HOLLYWOOD
Member
- Joined
- Nov 29, 2007
- Messages
- 22,314
Today's bailouts find roots in the Fed's handling of LTCM
http://www.marketwatch.com/news/story/birth-wall-streets-bailout-culture/story.aspx?guid={3603B663-EF7F-4556-842E-5EF80525476A}
NEW YORK (MarketWatch) -- In less than two weeks, Wall Street will pass a milestone that on the surface probably doesn't seem to have much relevance today: the 10th anniversary of the bailout of Long-Term Capital Management.
But the LTCM near-collapse and rescue set in motion Wall Street's unchecked rush to risk during the decade by signaling to the market that the government would ultimately come to the rescue.
Wall Street is a kids' game, so let's refresh our memories. Everyone born before 1990 can skip ahead a couple of paragraphs.
LTCM was a hedge fund run by former Salomon Brothers bond whiz John Meriwether and a half dozen other traders. They raised $1.01 billion in 1994 and ended up with derivative positions of about $1.25 trillion, built on leverage, when the bets turned bad and lenders started asking for their money in the summer of 1998.
LTCM was strapped for cash. So, rather than unwind its positions and send the market into turmoil, the Federal Reserve Board of New York organized a $3.75 billion bailout paid for by Wall Street banks. The cash allowed LTCM to meet its obligations as it unwound its trades.
Video: The Birth of the Bailout Culture
As the market works to digest a fresh wave of bailouts, David Weidner takes a look at Long-Term Capital Management, the company that started it all. Has Wall Street learned its lesson? (Sept. 11)
Maybe it's because the numbers seem small by today's standards, but LTCM caused a lot of anxiety at the time. The day after the bailout was announced, the
Dow Jones Industrial Average (DJIA:
fell 2%, mostly because investors feared the banks would lose their investment. The fall was followed by another 3% drop two trading days later when investors worried the Fed didn't do enough.
Bailouts, get yer bailouts
Flash forward to 2008. On Monday the government pledged $200 billion to prop up Fannie Mae (FNM:
Fannie Mae
LEH 5.02, -2.23, -30.8%) teeters on the edge of collapse, backstopped only by its ability to borrow from the Federal Reserve's discount window. That window expires in a few months.
Message to Dick Fuld, Lehman's chief executive: The strategic mistake of negotiating now and not two weeks before the window closes is not lost on potential buyers. See related commentary.
Until then, it's the Fed and ultimately taxpayers who are bearing the cost of Lehman's lost confidence.
And that's just on the investment bank side. Since the start of the year, 11 U.S. commercial banks have failed. In July, regulators shut down IndyMac Bank, a move that will cost the Federal Deposit Insurance Corp. -- and, by extension, anyone who keeps his or her money in a bank -- $10 billion.
That's reasonable, at least compared to what the auto industry wants: a $50 billion bailout in the form of loans to help the companies retool lines and become competitive. The airlines will be next, of course.
You can't blame Rick Wagoner at General Motors (GM:
General Motors Corporation
UAUA 10.29, +0.29, +2.9%) for passing the hat to Uncle Sam. These CEOs have seen what a little government intervention can do, whether it be banning naked short selling for a few bank stocks or propping up the entire mortgage banking industry with billions in backing.
The taboo against bailouts has been broken. Now the problem is that everyone is rushing the government at the same time. Wall Street firms ran up risk for a decade after the LTCM bailout precisely because there was a bailout.
The unwritten message, what the bankers call moral hazard, was simple: come a crisis, the government will do everything it can to avoid a collapse. The leverage at Wall Street banks remains high. At Lehman, the ratio of debt to equity is 10.6, and this is after the bank spent nine months reducing its leverage. At the time of the LTCM meltdown the ratio at Lehman was 6.2.
Rising leverage is a familiar story across Wall Street. That these firms are all imploding at the same time should not come as any surprise to the government. Brokerages, banks, mortgage banks, airlines and automakers at the door in a classic run on the bank, but this time it's the Central Bank.
The good news is that there was a happy ending to the LTCM scandal. The bailout banks eventually made a profit on the investment by the time the fund actually was closed in 1994.
Do you think taxpayers will have the same success when we look back on this in 10 years? Even Meriwether and his LTCM buddies could get that one right.
http://www.marketwatch.com/news/story/birth-wall-streets-bailout-culture/story.aspx?guid={3603B663-EF7F-4556-842E-5EF80525476A}
NEW YORK (MarketWatch) -- In less than two weeks, Wall Street will pass a milestone that on the surface probably doesn't seem to have much relevance today: the 10th anniversary of the bailout of Long-Term Capital Management.
But the LTCM near-collapse and rescue set in motion Wall Street's unchecked rush to risk during the decade by signaling to the market that the government would ultimately come to the rescue.
Wall Street is a kids' game, so let's refresh our memories. Everyone born before 1990 can skip ahead a couple of paragraphs.
LTCM was a hedge fund run by former Salomon Brothers bond whiz John Meriwether and a half dozen other traders. They raised $1.01 billion in 1994 and ended up with derivative positions of about $1.25 trillion, built on leverage, when the bets turned bad and lenders started asking for their money in the summer of 1998.
LTCM was strapped for cash. So, rather than unwind its positions and send the market into turmoil, the Federal Reserve Board of New York organized a $3.75 billion bailout paid for by Wall Street banks. The cash allowed LTCM to meet its obligations as it unwound its trades.
Video: The Birth of the Bailout Culture
As the market works to digest a fresh wave of bailouts, David Weidner takes a look at Long-Term Capital Management, the company that started it all. Has Wall Street learned its lesson? (Sept. 11)
Maybe it's because the numbers seem small by today's standards, but LTCM caused a lot of anxiety at the time. The day after the bailout was announced, the
Dow Jones Industrial Average (DJIA:
fell 2%, mostly because investors feared the banks would lose their investment. The fall was followed by another 3% drop two trading days later when investors worried the Fed didn't do enough.
Bailouts, get yer bailouts
Flash forward to 2008. On Monday the government pledged $200 billion to prop up Fannie Mae (FNM:
Fannie Mae
LEH 5.02, -2.23, -30.8%) teeters on the edge of collapse, backstopped only by its ability to borrow from the Federal Reserve's discount window. That window expires in a few months.
Message to Dick Fuld, Lehman's chief executive: The strategic mistake of negotiating now and not two weeks before the window closes is not lost on potential buyers. See related commentary.
Until then, it's the Fed and ultimately taxpayers who are bearing the cost of Lehman's lost confidence.
And that's just on the investment bank side. Since the start of the year, 11 U.S. commercial banks have failed. In July, regulators shut down IndyMac Bank, a move that will cost the Federal Deposit Insurance Corp. -- and, by extension, anyone who keeps his or her money in a bank -- $10 billion.
That's reasonable, at least compared to what the auto industry wants: a $50 billion bailout in the form of loans to help the companies retool lines and become competitive. The airlines will be next, of course.
You can't blame Rick Wagoner at General Motors (GM:
General Motors Corporation
UAUA 10.29, +0.29, +2.9%) for passing the hat to Uncle Sam. These CEOs have seen what a little government intervention can do, whether it be banning naked short selling for a few bank stocks or propping up the entire mortgage banking industry with billions in backing.
The taboo against bailouts has been broken. Now the problem is that everyone is rushing the government at the same time. Wall Street firms ran up risk for a decade after the LTCM bailout precisely because there was a bailout.
The unwritten message, what the bankers call moral hazard, was simple: come a crisis, the government will do everything it can to avoid a collapse. The leverage at Wall Street banks remains high. At Lehman, the ratio of debt to equity is 10.6, and this is after the bank spent nine months reducing its leverage. At the time of the LTCM meltdown the ratio at Lehman was 6.2.
Rising leverage is a familiar story across Wall Street. That these firms are all imploding at the same time should not come as any surprise to the government. Brokerages, banks, mortgage banks, airlines and automakers at the door in a classic run on the bank, but this time it's the Central Bank.
The good news is that there was a happy ending to the LTCM scandal. The bailout banks eventually made a profit on the investment by the time the fund actually was closed in 1994.
Do you think taxpayers will have the same success when we look back on this in 10 years? Even Meriwether and his LTCM buddies could get that one right.
