Regardless of any other details, on March 16 the Federal Reserve gave $28 billion dollars to JP Morgan so they would “buy” Bears Stearns.
As the chart below illustrates, a non-recourse loan of $29 billion (the extra $1 billion JPMorgan may have to repay) was given to JP Morgan. To add insult JP Morgan still retains the right to any profits from the Bears Stearns collateral.
Oh…and on the jump from $2 to $10 a share for this bail-out; it reminds me of the scene from “Blazing Saddles” when the sheriff takes himself hostage.
Bear must have said “Give me more money or the Bear gets it“
Categories: Finance
Tagged: bear stearns, enonomic crisis, jp morgan, money, money talks
NEW YORK (Reuters) – Bear Stearns Cos shares fell nearly 5 percent on Friday after Chairman James Cayne, who was seen as opposing JPMorgan Chase & Co’s acquisition of the investment bank, sold his stock.
This represented $900 million plus in paper losses for Mr. Cayne and is viewed by many as signaling the end of negotiations for a better deal by Bear Stearns.
Since the JP takeover was an all stock deal why not hold the onto your Bear shares until you get the JPMorgan shares; unless of course you think JP Morgan’s stock is going down before the deal closes.
If money talks, then Mr. Cayne’s money is telling us the financial pain isn’t over yet.
Categories: Finance
Tagged: bear stearns, cayne, enonomic crisis, jp morgan, money, money talks
Moral Hazard as defined in Wikipedia:
“The prospect that a party insulated from risk may behave differently from the way it would behave if it were fully exposed to the risk.
Financial bail-outs of lending institutions by governments, central banks or other institutions can encourage risky lending in the future, if those that take the risks come to believe that they will not have to carry the full burden of losses.”
The flame out of Bear Stearns, while it wasn’t a bailout of shareholders, was a bailout of Bear Stearns creditors and counter-parties.
The current crisis is the direct result of the moral hazard created with the bailout of Long Term Capital Management (LTCM), in 1998 (more details below the fold). As with Bear Stearns, the shareholders of LTCM were NOT bailed out, but the counter-parties and creditors were bailed out. Thus, the Fed sent a message that if you lend recklessly to a hedge fund or investment bank, don’t worry, the FED will guarantee private contracts, as long as the lending is reckless enough to put the entire economy at risk.
The saying, “too big to fail”, directly and inexorably leads to the kind of reckless lending that crushed Bear Stearns and still threatens the US economic and monetary supremacy.
Who would lend billions of dollars to Bear Stearns unless they know, via the actions in 1998, that Bear Stearns debt would be backed by the faith and credit of the Federal Reserve? Rather then squelch the reckless lending that allowed for the current crunch, the Bear Stearns creditor bailout reinforces the LTCM lesson that as long as you lend to large enough institutions you need not worry about default and counter-party risk.
The problem today is that there isn’t enough money to bail out the entire system as LTCM’s creditors were bailed out in 1998. In 1998, LTCM was the only over leveraged firm threatening the economy, now virtually all investment banks are over leveraged (and banks as well given Glass-Steagall’s 1999 repeal).
Had the FED and Wall Street allowed LTCM to fail, causing counter-parties a lot of financial pain, perhaps Bear Stearns would not have been allowed to borrow 3000% of their equity. Homeowners buying houses with zero equity is understandable as they are laypersons, Wall Street over leveraged precisely because of the backing of the FED as implied by their behavior in 1998. Just as Wall Street misjudged the severity of home mortgage defaults they are still misjudging the severity of their own over-leveraging.
Grab you hats, this roller coaster is still on the way down.
Categories: Finance · Trust
Tagged: bear stearns, counter-party, moral hazard, risk
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