Too Big To Fail?
I am sure we’ll all be hearing about moral hazards and the like in the wake of the Bear Stearns bailout by JP Morgan and the Fed. This is scary stuff. Henry Blodget talks about the claim that Bear is too big to fail in this post on SAI.
My question is who else is too big to fail but would fail without a similar bailout? How many more of these are coming our way?
Fall of the Wiemar Republic, where the Reich bank had a hand in every lending institution, after they confiscated every last asset from the Jewish citizenry. In one nyear, around 1939, people stuffed suitcases full of notes to buy bread.This is first time in decades that a major financial institution could not rely on a counterpart to close short term obligations. I have a litany of observations that point to a very bad future for the once great America. This includes VC placing cake with cloned business that have not one original Idea.
I completely agree with Blodget’s point that they only people to blame are Bear Sterns Management. And its quite scary what could be coming down in the coming months as these issues are going to crop up at even more firms.But the part of this story that I find fascinating is the fact that, early this week rumors started circulating about Bear Sterns lack of capital. The response from Bear was, we have no capital crisis, we have plenty of money. But that didn’t most other firms from avoiding getting into long term trades with Bear and taking their business elsewhere. Was this an inevitability for Bear? probably. Was it accelerated by rumors of an issue? definitely. Which just shows the power of perception. If people think doing business with you is toxic, almost regardless of the truth, you become toxic.With the explosion of communication means, these rumors spread with blazing speed. While I don’t think it was the case here, what will be the impact of the first rumor that’s completely untrue but spreads as truth and takes out a major corporation? Is there anyway to stop the downward spiral once one of these comments gets out?
I have zero confidence that Bear’s statement about its capital reserves earlier this week had any basis in reality- pure PR. I speculate that the story is reversed- Bear puts out a statement, the smart money sees through it and preemptively stops all business with Bear.
Didn’t Bear, Stearns get in trouble when Long-Term Capital Management went under as well?
Completely agree Fred. This type of thing is frightening. If a company like Bear Stearns can get themselves in a 90 degree angle, many firms can. And a couple of that size is all it would take. Great that there was a bailout measure in place but how they heck can you algorithmically put the firm in such a possible predicament. Ludicrous.Anyway, brings new term to Bear market. Scary.
headlines should be… Fed moves to attempt to gracefully unwind Bear Stearns.what follows is all speculation but I think the Bear done. Trading is based on credit and you can’t trade if you’ve admitted you’re insolvent and are only going to be in business as long as the Fed props you up. And I don’t think the Fed signaled an intention to bail them out permanently, but to give them a 28-day window to unwind without failing catastrophically and generating a domino effect. A lot of people have swaps and whatnot with Bear, and if Bear defaults then they can’t make good on their own obligations.It’s a bit like LTCM, except more dangerous and a somewhat higher level of government bailout . In the LTCM crisis the Fed did some arm-twisting, the banks agreed to work together and fork over some cash to unwind LTCM over time. Here, no one was willing to fork over the cash except JPM (which wanted first dibs on some of the businesses – I think prime brokerage dovetails nicely with their trust business which has lots of stock to lend). So the Fed had to step up and pony the cash to avert immediate disaster.this weekend, the Fed will twist some arms and hopefully they do a deal for pennies on the dollar and split up the carcass. If not, by next week clients and counterparties will be jumping ship in droves, and there won’t be much of a carcass to split. Then things would get very very interesting… the government would have to somehow take it over and liquidate it. Allowing it to just default would risk triggering a complex chain of defaults. No one would know who had been ruined by the collapse, no one would trade with anyone, and markets would crash.I think a lot of institutions are important enough that the government would be well advised to allow to fail but cushion the fall, because not doing so would be even more costly and risky. And Bear falls into that category. Maybe only Citi, Chase, BoA are big enough that it would be better to prop them up long-term than to let them fail at all.
Bear (BSC) sold to JPM Morgan for a lousy $2/shrUnreal
Its very real. The markets lost confidence in bear and its liquidity dried up. I wonder if the same thing could happen to the usa?The fed can’t bail itself outFred