity and to facilitate the transfer and hedging of risk. In this capacity, the firm typically acts as principal and is consequently required to commit capital to provide execution. As a market maker, it is essential to maintain an inventory of financial instruments sufficient to meet expected client and market demands.
 
Risk Management.  The firm also enters into derivatives to actively manage risk exposures that arise from market-making and investing and lending activities in derivative and cash instruments. In addition, the firm may enter into derivatives designated as hedges under U.S. GAAP. These derivatives are used to manage foreign currency exposure on the net investment in certain non-U.S. operations and to manage interest rate exposure in certain fixed-rate unsecured long-term and short-term borrowings, and certificates of deposit.

The firm enters into various types of derivatives, including:
 
•   Futures and Forwards.  Contracts that commit counterparties to purchase or sell financial instruments, commodities or currencies in the future.
 
•   Swaps.  Contracts that require counterparties to exchange cash flows such as currency or interest payment streams. The amounts exchanged are based on the specific terms of the contract with reference to specified rates, financial instruments, commodities, currencies or indices.
 
•   Options.  Contracts in which the option purchaser has the right but not the obligation to purchase from or sell to the option writer financial instruments, commodities or currencies within a defined time period for a specified price.
 
Derivatives are accounted for at fair value, net of cash collateral received or posted under credit support agreements. Derivatives are reported on a net-by-counterparty basis (i.e., the net payable or receivable for derivative assets and liabilities for a given counterparty) when a legal right of setoff exists under an enforceable netting agreement. Derivative assets and liabilities are included in “Financial instruments owned, at fair value” and “Financial instruments sold, but not yet purchased, at fair value,” respectively.
 
Substantially all gains and losses on derivatives not designated as hedges under U.S. GAAP, are included in “Market making” and “Other principal transactions.”
 
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
The table below presents the fair value of exchange-traded and OTC derivatives on a net-by-counterparty basis.
 
                                     
 
    As of March 2011     As of December 2010 
    Derivative
    Derivative
    Derivative
    Derivative
     
in millions   Assets     Liabilities     Assets     Liabilities      
 
Exchange-traded
  $ 6,221     $ 3,888     $ 7,601     $ 2,794      
Over-the-counter
    62,922       47,503       65,692       51,936      
 
 
Total
  $ 69,143     $ 51,391     $ 73,293     $ 54,730      
 
 
 

The table below presents the fair value, and the number, of derivative contracts by major product type on a gross basis. Gross fair values in the table below exclude the effects of both netting under enforceable netting

agreements and netting of cash collateral received or posted under credit support agreements, and therefore are not representative of the firm’s exposure.


                                                     
  
 
    As of March 2011     As of December 2010 
    Derivative
    Derivative
    Number of
    Derivative
    Derivative
    Number of
     
in millions, except number of contracts   Assets     Liabilities     Contracts     Assets     Liabilities     Contracts      
 
Derivatives not accounted for as hedges
                                                   
Interest rates
  $ 394,777     $ 355,140       273,435     $ 463,145     $ 422,514       272,279      
Credit
    116,384       95,927       364,851       127,153       104,407       367,779      
Currencies
    84,190       68,064       305,920       87,959       70,273       222,706      
Commodities
    50,010       53,712       73,852       36,689       41,666       70,890      
Equities
    67,464       53,743       366,032       65,815       51,948       289,059      
 
 
Subtotal
    712,825       626,586       1,384,090       780,761       690,808       1,222,713      
 
 
Derivatives accounted for as hedges
                                                   
Interest rates
    21,552       27       957       23,396       33       997      
Currencies
    2       82       73       6       162       72      
 
 
Subtotal
    21,554       109       1,030       23,402       195       1,069      
 
 
Gross fair value of derivatives
  $ 734,379     $ 626,695       1,385,120     $ 804,163     $ 691,003       1,223,782      
 
 
Counterparty netting 1
    (559,990 )     (559,990 )             (620,553 )     (620,553 )            
Cash collateral netting 2
    (105,246 )     (15,314 )             (110,317 )     (15,720 )            
 
 
Fair value included in financial instruments owned
  $ 69,143                     $ 73,293                      
 
 
Fair value included in financial instruments sold, but not yet purchased
          $ 51,391                     $ 54,730              
 
 
 
1.   Represents the netting of receivable balances with payable balances for the same counterparty under enforceable netting agreements.
 
2.   Represents the netting of cash collateral received and posted on a counterparty basis under credit support agreements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Valuation Techniques for Derivatives
See Note 5 for an overview of the firm’s fair value measurement policies and the fair value hierarchy.
 
Level 1 Derivatives
Exchange-traded derivatives fall within level 1 if they are actively traded and are valued at their quoted market price.
 
Level 2 Derivatives
Level 2 derivatives include exchange-traded derivatives that are not actively traded and OTC derivatives for which all significant valuation inputs are corroborated by market evidence.
 
Level 2 exchange-traded derivatives are valued using models that calibrate to market-clearing levels of OTC derivatives. Inputs to the valuations of level 2 OTC derivatives can be verified to market-clearing transactions, broker or dealer quotations or other alternative pricing sources with reasonable levels of price transparency. Consideration is given to the nature of the quotations (e.g., indicative or firm) and the relationship of recent market activity to the prices provided from alternative pricing sources.
 
Where models are used, the selection of a particular model to value an OTC derivative depends on the contractual terms of and specific risks inherent in the instrument, as well as the availability of pricing information in the market. Valuation models require a variety of inputs, including contractual terms, market prices, yield curves, credit curves, measures of volatility, prepayment rates, loss severity rates and correlations of such inputs. For OTC derivatives that trade in liquid markets, model selection does not involve significant management judgment because outputs of models can be calibrated to market-clearing levels.
 
Price transparency of OTC derivatives can generally be characterized by product type.
 
Interest Rate.  In general, the prices and other inputs used to value interest rate derivatives are transparent, even for long-dated contracts. Interest rate swaps and options denominated in the currencies of leading industrialized nations are characterized by high trading volumes and tight bid/offer spreads. Interest rate derivatives that reference indices, such as an inflation index, or the shape of the yield curve (e.g., 10-year swap rate vs. 2-year swap rate), are more complex and are therefore less transparent, but the prices and other inputs are generally observable.

Credit.  Price transparency for credit default swaps, including both single names and baskets of credits, varies by market and underlying reference entity or obligation. Credit default swaps that reference indices, large corporates and major sovereigns generally exhibit the most price transparency. For credit default swaps with other underliers, price transparency varies based on credit rating, the cost of borrowing the underlying reference obligations, and the availability of the underlying reference obligations for delivery upon the default of the issuer. Credit default swaps that reference loans, asset-backed securities and emerging market debt instruments tend to be less transparent than those that reference corporate bonds. In addition, more complex credit derivatives, such as those sensitive to the correlation between two or more underlying reference obligations, generally have less price transparency.
 
Currency.  Prices for currency derivatives based on the exchange rates of leading industrialized nations, including those with longer tenors, are generally transparent. The primary difference between the transparency of developed and emerging market currency derivatives is that emerging markets tend to be observable for contracts with shorter tenors.
 
Commodity.  Commodity derivatives include transactions referenced to energy (e.g., oil and natural gas), metals (e.g., precious and base) and soft commodities (e.g., agricultural). Price transparency varies based on the underlying commodity, delivery location, tenor and product quality (e.g., diesel fuel compared to unleaded gasoline). In general, price transparency for commodity derivatives is greater for contracts with shorter tenors and contracts that are more closely aligned with major and/or benchmark commodity indices.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Equity.  Price transparency for equity derivatives varies by market and underlier. Options on indices and the common stock of corporates included in major equity indices exhibit the most price transparency. Exchange-traded and OTC equity derivatives generally have observable market prices, except for contracts with long tenors or reference prices that differ significantly from current market prices. More complex equity derivatives, such as those sensitive to the correlation between two or more individual stocks, generally have less price transparency.
 
Liquidity is essential to observability of all product types. If transaction volumes decline, previously transparent prices and other inputs may become unobservable. Conversely, even highly structured products may at times have trading volumes large enough to provide observability of prices and other inputs.
 
Level 3 Derivatives
Level 3 OTC derivatives are valued using models which utilize observable level 1 and/or level 2 inputs, as well as unobservable level 3 inputs.
 
•   For the majority of the firm’s interest rate and currency derivatives classified within level 3, the significant unobservable inputs are correlations of certain currencies and interest rates (e.g., the correlation of Japanese yen foreign exchange rates to U.S. dollar interest rates).
 
•   For credit derivatives classified within level 3, significant level 3 inputs include long-dated credit and funding spreads as well as certain correlation inputs required to value credit and mortgage derivatives (e.g., the likelihood of default of the underlying reference obligations relative to one another).

•   For level 3 equity derivatives, significant level 3 inputs generally include equity volatility inputs for options that are very long-dated and/or have strike prices that differ significantly from current market prices. In addition, the valuation of certain structured trades requires the use of level 3 inputs for the correlation of the price performance for two or more individual stocks.
 
•   For level 3 commodity derivatives, significant level 3 inputs include volatilities for options with strike prices that differ significantly from current market prices and prices for certain products for which the product quality is not aligned with benchmark indices.
 
Subsequent to the initial valuation of a level 3 OTC derivative, the firm updates the level 1 and level 2 inputs to reflect observable market changes and any resulting gains and losses are recorded in level 3. Level 3 inputs are changed when corroborated by evidence such as similar market transactions, third-party pricing services and/or broker or dealer quotations or other empirical market data. In circumstances where the firm cannot verify the model value by reference to market transactions, it is possible that a different valuation model could produce a materially different estimate of fair value.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Valuation Adjustments
Valuation adjustments are integral to determining the fair value of derivatives and are used to adjust the mid-market valuations, produced by derivative pricing models, to the appropriate exit price valuation. These adjustments incorporate bid/offer spreads, the cost of liquidity on large or illiquid positions and credit valuation adjustments (CVA) which account for the credit risk inherent in derivative portfolios. Market-based inputs are generally used when calibrating valuation adjustments to market-clearing levels.
 
In addition, for derivatives that include significant unobservable inputs, the firm makes model or exit

price adjustments to account for the valuation uncertainty present in the transaction.
 
Fair Value of Derivatives by Level
The tables below present the fair value of derivatives on a gross basis by level and major product type. Gross fair values in the tables below exclude the effects of both netting under enforceable netting agreements and netting of cash received or posted under credit support agreements both in and across levels of the fair value hierarchy, and therefore are not representative of the firm’s exposure.


 
                                             
 
    Derivative Assets at Fair Value as of March 2011 
                      Cross-Level
           
in millions   Level 1     Level 2     Level 3     Netting     Total      
 
Interest rates
  $ 16     $ 416,216     $ 97     $     $ 416,329      
Credit
          105,737       10,647             116,384      
Currencies
          82,283       1,909             84,192      
Commodities
          48,095       1,915             50,010      
Equities
    27       65,825       1,612             67,464      
 
 
Gross fair value of derivative assets
    43       718,156       16,180             734,379      
Counterparty netting 1
          (553,313 )     (4,343 )     (2,334 3     (559,990 )    
 
 
Subtotal
  $ 43     $ 164,843     $ 11,837     $ (2,334 )   $ 174,389      
Cash collateral netting 2
                                    (105,246 )    
 
 
Fair value included in financial instruments owned
                                  $ 69,143      
 
 
 
                                             
 
    Derivative Liabilities at Fair Value as of March 2011 
                      Cross-Level
           
in millions   Level 1     Level 2     Level 3     Netting     Total      
 
Interest rates
  $ 9     $ 354,964     $ 194     $     $ 355,167      
Credit
          91,871       4,056             95,927      
Currencies
          67,369       777             68,146      
Commodities
          51,990       1,722             53,712      
Equities
    158       50,957       2,628             53,743      
 
 
Gross fair value of derivative liabilities
    167       617,151       9,377             626,695      
Counterparty netting 1
          (553,313 )     (4,343 )     (2,334 ) 3     (559,990 )    
 
 
Subtotal
  $ 167     $ 63,838     $ 5,034     $ (2,334 )   $ 66,705      
Cash collateral netting 2
                                    (15,314 )    
 
 
Fair value included in financial instruments sold, but not yet purchased
                                  $ 51,391      
 
 
 
1.   Represents the netting of receivable balances with payable balances for the same counterparty under enforceable netting agreements.
 
2.   Represents the netting of cash collateral received and posted on a counterparty basis under credit support agreements.
 
3.   Represents the netting of receivable balances with payable balances for the same counterparty across levels of the fair value hierarchy under enforceable netting agreements.
 

 


 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                             
 
    Derivative Assets at Fair Value as of December 2010 
                      Cross-Level
           
in millions   Level 1     Level 2     Level 3     Netting     Total      
 
Interest rates
  $ 49     $ 486,037     $ 455     $     $ 486,541      
Credit
          115,519       11,634             127,153      
Currencies
          86,158       1,807             87,965      
Commodities
          34,511       2,178             36,689      
Equities
    44       64,267       1,504             65,815      
 
 
Gross fair value of derivative assets
    93       786,492       17,578             804,163      
Counterparty netting 1
          (613,979 )     (4,806 )     (1,768 3     (620,553 )    
 
 
Subtotal
  $ 93     $ 172,513     $ 12,772     $ (1,768 )   $ 183,610      
Cash collateral netting 2
                                    (110,317 )    
 
 
Fair value included in financial instruments owned
                                  $ 73,293      
 
 
                                             
 
    Derivative Liabilities at Fair Value as of December 2010 
                      Cross-Level
           
in millions   Level 1     Level 2     Level 3     Netting     Total      
 
Interest rates
  $ 18     $ 422,267     $ 262     $     $ 422,547      
Credit
          99,813       4,594             104,407      
Currencies
          69,726       709             70,435      
Commodities
          39,709       1,957             41,666      
Equities
    27       49,427       2,494             51,948      
 
 
Gross fair value of derivative liabilities
    45       680,942       10,016             691,003      
Counterparty netting 1
          (613,979 )     (4,806 )     (1,768 3     (620,553 )    
 
 
Subtotal
  $ 45     $ 66,963     $ 5,210     $ (1,768 )   $ 70,450      
Cash collateral netting 2
                                    (15,720 )    
 
 
Fair value included in financial instruments sold, but not yet purchased
                                  $ 54,730      
 
 
 
1.   Represents the netting of receivable balances with payable balances for the same counterparty under enforceable netting agreements.
 
2.   Represents the netting of cash collateral received and posted on a counterparty basis under credit support agreements.
 
3.   Represents the netting of receivable balances with payable balances for the same counterparty across levels of the fair value hierarchy under enforceable netting agreements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
Level 3 Rollforward

If a derivative was transferred to level 3 during a reporting period, its entire gain or loss for the period is included in level 3. Transfers between levels are reported at the beginning of the reporting period in which they occur.

The tables below present changes in fair value for all derivatives categorized as level 3 as of the end of the period.
 


                                                                     
 
    Level 3 Derivative Assets and Liabilities at Fair Value for the Three Months Ended March 2011
                Net unrealized
                                   
    Asset/
          gains/(losses)
                      Net
    Asset/
     
    (liability)
    Net
    relating to
                      transfers
    (liability)
     
    balance,
    realized
    instruments
                      in and/or
    balance,
     
    beginning
    gains/
    still held at
                      (out) of
    end of
     
in millions   of period     (losses)     period-end     Purchases     Sales     Settlements     level 3     period      
 
Interest rates — net
  $ 194     $ (26 )   $ (58 )   $ 1     $     $ 13     $ (221 )   $ (97 )    
Credit — net
    7,040       3       (104 )     70       (81 )     (722 )     385       6,591      
Currencies — net
    1,098       (1 )     (194 )     25       (6 )     (31 )     241       1,132      
Commodities — net
    220       (78 )     90       241       (233 )     115       (162 )     193      
Equities — net
    (990 )     176       (294 )     459       (625 )     58       200       (1,016 )    
 
 
Total derivatives — net
  $ 7,562     $ 74     $ (560 )   $ 796     $ (945 )   $ (567 )   $ 443     $ 6,803      
 
 
 
                                                     
 
    Level 3 Derivative Assets and Liabilities at Fair Value for the Three Months Ended March 2010 
                Net unrealized
                       
    Asset/
          gains/(losses)
    Net
    Net
    Asset/
     
    (liability)
    Net
    relating to
    purchases,
    transfers
    (liability)
     
    balance,
    realized
    instruments
    issuances
    in and/or
    balance,
     
    beginning
    gains/
    still held at
    and
    (out) of
    end of
     
in millions   of period     (losses)     period-end     settlements     level 3     period      
 
Interest rates — net
  $ (71 )   $ 9     $ (43 )   $ (1 )   $ 200     $ 94      
Credit — net
    6,366       332       1,459       (755 )     (265 )     7,137      
Currencies — net
    215       (18 )     5       9       257       468      
Commodities — net
    (90 )     6       71       3       (234 )     (244 )    
Equities — net
    (1,224 )     40       76       (173 )     162       (1,119 )    
 
 
Total derivatives — net
  $ 5,196     $ 369     $ 1,568     $ (917 )   $ 120     $ 6,336      
 
 
 
 

Significant transfers in or out of level 3 during the three months ended March 2011 included:
 
•   Credit — net: net transfer to level 3 of $385 million, principally due to reduced transparency of the correlation inputs used to value certain mortgage derivatives.
 
There were no significant transfers in or out of level 3 during the three months ended March 2010.
 
Impact of Credit Spreads on Derivatives
On an ongoing basis, the firm realizes gains or losses relating to changes in credit risk on derivatives through changes in credit mitigants or the sale or unwind of the contracts.
 
The net gain/(loss) attributable to the impact of changes in credit exposure and credit spreads on derivatives

were $(25) million and $44 million for the three months ended March 2011 and March 2010, respectively.
 
Bifurcated Embedded Derivatives
The table below presents derivatives, primarily equity and interest rate products, that have been bifurcated from their related borrowings. These derivatives are recorded at fair value and included in “Unsecured short-term borrowings” and “Unsecured long-term borrowings.” See Note 8 for further information.
 
                     
 
    As of
in millions, except number
  March
    December
     
of contracts   2011     2010      
 
Fair value of assets
  $ 393     $ 383      
Fair value of liabilities
    276       267      
 
 
Net
  $ 117     $ 116      
 
 
Number of contracts
    358       338      
 
 
 


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
OTC Derivatives

The tables below present the fair values of OTC derivative assets and liabilities by tenor and by product type. Tenor is based on expected duration for

mortgage-related credit derivatives and generally on remaining contractual maturity for other derivatives.
 


 
                                     
 
in millions   OTC Derivatives as of March 2011      
 
Assets
                           
    0-12
    1-5
    5 Years or
           
Product Type   Months     Years     Greater     Total      
 
Interest rates
  $ 6,175     $ 28,913     $ 59,106     $ 94,194      
Credit
    2,716       13,956       12,408       29,080      
Currencies
    9,528       11,746       14,472       35,746      
Commodities
    7,514       5,902       535       13,951      
Equities
    5,158       12,187       6,496       23,841      
Netting across product types 1
    (2,503 )     (5,898 )     (4,500 )     (12,901 )    
 
 
Subtotal
  $ 28,588     $ 66,806     $ 88,517     $ 183,911      
Cross maturity netting 2
                            (15,743 )    
Cash collateral netting 3
                            (105,246 )    
 
 
Total
                          $ 62,922      
 
 
 
                                     
Liabilities
                           
    0-12
    1-5
    5 Years or
           
Product Type   Months     Years     Greater     Total      
 
Interest rates
  $ 3,885     $ 12,663     $ 16,495     $ 33,043      
Credit
    1,029       4,329       3,265       8,623      
Currencies
    9,002       5,590       5,014       19,606      
Commodities
    8,185       7,889       1,718       17,792      
Equities
    4,240       4,869       3,288       12,397      
Netting across product types 1
    (2,503 )     (5,898 )     (4,500 )     (12,901 )    
 
 
Subtotal
  $ 23,838     $ 29,442     $ 25,280     $ 78,560      
Cross maturity netting 2
                            (15,743 )    
Cash collateral netting 3
                            (15,314 )    
 
 
Total
                          $ 47,503      
 
 
 
1.   Represents the netting of receivable balances with payable balances for the same counterparty across product types within a tenor category under enforceable netting agreements. Receivable and payable balances with the same counterparty in the same product type and tenor category are netted within such product type and tenor category.
 
2.   Represents the netting of receivable balances with payable balances for the same counterparty across tenor categories under enforceable netting agreements.
 
3.   Represents the netting of cash collateral received and posted on a counterparty basis under credit support agreements.
 

 


 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                     
 
in millions   OTC Derivatives as of December 2010      
 
Assets
                           
    0-12
    1-5
    5 Years or
           
Product Type   Months     Years     Greater     Total      
 
Interest rates
  $ 7,137     $ 34,384     $ 60,750     $ 102,271      
Credit
    2,777       16,145       13,525       32,447      
Currencies
    9,968       10,696       14,868       35,532      
Commodities
    5,664       5,996       248       11,908      
Equities
    4,795       10,942       7,037       22,774      
Netting across product types 1
    (2,937 )     (5,513 )     (5,077 )     (13,527 )    
 
 
Subtotal
  $ 27,404     $ 72,650     $ 91,351     $ 191,405      
Cross maturity netting 2
                            (15,396 )    
Cash collateral netting 3
                            (110,317 )    
 
 
Total
                          $ 65,692      
 
 
 
                                     
Liabilities
                           
    0-12
    1-5
    5 Years or
           
Product Type   Months     Years     Greater     Total      
 
Interest rates
  $ 4,470     $ 14,072     $ 19,760     $ 38,302      
Credit
    1,024       4,862       3,816       9,702      
Currencies
    8,036       5,219       4,986       18,241      
Commodities
    7,279       7,838       2,528       17,645      
Equities
    3,962       4,977       3,750       12,689      
Netting across product types 1
    (2,937 )     (5,513 )     (5,077 )     (13,527 )    
 
 
Subtotal
  $ 21,834     $ 31,455     $ 29,763     $ 83,052      
Cross maturity netting 2
                            (15,396 )    
Cash collateral netting 3
                            (15,720 )    
 
 
Total
                          $ 51,936      
 
 
 
1.   Represents the netting of receivable balances with payable balances for the same counterparty across product types within a tenor category under enforceable netting agreements. Receivable and payable balances with the same counterparty in the same product type and tenor category are netted within such product type and tenor category.
 
2.   Represents the netting of receivable balances with payable balances for the same counterparty across tenor categories under enforceable netting agreements.
 
3.   Represents the netting of cash collateral received and posted on a counterparty basis under credit support agreements.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Derivatives with Credit-Related
Contingent Features
Certain of the firm’s derivatives have been transacted under bilateral agreements with counterparties who may require the firm to post collateral or terminate the transactions based on changes in the firm’s credit ratings. The table below presents the aggregate fair value of net derivative liabilities under such agreements (excluding application of collateral posted to reduce these liabilities), the related aggregate fair value of the assets posted as collateral, and the additional collateral or termination payments that could have been called at the reporting date by counterparties in the event of a one-notch and two-notch downgrade in the firm’s credit ratings.
 
                     
 
    As of
    March
    December
     
in millions   2011     2010      
 
Net derivative liabilities under bilateral agreements
  $ 21,498     $ 23,843      
Collateral posted
    15,415       16,640      
Additional collateral or termination payments for a one-notch downgrade
    925       1,353      
Additional collateral or termination payments for a two-notch downgrade
    2,211       2,781      
 
 
 
Credit Derivatives
The firm enters into a broad array of credit derivatives in locations around the world to facilitate client transactions and to manage the credit risk associated with market-making and investing and lending activities. Credit derivatives are actively managed based on the firm’s net risk position.
 
Credit derivatives are individually negotiated contracts and can have various settlement and payment conventions. Credit events include failure to pay, bankruptcy, acceleration of indebtedness, restructuring, repudiation and dissolution of the reference entity.

Credit Default Swaps.  Single-name credit default swaps protect the buyer against the loss of principal on one or more bonds, loans or mortgages (reference obligations) in the event the issuer (reference entity) of the reference obligations suffers a credit event. The buyer of protection pays an initial or periodic premium to the seller and receives protection for the period of the contract. If there is no credit event, as defined in the contract, the seller of protection makes no payments to the buyer of protection. However, if a credit event occurs, the seller of protection is required to make a payment, which is calculated in accordance with the terms of the contract, to the buyer of protection.
 
Credit Indices, Baskets and Tranches.  Credit derivatives may reference a basket of single-name credit default swaps or a broad-based index. If a credit event occurs in one of the underlying reference obligations, the protection seller pays the protection buyer. The payment is typically a pro-rata portion of the transaction’s total notional amount based on the underlying defaulted reference obligation. In certain transactions, the credit risk of a basket or index is separated into various portions (tranches) each having different levels of subordination. The most junior tranches cover initial defaults and once losses exceed the notional amount of these junior tranches, any excess loss is covered by the next most senior tranche in the capital structure.
 
Total Return Swaps.  A total return swap transfers the risks relating to economic performance of a reference obligation from the protection buyer to the protection seller. Typically, the protection buyer receives from the protection seller a floating rate of interest and protection against any reduction in fair value of the reference obligation, and in return the protection seller receives the cash flows associated with the reference obligation, plus any increase in the fair value of the reference obligation.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Credit Options.  In a credit option, the option writer assumes the obligation to purchase or sell a reference obligation at a specified price or credit spread. The option purchaser buys the right but not the obligation to sell the reference obligation to, or purchase it from, the option writer. The payments on credit options depend either on a particular credit spread or the price of the reference obligation.
 
The firm economically hedges its exposure to written credit derivatives primarily by entering into offsetting purchased credit derivatives with identical underlyings. Substantially all of the firm’s purchased credit derivative transactions are with financial institutions and are subject to stringent collateral thresholds. In addition, upon the occurrence of a specified trigger event, the firm may take possession of the reference obligations underlying a particular written credit derivative, and consequently may, upon liquidation of the reference obligations, recover amounts on the underlying reference obligations in the event of default.
 
As of March 2011, written and purchased credit derivatives had total gross notional amounts of $2.09 trillion and $2.25 trillion, respectively, for total

net notional purchased protection of $156.69 billion. As of December 2010, written and purchased credit derivatives had total gross notional amounts of $2.05 trillion and $2.19 trillion, respectively, for total net notional purchased protection of $140.63 billion.
 
The table below presents certain information about credit derivatives. In the table below:
 
•   Fair values exclude the effects of both netting under enforceable netting agreements and netting of cash received or posted under credit support agreements, and therefore are not representative of the firm’s exposure;
 
•   Tenor is based on expected duration for mortgage-related credit derivatives and on remaining contractual maturity for other credit derivatives; and
 
•   The credit spread on the underlying, together with the tenor of the contract, are indicators of payment/performance risk. The firm is less likely to pay or otherwise be required to perform where the credit spread and the tenor are lower.


 
                                                                             
 
          Maximum Payout/Notional
     
    Maximum Payout/Notional Amount
    Amount of Purchased
    Fair Value of
    of Written Credit Derivatives by Tenor     Credit Derivatives     Written Credit Derivatives
                            Offsetting
    Other
                       
                5 Years
          Purchased
    Purchased
                Net
     
    0 – 12
    1 – 5
    or
          Credit
    Credit
                Asset/
     
$ in millions   Months     Years     Greater     Total     Derivatives 1     Derivatives 2     Asset     Liability     (Liability)      
 
As of March 2011
Credit spread on
underlying
(basis points)
0-250
  $ 259,213     $ 1,140,722     $ 316,731     $ 1,716,666     $ 1,605,632     $ 265,675     $ 33,580     $ 12,853     $ 20,727      
251-500
    8,950       120,985       48,707       178,642       145,696       26,657       7,620       4,184       3,436      
501-1,000
    7,959       81,869       31,846       121,674       102,500       21,578       2,212       11,498       (9,286 )    
Greater than 1,000
    7,848       57,459       11,770       77,077       63,395       19,620       621       28,974       (28,353 )    
 
 
Total
  $ 283,970     $ 1,401,035     $ 409,054     $ 2,094,059     $ 1,917,223     $ 333,530     $ 44,033     $ 57,509     $ (13,476 )    
 
 

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 
                                                                             
 
          Maximum Payout/Notional
     
    Maximum Payout/Notional Amount
    Amount of Purchased
    Fair Value of
    of Written Credit Derivatives by Tenor     Credit Derivatives     Written Credit Derivatives
                            Offsetting
    Other
                       
                5 Years
          Purchased
    Purchased
                Net
     
    0 – 12
    1 – 5
    or
          Credit
    Credit
                Asset/
     
$ in millions   Months     Years     Greater     Total     Derivatives 1     Derivatives 2     Asset     Liability     (Liability)      
 
As of December 2010
Credit spread on
underlying
(basis points)
0-250
  $ 235,798     $ 1,094,308     $ 288,851     $ 1,618,957     $ 1,511,113     $ 232,506     $ 32,071     $ 14,780     $ 17,291      
251-500
    14,412       144,448       52,072       210,932       183,613       36,713       7,368       7,739       (371 )    
501-1,000
    6,384       89,212       33,553       129,149       110,019       18,686       2,571       11,256       (8,685 )    
Greater than 1,000
    11,721       63,982       12,022       87,725       70,945       23,795       483       33,670       (33,187 )    
 
 
Total
  $ 268,315     $ 1,391,950     $ 386,498     $ 2,046,763     $ 1,875,690     $ 311,700     $ 42,493     $ 67,445     $ (24,952 )    
 
 
 
1.   Offsetting purchased credit derivatives represent the notional amount of purchased credit derivatives to the extent they economically hedge written credit derivatives with identical underlyings.
 
2.   Comprised of purchased protection in excess of the amount of written protection on identical underlyings and purchased protection on other underlyings on which the firm has not written protection.

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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Hedge Accounting
The firm applies hedge accounting for (i) certain interest rate swaps used to manage the interest rate exposure of certain fixed-rate unsecured long-term and short-term borrowings and certain fixed-rate certificates of deposit and (ii) certain foreign currency forward contracts and foreign currency-denominated debt used to manage foreign currency exposures on the firm’s net investment in certain non-U.S. operations.
 
To qualify for hedge accounting, the derivative hedge must be highly effective at reducing the risk from the exposure being hedged. Additionally, the firm must formally document the hedging relationship at inception and test the hedging relationship at least on a quarterly basis to ensure the derivative hedge continues to be highly effective over the life of the hedging relationship.
 
Interest Rate Hedges
The firm designates certain interest rate swaps as fair value hedges. These interest rate swaps hedge changes in fair value attributable to the relevant benchmark interest rate (e.g., London Interbank Offered Rate (LIBOR)), effectively converting a substantial portion of fixed-rate obligations into floating-rate obligations.
 
The firm applies the “long-haul method” in assessing the effectiveness of its fair value hedging relationships in achieving offsetting changes in the fair values of the hedging instrument and the risk being hedged (i.e., interest rate risk).
 
During the three months ended March 2010, the firm changed its method of prospectively and retrospectively assessing the effectiveness of all of its fair value hedging relationships from a dollar-offset method, which is a non-statistical method, to regression analysis, which is a statistical method.
 
An interest rate swap is considered highly effective in offsetting changes in fair value attributable to changes in the hedged risk when the regression analysis results in a coefficient of determination of 80% or greater and a slope between 80% and 125%.

The dollar-offset method compared the change in the fair value of the hedging instrument to the change in the fair value of the hedged item, excluding the effect of the passage of time. The prospective dollar-offset assessment used scenario analyses to test hedge effectiveness through simulations of numerous parallel and slope shifts of the relevant yield curve. Parallel shifts changed the interest rate of all maturities by identical amounts. Slope shifts changed the curvature of the yield curve. For both the prospective assessment, in response to each of the simulated yield curve shifts, and the retrospective assessment, a hedging relationship was considered effective if the fair value of the hedging instrument and the hedged item changed inversely within a range of 80% to 125%.
 
For qualifying fair value hedges, gains or losses on derivatives are included in “Interest expense.” The change in fair value of the hedged item attributable to the risk being hedged is reported as an adjustment to its carrying value and is subsequently amortized into interest expense over its remaining life. Gains or losses resulting from hedge ineffectiveness are included in “Interest expense.” See Note 23 for further information about interest income and interest expense.
 
For the three months ended March 2011 and March 2010, the gain/(loss) recognized on interest rate derivatives accounted for as hedges was $(2.66) billion and $687 million, respectively, and the related gain/(loss) recognized on the hedged borrowings and bank deposits was $2.16 billion and $(1.10) billion, respectively. The hedge ineffectiveness recognized on these derivatives for the three months ended March 2011 and March 2010 was a loss of $495 million and a loss of $413 million, respectively. These losses consisted primarily of the amortization of prepaid credit spreads. The gain/(loss) excluded from the assessment of hedge effectiveness was not material for the three months ended March 2011 and March 2010.


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THE GOLDMAN SACHS GROUP, INC. and SUBSIDIARIES
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Net Investment Hedges
The firm seeks to reduce the impact of fluctuations in foreign exchange rates on its net investment in certain non-U.S. operations through the use of foreign currency forward contracts and foreign currency-denominated debt. For foreign currency forward contracts designated as hedges, the effectiveness of the hedge is assessed based on the overall changes in the fair value of the forward contracts (i.e., based on changes in forward rates). For foreign currency-denominated debt designated as a hedge, the effectiveness of the hedge is assessed based on changes in spot rates.
 
For qualifying net investment hedges, the gains or losses on the hedging instruments, to the extent effective, are included in the condensed consolidated statements of comprehensive income.
 
The table below presents the gains/(losses) from net investment hedging. The gains/(losses) below are included in “Currency translation adjustment, net of tax.”
 
                     
 
    Three Months
    Ended March
in millions   2011     2010      
 
Currency hedges
  $ (225 )   $ 121      
Foreign currency-denominated debt
    82       12      
 
 
 
The gain/(loss) related to ineffectiveness and the gain/(loss) reclassified to earnings from accumulated other comprehensive income was not material for the three months ended March 2011 and March 2010.
 
As of March 2011 and December 2010, the firm had designated $2.88 billion and $3.88 billion, respectively, of foreign currency-denominated debt, included in “Unsecured long-term borrowings” and “Unsecured short-term borrowings,” as hedges of net investments in non-U.S. subsidiaries.

Note 8.  Fair Value Option
 
Other Financial Assets and Financial Liabilities at Fair Value
In addition to all cash and derivative instruments included in “Financial instruments owned, at fair value” and “Financial instruments sold, but not yet purchased, at fair value,” the firm has elected to account for certain of its other financial assets and financial liabilities at fair value under the fair value option.
 
The primary reasons for electing the fair value option are to:
 
•   reflect economic events in earnings on a timely basis;
 
•   mitigate volatility in earnings from using different measurement attributes (e.g., transfers of financial instruments owned accounted for as financings are recorded at fair value whereas the related secured financing would be recorded on an accrual basis absent electing the fair value option); and
 
•   address simplification and cost-benefit considerations (e.g., accounting for hybrid financial instruments at fair value in their entirety versus bifurcation of embedded derivatives and hedge accounting for debt hosts).
 
Hybrid financial instruments are instruments that contain bifurcatable embedded derivatives and do not require settlement by physical delivery of non-financial assets (e.g., physical commodities). If the firm elects to bifurcate the embedded derivative from the associated debt, the derivative is accounted for at fair value and the host contract is accounted for at amortized cost, adjusted for the effective portion of any fair value hedges. If the firm does not elect to bifurcate, the entire hybrid financial instrument is accounted for at fair value under the fair value option.


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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(UNAUDITED)
 
 

Other financial assets and financial liabilities accounted for at fair value under the fair value option include:
 
•   resale and repurchase agreements;
 
•   securities borrowed and loaned within Fixed Income, Currency and Commodities Client Execution;
 
•   certain other secured financings, primarily transfers of assets accounted for as financings rather than sales, debt raised through the firm’s William Street credit extension program and certain other nonrecourse financings;
 
•   certain unsecured short-term borrowings, consisting of all promissory notes and commercial paper and certain hybrid financial instruments;
 
•   certain unsecured long-term borrowings, including prepaid commodity transactions and certain hybrid financial instruments;
 
•   certain receivables from customers and counterparties, including certain margin loans, transfers of assets accounted for as secured loans rather than purchases and prepaid variable share forwards;
 
•   certain insurance and reinsurance contract assets and liabilities and certain guarantees;
 
•   certain deposits issued by the firm’s bank subsidiaries, as well as securities held by Goldman Sachs Bank USA (GS Bank USA);
 
•   certain subordinated liabilities issued by consolidated VIEs; and
 
•   in general, investments acquired after November 24, 2006, when the fair value option became available, where the firm has significant influence over the investee and would otherwise apply the equity method of accounting.
 
These financial assets and financial liabilities at fair value are generally valued based on discounted cash flow techniques, which incorporate inputs with reasonable levels of price transparency, and are generally classified as level 2 because the inputs are observable. Valuation adjustments may be made for counterparty and the firm’s credit quality.
 
Significant inputs for each category of other financial assets and financial liabilities at fair value are as follows:

Resale and Repurchase Agreements and Securities Borrowed and Loaned.  The significant inputs to the valuation of resale and repurchase agreements and securities borrowed and loaned are the amount and timing of expected future cash flows, interest rates and collateral funding spreads. See Note 9 for further information.
 
Other Secured Financings.  The significant inputs to the valuation of other secured financings at fair value are the amount and timing of expected future cash flows, interest rates, the fair value of the collateral delivered by the firm (which is determined using the amount and timing of expected future cash flows, market yields and recovery assumptions), the frequency of additional collateral calls and the credit spreads of the firm. See Note 9 for further information.
 
Unsecured Short-term and Long-term Borrowings.  The significant inputs to the valuation of unsecured short-term and long-term borrowings at fair value are the amount and timing of expected future cash flows, interest rates, the credit spreads of the firm, as well as commodity prices in the case of prepaid commodity transactions and, for certain hybrid financial instruments, equity prices, inflation rates and index levels. See Notes 15 and 16 for further information.
 
Receivables from Customers and Counterparties.  The significant inputs to the valuation of certain receivables from customers and counterparties are commodity prices, interest rates and the amount and timing of expected future cash flows.
 
Insurance and Reinsurance Contracts.  Insurance and reinsurance contracts at fair value are included in “Receivables from customers and counterparties” and “Other liabilities and accrued expenses.” These contracts are valued using market transactions and other market evidence where possible, including market-based inputs to models, calibration to market-clearing transactions or other alternative pricing sources with reasonable levels of price transparency. Significant level 2 inputs typically include interest rates and inflation risk. Significant level 3 inputs typically include mortality or funding benefit assumptions. When unobservable inputs to a valuation model are significant to the fair value measurement of an instrument, the instrument is classified in level 3.
 
Deposits.  The significant inputs to the valuation of deposits are interest rates.
 


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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)