Break out the bubbly.
Throw on a black armband.
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Today is the official anniversary commemorating the collapse of Lehman Brothers, the largest bankruptcy of an investment bank since junk bond dealer Drexel Burnham Lambert buckled under the weight of fraud allegations 18 years earlier.
Because the announcement was made over a weekend, the stock market opened to this grim news on the following Monday. By the end of the day, the Dow Jones had plummeted 500 points, the biggest single-day drop since the days following Sept. 11.
Blame Easy to Determine
We had already been in a bear market for nearly year. Lehman’s failure pushed us over the edge.
Lehman Brothers was the victim of its own myopia. In looking back, it has become clear that Chairman and Chief Executive Officer Richard Fuld presided over a corporate culture that buried its failures instead learning from them.
In August 2007, the firm closed its subprime lender, BNC Mortgage, eliminating 1,200 positions in 23 locations, and took an after-tax charge of $25 million plus a $27 million reduction in goodwill. Instead of reevaluating its continuing exposure to subprime liabilities, Fuld and his underlings attributed the loss to a mere “reduction in resources,” in response to the changing conditions in the subprime space.
Although these losses were relatively small, they were a precursor to even deeper problems relating to Lehman’s subprime business.
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During it 159-year history, Lehman Brothers had never had a losing quarter. In 2008, Lehman faced an unprecedented loss to the continuing subprime mortgage crisis. In the second fiscal quarter, Lehman reported losses of $2.8 billion and was forced to sell off $6 billion in assets.
In the first half of 2008 alone, Lehman stock lost 73 percent of its value as the credit market continued to tighten. In August 2008, Lehman reported that it intended to release 6 percent of its work force, 1,500 people, just ahead of its third-quarter-reporting deadline in September.
After Bear Stearns crumbled and before Merrill Lynch was sold to Bank of America, CEO Fuld had several opportunities to salvage the company by selling it to the highest bidder. Fuld rejected buyouts ranging from $40-60 billion in March and April 2008 from suitors such as Barclays Bank and Charlotte-based Bank of America. He said he was offended by the paltry offers.
Just prior to Lehman’s actual collapse, executives at Neuberger Berman, one of the company’s investment management partners, sent an email memo suggesting that in light of its recent failures, Lehman’s top people forego their multi-million dollar quarterly bonuses. George Herbert Walker IV – second cousin to then-President Bush – the investment management director at Lehman’s, rejected the idea as “laughable.”
Banking on the Wrong Person
During final weekend as the company began to unravel, Dick Fuld frantically tried to find a buyer. In desperation he turned to Bank of America’s CEO Ken Lewis, whose company already had purchased troubled subprime lender Countrywide and to Lehman’s former competitor, Merrill Lynch.
Despite repeated attempts to reach him at his Hilton Head beach house, Lewis wouldn’t take Fuld’s calls. Reportedly, each time Fuld called, Lewis’ wife politely told him that her husband was “indisposed” and would call him later.
Later never came.
Ironically, on Sept. 13, just before the book was finally closed on Lehman’s, Treasury Secretary Hank Paulson and Tim Geithner, then President of the New York Federal Reserve Bank, attempted to enlist the aid of 22 of the world’s most powerful bankers to devise a plan to save the legendary firm. None could be bothered. They were too busy trying to save themselves to see the larger threat to the entire financial system.
Apparently this shortsightedness is still endemic both on Wall Street and among its regulators.
The lessons linked with the collapse of Lehman Brothers have not been learned; and in many ways, the financial system remains as vulnerable as it was on Sept. 14, 2008.
Instead of reducing the risk associated with having banks that are too-big-to-fail, we have allowed these institutions to grow even larger.
For example, at the end of the second quarter, Bank of America had $2.25 trillion in assets, 31 percent more than a year earlier, and about 12 percent of all U.S. deposits. As a result, any misstep at this mega-bank could re-ignite the financial bedlam that transpired after Lehman Brothers fell.
In observance of Lehman’s ignominy, President Obama is on Wall Street, talking up his plans for financial reform. The President’s plan, however, will do little to eliminate the risks or consequences that will come to pass if another major financial institution such as Lehman fails.
Instead, the Obama plan would label Bank of America, New York-based Citigroup and others as “systemically important.” It would subject them to capital and liquidity requirements and stricter oversight, relying on the same regulators who didn’t understand the consequences of a Lehman failure. While companies could be dismantled if they got into trouble, they still would be bailed out with taxpayer money.
If the President is serious about reform that actually protects the integrity of our financial system without unloading the burden on the U.S. taxpayers, then we no longer can have banks that are too big to fail.
While it may appear to be antithetical to the basic precepts of the free market, we cannot allow the continued unchecked consolidation now underway in the financial industry. These mega-mergers may be great news for shareholders and a source of fabulous wealth for the executives that put the deals together. But, in the end, it will make our financial system more vulnerable.
As the fall of Lehman Brothers has so painfully demonstrated, we can’t have it both ways.
John Cohn is a senior partner in the Globe West Financial Group, based in West Los Angeles. He may be contacted at www.globewestfinancial.com
