Sunday, September 13, 2009

One Year Ago - September 14th, 2008

This time last year I was an equity analyst at Lehman Brothers. As the firm collapsed, I sent a series of notes to my friends and family with my take on the situation. To coincide with the anniversary, I am publishing them here over the next few days. [Photo: Reporters besiege a Lehman employee]
My Assessment of the Lehman Situation
Originally written Sunday September 14th, 2008, 2:45pm

Dear Friends and Family:

From what I can tell, there may be a stalemate developing in the Lehman situation. There are four groups of stakeholders who have very different interests and whose perceptions of one another's interests may very very different from the reality. It's like a poker game

1) The Fed desperately wants to avoid being seen as bailing out yet another bank. Lehman's outright collapse might not have such devastating consequences but the risk that it would create a market meltdown are enough that the other stakeholders simply don't believe that the Fed would risk it. The perception that the Fed would intercede at the last hour is made more credible by the fact that the markets overseas open hours before we do in New York. So the White House will be getting a lot of phone calls from the Europeans this evening if a deal is not announced

2) The potential buyers (like Bank of America and Barclay's) want the lowest price possible and perceive that Lehman is in no position to dictate terms, but they only want the good bits. They'd take on part of the bad bits, but not all of it. Why not? Because the bad bits are the bits that would cause the market meltdown and so they are arguing that the cost of dealing with the bad bits must be shared across the whole financial system in some way. That way would normally be a Fed guarantee of some sort. The Fed wants the rest of Wall St. to figure out how to do that without any help from the Fed, which has been done before but is not easy on short notice for a liability now estimated to be $85Billion

3) Other wall street players like Goldman Sachs and Merrill Lynch have little to gain from any Lehman deal but a lot to lose if Lehman collapses; they also are short of capital themselves so they all will want to wait as long as possible before committing anything to some sort of collective bailout (and even if they did so, they'd be helping their competitors more than they be risking, perhaps, their own positions if Lehman fails outright. Goldman Sachs is much stronger that Merrill Lynch.)

4) Lehman. The fact that the Fed won't make a guarantee (yet), ironically puts some power right back in the hands of Lehman. Lehman's employees own 30% of the firm and have lost everything already. The top guys are so rich maybe they can afford to watch the bank fail if they choose. If the market wants a systemic bank run, it'll have been the Fed's fault for rolling the dice and losing.

I think this is the elephant in the room right now.

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