House of Cards (13 page)

There remained the possibility—and Bernanke, Geithner, and Paulson had been lobbied about it relentlessly—that the Fed could open its discount window to investment banks for the first time since the Great Depression, when a 1932 amendment to the Federal Reserve Act allowed access to the discount window for “individuals, partnerships and corporations in emergency situations.” (From 1932 to 1936, twelve banks accessed the “window” for 123 loans totaling $1.5 million. The largest single loan was for $300,000.) Alan Schwartz, for one, had been an outspoken proponent of allowing investment banks access to the discount window. One of the first things he did when he took over from Cayne as CEO in January was to meet with Senator Christopher Dodd, Democrat of Connecticut and the chairman of the Senate Committee on Banking, Housing, and Urban Affairs, and push for access to the window. Dodd had gone so far as to ask Bernanke to extend the privilege to investment banks, but the Fed rebuffed Dodd's request. “It was widely rejected out of hand as something that would just be inadvisable,” Dodd said he was told.

Schwartz remained concerned that since the repeal of the Glass-Steagall Act in 1999, allowing commercial banks to once again compete with investment banks without limitations, universal banks such as
Citigroup and JPMorgan would have a competitive advantage over firms like Bear Stearns and Lehman Brothers because, with ready access to the Fed's discount window, they knew they always had a lender of last resort to finance their collateral, a luxury investment banks did not have. Schwartz believed this advantage “created a situation that I thought was precarious for the whole financial system.” Although Schwartz's concern ignored the benefits that Bear Stearns and other investment banks received gladly from the arrangement—among them much less rigorous regulatory oversight and the ability to leverage their balance sheets with steroid-like effects—his worry was more theoretical than genuine. “I never dreamed it would be as rapid as things happened here, but I always had a concern that the lack of a known liquidity facility for your collateral is something that can cause a problem with the lenders against that collateral,” he explained. “All of us, as investment banks, lend against high-quality collateral, and we turn around and use that collateral. We never believed we could rely on unsecured financing. We always felt like we needed a collateral pool. I did worry that there was an environment that could happen if the market couldn't see that we had someplace to go and borrow against that collateral, then the fears could start. I just never, frankly, understood or dreamed that it could happen as rapidly as it did.”

Tom Flexner, the Bear vice chairman, was very friendly with Senator Dodd and on several occasions introduced Schwartz to him. Flexner got it in his head in February, about a month before the crisis hit his firm, that the Fed should open the discount window to investment banks and other nonregulated financial entities. He penned a short essay, “Liquidity,” and sent it around. “The time has come for the Federal Reserve to take more decisive remedial steps to reverse the seizure in the credit markets and facilitate the flow of liquidity into those market sectors where it will be productively and immediately deployed,” Flexner wrote. “Utilizing the emergency lending provisions” under the Federal Reserve Act of 1932 “to extend credit to this wider universe of financial intermediaries—in a manner which does not contemplate a real transfer of the risk of loss to the Fed—will have an immediate restorative impact on the credit markets. It is not a bailout. Bad loans will not be eligible for discounting. Lenders will be stuck with their own losses. But the lubricant that ultimately creates both capacity and confidence—liquidity on commercially reasonable terms—will facilitate the first necessary step in getting the markets to function properly again.”

Flexner's plea, while prescient, was met with silence, too. But on the long evening of March 13, the Fed governors and the leaders of the
Treasury confronted a situation dire enough for them to consider changing the rules of engagement in a hurry. Geithner prepared for a sleepless night by reserving a room at a nearby hotel. He would eventually enjoy only ninety minutes or so of rest. Others would be less fortunate.

A
S OFTEN HAPPENS
when the hour gets late enough and people who would normally be asleep find themselves awake and dealing with a situation that requires serious attention, the Bear executives trying to fashion a solution to their firm's crisis began losing focus and entering a netherworld where caffeine no longer has the desired effect. They knew that various parties—JPMorgan, the Fed, the Treasury, and the SEC—were working on something; they just did not know what it was. After Matt Zames, the co-head of global rates and currency at JPMorgan, left the sixth-floor conference room at midnight, they never saw him again. They just sat around, looked at each other, and wondered what they were going to do. Recalling his occasional late-night friendly poker games where the later it got the more poorly he played, Friedman looked at his watch. “It's midnight,” he said. “I know what happens at midnight. I lose track of what I'm rooting for. I guess we're waiting. We're going to see what happens. Nobody's going home. None of us could come up with the strategy that worked. Nobody believed JPMorgan was going to lend us $50 billion, or whatever we needed. Nobody knew what the number was, and it wouldn't make any difference.”

The bankruptcy lawyers were running around trying to figure out which of Bear's 350 subsidiaries could be part of a holding company Chapter 11 bankruptcy proceeding and which ones needed to be liquidated immediately, depending on the applicable statute. Then they were trying to put together balance sheets so that a proper court filing could be made in the morning. “We were trying to figure out, ‘Okay, if we don't come up with a solution, what do we do, and what does it even mean?’” Friedman said. “There were really three choices, none of which seemed remotely possible: One is some magical JPMorgan thing. One was we walk in and we declare bankruptcy, but how? In which entities, in which jurisdictions worldwide, how? Then there was my favorite, which was actually, to coin a phrase from [Bear senior executive] Jeff Mayer, what we were going to call ‘pencils down.' The theory was if we could get to the weekend—this was Thursday night—if we can get to the weekend, we've got a lot of time to figure things out. We'll have everybody come in Friday, and just won't let anybody do anything. So traders won't trade because it was a big issue—if you know you're bankrupt, and you go out and you
enter into transactions, are you committing fraud? We didn't want to commit fraud. We didn't want our people to commit fraud. Therefore, if we opened for business, no one could be allowed to trade. We would take requests to send out money, but we wouldn't actually do anything. Pencils down. Everybody comes in. Nobody does anything. We were heading towards the place where that was going to be the only solution because there were no other plans. What do we tell people? Do we tell them, ‘Don't come in'? What do we tell them when they do come in? How do we communicate, ‘We're not bankrupt, but you're not allowed to do any trading'?”

Jeff Mayer, since August 2007 a member of the firm's powerful executive committee and the co-head of the fixed-income division, e-mailed at two in the morning to urge Friedman to call him at home in New Jersey when “you know the outcome.” Friedman replied he would but added, “We're a long way from getting anything done.” At three in the morning, several other senior Bear executives joined the party, including Elizabeth Ventura, head of media relations, Mike Solender, general counsel, and Ken Kopelman, general counsel of the fixed-income division. There was “lots of talk with lots of lawyers,” Friedman said, “but to take this firm and have a rational bankruptcy plan in six hours was insane. On the other hand, I guess you had to do something.” Friedman and the others knew the Bear Stearns board had met but had no idea what it had authorized, if anything. They knew the Fed was meeting with JPMorgan but had no idea what they were considering.

Molinaro and Schwartz had been kept abreast of events periodically through the course of the early-morning hours through the occasional calls from Rodgin Cohen, the Sullivan & Cromwell lawyer. “The Fed, Treasury, everybody was engaged and they were working on it,” Molinaro said. “So we thought—and we were being led to believe—something was going to happen.” At 2:00
A.M.
Geithner called Don Kohn, the vice chairman of the Federal Reserve, and told him he “wasn't confident that the fallout from the bankruptcy of Bear Stearns could be contained.” Two hours later, Geithner called Bernanke, “who agreed the Fed should intervene.”

At a few minutes before four, Friedman e-mailed his wife. “It's almost 4:00
A.M.
and we're still here,” he wrote. “There is an outside chance that JPMorgan Chase will bail us out. They have about 3 more hours to decide and I make it less than 50/50 that they will. If they do, we get to announce to the world that they've agreed to backstop us and we live to the weekend, at which point we probably give the firm away to them. Followed by their firing 10,000 people or so. If they say no, we're declaring
bankruptcy and I really can't believe we came to this. And that will be worse. But, as you said, we'll be fine. Life will certainly be different but we'll be fine.” At 4:24, Friedman sent a note to Jeff Mayer: “It's 4:00
A.M.
and no decision. The JP folks took off an hour or so ago and we're sitting here waiting to see. Absolute torture.” A few minutes later, Marc Feuer, in Bear's treasury department, wrote Friedman: “Oh, to be back in kindergarten.” Friedman replied, “Don't I know it.”

A
T 5 A.M., FRESH
from a short period of sleep, Geithner arranged for a conference call with Bernanke and Paulson to discuss what the consequences would be of the Fed not stepping in to help Bear Stearns in some fashion. Their concern was that the financial system had become increasingly fragile since the previous summer, and Bear Stearns's failure might cause tsunami-like damage if it was not contained. They tried to remain calm. “The Central Bank exists to deal with these things,” Geithner explained. “So the people who are good at this and do this stuff here generally, I think if they're good, they get calmer during these things, not any more excitable. But there's no rulebook for these things. By their nature, they're always different. They occur in areas where nobody's got some terrific plan for dealing with them.” After about an hour of discussion, and knowing that Bear Stearns had until about eight in the morning to refresh its repo funding for the day, Geithner called the question. “What's it going to be?” he asked. The most powerful men in American finance agreed to provide an unprecedented interim financing solution to JPMorgan, which in turn could provide the financing to Bear Stearns. “The further we got into it, the more we said, ‘Oh, my God! We really need to address this problem,’” a Fed official told
The New Yorker
. “People use the term ‘too interconnected to fail' That's not totally accurate but it's close enough.” He worried the failure of Bear Stearns “would have caused a run on the entire market. That, in turn, would have made it impossible for other investment banks to fund themselves.”

The time had come to let Bear Stearns's management know that a federal rescue was in the offing. “I think somewhere in the early morning, before this thing went official,” Molinaro said, “Alan got a call from Paulson. Paulson asked him if he was sure that he wanted to do this. He implied to him that you realize that once you do this, a lot of these decisions are out of your hands. We viewed that to mean once we're borrowing money through JPMorgan [from] the Fed, we know that they're going to be in our shorts…. from the standpoint of selling assets, doing whatever we needed to do to raise liquidity, they'd be involved. That's what our
expectation was. We didn't think that it meant that they could pull the plug on us Friday night and say enough.”

At around 5:30
A.M.
, on his first all-nighter since college, Friedman walked across Park Avenue to 277 Park, the home of JPMorgan's investment banking division. Friedman's health club was in the building, and he decided to go there and take a shower. He used to belong to the small health club in the Bear Stearns building, but he'd given that up: “It involved spending too much quality time naked with people I worked with.” At the health club at 277 Park he ran into a friend who had shown up to get some exercise before work. The friend had, of course, no idea what Friedman was going through. “We had this really weird conversation, because my head was not particularly well held together at that point,” he said. He put on a clean pair of underwear and a different necktie, and then all of the same clothes he had been wearing. At 5:53, he e-mailed Greene that he was “still waiting to hear from JPM.” He got back to the sixth-floor conference room at 6:15 to find that Ventura had arranged for some Dunkin' Donuts coffee and donuts to be sent up. “We were tanking up to face the new day,” Friedman said. He still had not heard anything from anyone at JPMorgan since Zames left the conference room more than six hours earlier.