Finally, there’s GIG. The word on the latter is that unless they’re bailed out within forty-eight hours, they’re down the tubes, and now you’re talking real money. Amazing! GIG was the great spider squatting at the center of the giant web of global finance and now it’s roadkill.
So we’re at precisely the point Mankoff foresaw when he summoned me to Three Guys. Widespread collapse in the financial sector, Washington flailing, rumors swirling about with cyclonic velocity. What must follow is some form of general bailout in which the measures used to save the weakest will be gravy for the strongest. It remains to be seen how rich a harvest it will yield for STST. More tomorrow, when markets open, and we can get a feel for how bad it’s going to be. People are saying: Wall Street in 2008 is going to resemble Hiroshima in 1945. Stay tuned.
SEPTEMBER 15, 2008
The immediate result of Lehman’s death is exactly what Mankoff feared. Credit markets worldwide are simply shutting down. STST stock is off 20 percent since Labor Day, when Lehman rumors turned deadly serious, although the broader market’s done a bit better; month-to-date, it’s about flat. As for Lehman, it closed today at $0.21.
I have a friend over there—just a friend, not the sort of person who traffics in insider gossip—who has a million Lehman shares vested in his benefit plan. At Christmas just a year ago, he went to his bank, took down $15 million from a credit line secured by those shares, and went shopping: he bought his wife a knockout Seaman Schepps bracelet and a Dennis Basso fur jacket, pledged a donation to a Hamptons charity sufficient to secure his wife a committee slot at its big charity bash, gave $1 million to his prep school, and got his name on the girls’ locker room. He also paid $5 million for a co-op in a building that doesn’t allow “financing” against the property, which means that he paid for it with another loan secured by his Lehman shares. And he hired Hal Norden, NYC’s decorator du jour, to do over the new digs. He told me this over lunch at Nobu, where the sushi goes for the price of a Southampton rental, and wanted me to come along with him after lunch to the Ferrari dealership. That was a year ago. He called yesterday to ask where he could buy some hemlock cheap—and he sounded like he was only half-kidding.
What we’re dealing with here is a form of PTSD that has led to a complete and systemic loss of trust. The world hasn’t run out of money; there’s a ton of it out there, but it’s frozen like a deer in the headlights. No one on any side of a transaction now believes the other party or parties will be good for the money come settlement. This is the real damage Lehman has wrought. Good faith even among fraudsters is what greases the wheels of finance. Lose that, and the whole bloody engine races out of control and then blows up. Trust on Wall Street has long since abandoned honesty or character as measures of reliability; fuck the handshake, it’s all about the balance sheet, and what someone thinks your paper is really worth versus what you say it is. Right now, Wall Street has essentially ceased to function, and it’ll remain that way until someone comes along with the antifreeze. And that means Uncle Sam. Who else is left?
Worse still, I’m hearing the “r-word”—as in “recession”—more and more often. The Street’s already laid off close to 150,000, and you can add one or maybe two zeros to that figure to estimate what the collapse of finance will amount to in the larger economy. Construction has imploded, and retail is close behind, they say. And those are two categories that have recently employed a lot of people. In addition, thoughtful observers are scared by the amount of consumer debt, what Mankoff calls “retail.” Ours is an economy largely dependent on aspiration, and when people can’t earn enough to close the gap with the Joneses, they borrow—on credit cards, in home equity and second mortgages and so on.
These are interesting times. We are told we should consider ourselves lucky to live in them. Whichever Chinese philosopher said that can go fuck himself.
SEPTEMBER 21, 2008
The bad news has come so thick and fast since my last entry that I decided to hold off until I could catch my breath and do a sort of omnium-gatherum of what’s happened since Lehman went under.
After a week when it seemed the world might be coming to an end, seem to have quieted down, but no one thinks we’ve seen the worst. So Wall Street is staying close to its Bloombergs. Lucia and I had lunch at Balthazar the other day, and it was practically empty.
It’s understandable. At times like these, one doesn’t feel social; you never know how this crisis may have affected friends, since the kind of friends I prefer don’t make a big deal of how much or how little money they have. I decided to stay in this weekend, so on Friday night, I stopped at Szechuan Gourmet on 39th Street and picked up enough stuff to get me through to Sunday. At home, I had a few drinks and watched a bunch of first-season Law & Order episodes on DVD. Saturday, I devoted the morning to dry cleaning and getting a pair of shoes resoled. Back home, I thought about calling my tailor and canceling an order for a couple of new suits, but then decided not to: why punish him for the mess stirred up by a bunch of mindless Wall Street greedheads? Obviously if this continues, my own circumstances may compel me to join the chain reaction, but thankfully, not so far. The people who handle my mite are by nature cautious, and I’m in OK shape financially. But it would be foolish not to expect some contraction of my consulting business, in which case I may have to cut staff. God, I hope not. For me, there’s nothing worse than having to fire someone, even for cause.
Now it’s Sunday and a good time to review the bidding. Let’s begin with the big news of the moment, fresh from Lucia: STST and Morgan Stanley will shortly announce that they’re becoming regulated bank holding companies, just like JPMC and Citi.
This will give them unlimited access to the few taxpayers’ pockets they don’t already have a hand in, presumably including basket privileges at the Fed’s printing presses. Better still, it will qualify them to participate in any bailout, backstop, make-whole, or other form of government handout that Uncle Sam offers banks like Citi. Such as the “extraordinary” exemptions that allow them to transfer “assets” such as STST’s residuum of billions of unsalable derivatives and other junk into their insured bank subsidiaries, from whence they can be stuffed onto the Fed’s balance sheet in return for free cash. This is what is meant by “privatizing the profits and socializing the risks.” Democracy in action—with We the People participating in the great events of the moment.
Now let’s turn to the Lehman chain reaction. Since Lehman filed for bankruptcy last Monday, overnight credit has dried up. By Friday, it was like Aunt Augusta’s cucumbers in The Importance of Being Earnest: none to be had anywhere, not even for ready money, and not even for “safe” houses like JPMC and STST. Indeed, Lucia’s fighting off Street gossip that if Morgan Stanley implodes, STST must surely follow. Everyone’s arguing about collateral values, and nobody’s yielding an inch.
Tuesday the news got worse. The culprit this time was the Reserve Fund, the giant money-market fund where corporations and other big players stash their free cash balances, money needed for bills and settlements coming due, the make-whole side of swaps transactions, calls for collateral, even payrolls. As a consequence of writing down its $785 million position in Lehman paper to zero, Reserve’s shares, redeemable at $1 since the beginning of time, have “broken the buck.” This means that for each dollar you’d put on deposit you’d get back ninety-nine cents or less. Nothing like this has been seen since the bank runs of 1907. Washington has granted Reserve permission to suspend redemptions, equivalent to a major bank closing its doors. Interesting factoid: Reserve’s assets, which stood at $60 billion two weeks ago, had shrunk to $23 billion by last Friday. Don’t tell me someone didn’t know something.
In financial circles, the innermost ripples are starting to look like whirlpools. The word on the Street is that close to $300 billion in hedge-fund and sovereign money has been taken away from institutions rumored to be shaky and redeployed to theoretically safe havens like JPMC and the big Swiss and German banks. The Street’s se
eing squeeze upon squeeze. Even STST isn’t immune; Lucia whispers that the firm’s “liquidity pool” has been cut by roughly a third. Bottom line: the overnight funding market is a $3-trillion-plus operation. If it seizes up, the entire world economy will suffer a coronary.
Finally, tjere’s our old friend GIG. Uncle Sam marched into their downtown headquarters last Tuesday and effectively took them over, extending an $85 billion emergency loan and extracting an 80 percent equity interest. Negotiation by confiscation, you might say. People are whining about “nationalization,” but what alternative is there—especially since the word is that Washington loathes the GIG management with almost the same passion it hates Fuld. Still, it’s amazing: three years ago, GIG was one of the biggest and most admired financial institutions in the world. Now it’s bust, a ward of Uncle Sam, brought low by derivatives bets made in London that apparently no one at GIG headquarters in midtown Manhattan understood. People are saying that this is a major root cause of the crisis: firms have been destroyed by bonus-seeking termites, traders booking transactions that generate immediate bonuses for the individual, but clobber the firm and its stakeholders when these trades crater down the road.
What’s weird is that the numbers argue that GIG was in even worse shape than Lehman, and yet it got rescued (so to speak) on exactly the same terms Fuld and his people were begging Washington for. Same as Morgan and Bear Stearns back in March. These “rescues” seem scripted by Orwell: some animals are more equal than others. Let’s see how STST fares if the going gets really hairy. Any way you cut it, a financial pandemic is what we’re looking at, the twenty-first-century version of the Black Death that killed half of Europe seven centuries earlier. Money-market plague. No one gets spared.
It may be that my ears are fooling me, but for the first time I’m hearing traces of concern in Mankoff’s voice. I know about the bad GIG swaps—that’s a $20 billion potential write-off that doesn’t qualify for a bailout (even Uncle Sam has to draw the line somewhere)—but God knows what other crap there may be that Rosenweis wasn’t able to offload and that Mankoff doesn’t know about. Even STST may be in one of those situations where it’s what you don’t know that’ll kill you.
The media are doing their bit, of course. The TV networks keep showing clips of Lehman people exiting their Seventh Avenue building with cartons of personal effects, picking their way among sneering people carrying placards condemning “greedy, reckless bankers” which is the cliché du jour. The Street’s response has been to send those few of its high-visibility CEOs who still retain a shred of credibility onto MSNBC and Fox to convince the world that the subprime collapse is someone else’s fault—mainly Washington’s—but this doesn’t seem to be having much effect.
In this alternative reality, Uncle Sam and the borrowers were the real fraudsters. The mortgage promoters, lenders, and packagers were just poor saps, mere putty in the hands of indigents and incompetent, crypto-socialist bureaucrats.
I must say that I’m not surprised the public’s not buying this pitch. To accept that a vast conspiracy of bureaucrats and barely literate, basically innumerate working people at the bottom of the wage pyramid has somehow duped a self-professed elite of hugely well-paid people with degrees from the finest universities, working off financial models designed by Nobel laureates, into lending them the better part of a trillion dollars takes a level of imagination I don’t have. I can’t help thinking that knowingly putting people in houses from which it’s odds-on that they’ll be evicted only months later is an act of cruelty and cynicism unworthy of a nation that boasts of its generosity and great communitarian heart with a fervor worthy of Emma Lazarus. When John Winthrop spoke of America as “a city on a hill,” I doubt he foresaw his vision financed with thirty-year ARMs with teaser rates.
Well, we’ll just have to see what tomorrow brings.
SEPTEMBER 23, 2008
I feel like I’ve been present at the Creation. Allowed to watch the Almighty at work.
It started last night with another call from Mankoff.
“I need to use your apartment,” he said without preamble. “See you at four o’clock.”
“You want the place to yourself?” I asked. “I can make myself scarce.”
“Don’t be ridiculous,” Mankoff said. “I want you there. I may need a witness.”
He showed up on the dot. He checked out the place, lingered briefly and approvingly over my bookshelves, asked for a glass of water. “The person I’m expecting,” he told me, “he’s on his way in from Teterboro now. Should be here in another half hour.”
“Mind telling me who our mystery guest is?”
“All in good time.” He smiled. Although hardly the playful sort, now and then he likes to tweak my curiosity.
At around 4:45 the house phone rang to advise me that my guest was on the way up. A couple of minutes later, I opened the door and there, to my shock and amazement, stood the so-called Sage of Shawnee himself, Merlin Gerrett, ranked by Forbes as the country’s second-richest man, with a net worth of $69.8 billion in holdings in financial services, transportation, retail, energy, fast food, and God knows what else.
His nickname derives from his hometown of Shawnee, Kansas, where he still lives and where Arrow Northumberland, his holding company, is headquartered. He’s the town’s economic patron saint; over time he’s bought up half the businesses in Shawnee, many of which he’s put back on their feet with sensible advice and hard cash. Arrow Northumberland has been an incredible ride for investors; if you’d bought a hundred shares back in the late ’60s, you’d have paid $2,500. Those shares would now be worth just under a million dollars.
The man’s considered about the best argument for capitalism going. He’s built his enormous fortune by buying decent businesses at advantageous prices, hiring good people, and giving them free rein. He plays for the long term, doesn’t go for quick profits by manpower attrition or cutting lines of business, or drowning his companies in leverage with which to pay quick dividends the way the fast-money private-equity types do. Most of his cash flow derives from his wholly owned insurance businesses, cash cows that provide nourishment for the rest of Arrow Northumberland.
Not everyone buys his act. Gerrett’s detractors complain that when Gerrett dishes out the down-home, deep-dish, “aw shucks” wisdom he dispenses on television, in the op-ed pages, and, most notably, in the letter to shareholders that accompanies Arrow Northumberland’s annual report, he’s no different from any hedge-fund hustler “talking his book,” saying stuff that’ll redound to the benefit of his investments. His worshippers say this kind of criticism is mostly sour grapes.
Maybe yes, maybe no. For instance, there’s his big position in Morton’s, the credit- and bond-rating house, which one commentator has called “perhaps America’s largest financial disservices company.” When Gerrett bought into Morton’s, its ratings were blue-chip and gold standard. Today they’re more problematical, what with the triple-A ratings the house bestows on the topmost layers of pyramids of junk-debt and derivatives. You’d think someone who called derivatives financial thermonuclear bombs would steer clear of the stuff, but the Arrow Northumberland statements show swaps exposure running to the tens of billions. Usually, when one of Gerrett’s portfolio companies has faltered either ethically or financially, Gerrett hasn’t hesitated to step in, chop off heads, and set matters to rights. But he’s allowed Morton’s to go on its merry way, rubber-stamping as AAA debt deals that ought to have the same kind of “bad for your health” warnings that cigarettes carry. Ah, well, who was it that said that a little hypocrisy is the price we pay for civil society?
But back to business. After Mankoff introduced me and I made Gerrett a cup of tea, we settled ourselves on the sofa and chairs surrounding a low coffee table, and the two men got down to cases. Namely, the terms of a $10 billion investment in STST by Arrow Northumberland.
Gerrett opened the bidding. He took some papers from his briefcase and placed them on the table, then said,
“Leon, I’ve looked over these spreadsheets you e-mailed me. Did a little sharp-pencil work of my own. It looks to me like you people are in a lot better shape than I would have expected. Much better than most of the competition, and I can tell you I’ve seen a whole bunch of their statements in the past ten days, because everybody’s out in the streets looking to raise equity.
“By my reckoning, you don’t really need me, although you could use new equity, but more as a cushion than as a matter of survival. By my calculations, your present balance sheet can take a hit of, say, $40 billion and still keep afloat, if only barely. Does that sound right to you?”
Mankoff nodded. “Pretty much.”
Gerrett went on: “You now have access to really cheap money, thanks to your turning yourself into a bank. As a taxpayer I find this disagreeable, although as a stockholder I applaud the strategy. Anyway, you look OK to me. Am I missing something?”
Mankoff smiled. “Technically, Merlin, you’re right. We could get by without raising outside equity. But I’m thinking longer-term. Down the road, there are going to be opportunities, big ones. We could be looking at half the competition we faced as recently as the first of the year. Bear’s gone, Lehman’s gone, Merrill’s gone, Morgan Stanley’s on the ropes, and BofA and Citi are halfway down the crapper. Everything’s terrible right now, but nothing goes on forever, and when things start to turn, even if it isn’t for a year or two, I want to be ready.
“Then there’s this. We don’t want bureaucrats and politicians telling us how to run our business and how much we can pay our people. I want to put us in a position to negotiate from strength with Washington. And if I had you as a partner …”
He let the thought die.
“So what do you have in mind?” Gerrett asked.
“Ten billion. Five billion from you, plus another five we’ll raise from the market.”
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