House of Cards (14 page)

By the time Friedman returned to the office, the board had already been in another conference call for fifteen minutes. Salerno was surprised to have awakened to the news that nothing had yet been agreed on. “We [said], ‘Holy shit, we've got problems, because we're open already in Asia.’” Nobody had any idea what to do, although Schwartz and Molinaro were aware the Fed was meeting and discussing various possibilities. Time was running out, and everyone knew it.

Finally, at 6:56
A.M.
, Michael Solender, Bear's general counsel, announced that he had just received a BlackBerry message from Stephen Cutler, JPMorgan Chase's general counsel and a former director of enforcement at the SEC, with a copy of a draft press release about the loan facility that JPMorgan, with the Fed's help, had agreed to make available. “Today, JPMorgan Chase & Co. announced that, in conjunction with the Federal Reserve Bank of New York, it has agreed to provide secured funding to Bear Stearns, as necessary, for an initial period of up to 28 days,” the draft read. “Through its Discount Window, the FRBNY will provide back-to-back financing to JPMC and has agreed to bear the counterparty, credit and price risk associated with the transaction. Accordingly, JPMC does not believe this transaction exposes its shareholders to any material risk. The Fed has agreed to waive all Section 23A requirements”—restrictions on transactions with affiliates—“otherwise applicable to JPMC
in connection with this funding. JPMC is currently exploring with Bear Stearns the possibility of providing more permanent financing or purchasing the company.”

After a long, delirious sleepless night for Schwartz and his top executives, with little or no idea about whether their firm would need to file for bankruptcy or to somehow be able to squeak through another day, Cutler's e-mail message seemed like manna from heaven. The Bear executives were euphoric. “It basically announces what we thought of as the Hail Mary to end all Hail Marys,” Friedman recalled. “JPMorgan and the Fed are going to lend us all this money, this up-to-twenty-eight-day thing, and it sounds like this is great. We've got JPMorgan—we've skipped the part about where JPMorgan went from lending to us to where they're now just a conduit and the Fed is lending to us, but it's okay. We're going to get all the money we need. We've got a month to figure out what we want to do next. This was absolutely impossible to dream of. It was the greatest thing that could ever happen. We did high-fives.” Added Molinaro: “When we got it, I think the view was very, very excited. We felt that we had accomplished what we set out to accomplish, which was to get a liquidity facility in place so we could weather the storm.” Molinaro didn't give a whole lot of thought at that moment to the “up to 28 days” language in the release, figuring that was standard Fed language for most of their facilities. “My assumption was that it was basically a twenty-eight-day repo facility, and that at the end of the twenty-eight days, we'd either better have a deal done or we'd better be in negotiation with them to roll it,” he said. “They'd want to see credible progress in either reducing the positions, increasing the liquidity, or getting the company sold in that twenty-eight-day period, and we'd have to deal with them in a very involved way, meaning JPMorgan and the Fed. But we clearly felt that this was a big win.” A little after seven-thirty, Friedman e-mailed his wife: “We're alive!”

A few hours later, JPMorgan released the final version of the statement: “Today, JPMorgan Chase & Co. announced that, in conjunction with the Federal Reserve Bank of New York, it has agreed to provide secured funding to Bear Stearns, as necessary, for an initial period of up to 28 days. Through its Discount Window, the Fed will provide non-recourse, back-to-back financing to JPMorgan Chase. Accordingly, JPMorgan Chase does not believe this transaction exposes its shareholders to any material risk. JPMorgan Chase is working closely with Bear Stearns on securing permanent financing or other alternatives for the company.” Gone were the explicitly stated ideas that JPMorgan had “agreed to bear the counterparty, credit and price risk associated with the transaction,” that the Fed had waived JPMorgan's Section 23A requirements, and that
JPMorgan was considering buying the company. Although Schwartz, a longtime M&A banker, had hoped the language about JPMorgan buying Bear Stearns would be in the final version of the press release, since it would put more pressure on that firm to do a deal for Bear, Schwartz could appreciate JPMorgan's reasoning in taking it out. Why commit yourself to deal publicly if you don't have to?

F
EEDING
F
RENZY

PMorgan's final publicly released statement was a bit of a Rorschach test, allowing different people to see in it different things. For the Bear executives, the emergency facility looked like an unlimited line of credit from the Fed that would allow them to fund their business for the next four weeks by using the collateral that others in the marketplace were beginning to shun. True, it meant that business as usual would likely be over, but they could use the month to try to fashion a long-term solution: They could now definitively raise badly needed capital, sell a division, or sell the company. They could once again exhale.

At JPMorgan, the facility was an accommodation to the Fed, but since there was no documentation at that early stage about how the loan would work, the devil was in the details. “For JPMorgan it was two things,” Dimon explained. “One is that we thought—and I actually spoke to my board about this extensively—about what obligation did we have to do the best we can to help the United States of America. To a person, they thought we had an obligation, that it wasn't simply ‘Walk away.' It would have been very easy, by the way, to take that phone call, finish my drink and forget it, okay? Because it was a backbreaking thing to take on. But it also had to make sense for shareholders. So kind of go as far as you can, but it had to make sense for shareholders.” After the initial pressure was removed from the situation, it became clear that the terms on which JPMorgan would lend Bear Stearns money would be onerous indeed.

For the Fed, the emergency facility was nothing short of brilliant, allowing the central bank to walk the tightrope it had so carefully constructed during the previous months. The Fed had deliberately not opened its discount window to Bear Stearns or other investment banks—
as they had repeatedly hoped—but it did in effect speed up the delivery of the Term Securities Lending Facility it had announced all of three days before. By lending the money to JPMorgan, which in turn could lend it to Bear, the Fed had done something it had not done since the 1930s, signaling the seriousness of the situation generally and at Bear specifically. But the New York Fed made no announcement about the rescue financing itself, adding a measure of ambiguity to the deal that would become apparent to the market almost immediately. (On June 27, the Fed released the minutes of its March 14 deliberations on Bear Stearns's “funding difficulties” and “the likely effects of its bankruptcy on financial markets.” The four board members present—the fifth was flying home from Helsinki—agreed unanimously that “given the fragile condition of the financial markets at the time, the prominent position of Bear Stearns in those markets, and the expected contagion that would result from the immediate failure of Bear Stearns, the best alternative was to provide temporary emergency financing” to Bear Stearns through JPMorgan. “Such a loan would facilitate efforts to effect a resolution of the Bear Stearns situation that would be consistent with preserving financial stability.” The minutes also make clear that the financing was to be “secured” to the “satisfaction of the New York Fed” for a period not to exceed twenty-eight days and was limited in amount by the collateral that Bear Stearns was willing to post to secure the funding.)

Naturally, the Fed's rescue of Bear Stearns early Friday morning was historic news. The
New York Times
led with the story and highlighted both its rarity and its potentially devastating effects on the firm: “The Fed's intervention highlights the problems regulators face as they contemplate the prospect that investment banks, saddled with toxic securities tied to subprime mortgages, are losing the trust of their lenders and clients—the kiss of death on Wall Street, where confidence has always been the most precious asset of all.” The paper then quoted Samuel Hayes, a professor of investment banking at Harvard Business School. “The public has never fully understood how leveraged these institutions are,” he said. “But the market makers understand the inherent risk. This is a run on the bank, just like Long-Term Capital Management, Kidder and Drexel Burnham.”

On Friday morning, Bear Stearns put out its own announcement that followed the JPMorgan script precisely, though Schwartz added his own clarifications. “Bear Stearns has been the subject of a multitude of market rumors regarding our liquidity,” Schwartz explained. “We have tried to confront and dispel these rumors and parse fact from fiction. Nevertheless, amidst this market chatter, our liquidity position in the last 24 hours had significantly deteriorated. We took this important step to
restore confidence in us in the marketplace, strengthen our liquidity and allow us to continue normal operations.” Or so he hoped. The firm's press release ended with the required but ominous caveat, “The company can make no assurance that any strategic alternatives will be successfully completed.”

Whether the ambiguity was by design or occurred simply because time ran out before more precision could be provided, the lack of precision became problematic almost immediately. As the initial euphoria subsided, Friedman went up a floor to the repo desk to tell what seemed to him like good news to his colleagues at the epicenter of the firm's funding mechanics. “Interestingly, not having spent the night with me, they had what turned out to be the right response,” he said. “They were horrified. I said, ‘Look at this. It's terrific. We've got all the money we need from JPMorgan and the Fed for as long as we need it. It's terrific.' They went, ‘Oh, my God. We're out of business.' I said, ‘No, this is great! Let me roll back to how the night went, and let me take you all through it and you'll understand. This is great.' They're going, ‘No, this is horrible.’” The guys on the repo desk were convinced that the market would take these events to mean that Bear was in worse shape than people had thought. Still, just after 8:00, Tim Greene e-mailed his boss, Paul Friedman, “We funded 12 of the 14 billion so far” on the repo desk. “You the man!” Friedman responded.

David Faber's reporting on CNBC at 9:15
A.M.
about the new financing reflected the confusion. “JPMorgan is basically saying to Bear Stearns, ‘We're there for you for twenty-eight days,' and the Fed is saying to JPMorgan, ‘We're there for you,’” he said in trying to explain what the possible outcome of the announcement would be. But he wasn't sure, since, understandably, he had not had the chance to speak to anyone about it. “It begs a lot of questions,” he continued. “I'm reading the release here for you, so I haven't had an opportunity, as you might expect, to make a lot of phone calls to try to understand this more fully in the sense of what exactly it is that Bear Stearns needed. Is this simply to infuse confidence into the market to essentially say to everyone out there, ‘Hey, there is no way we're letting Bear Stearns fail and that nobody should be concerned about doing business with Bear Stearns'? Or was there something in terms of a potential loss? Again, I've got to make calls here.”

Dick Bove, the outspoken research analyst at Punk Ziegel and CNBC favorite, phoned in his view to the cable network that the Fed's action was nothing short of “a bailout of Bear Stearns.” He opened that the move was “absolutely necessary because Bear Stearns has a balance sheet that is about $400 billion in size and it has about $176 billion worth of securities plus it has $42 billion in loans outstanding to others
who own securities. If Bear Stearns had gone under, virtually all of these securities would become available for sale and be pushed into the market”—at prices that would have forced all securities firms to mark their own assets down in what surely might have led to the financial equivalent of mutually assured destruction—“and the result would have been a fairly significant financial collapse. So the Fed had no choice but to bail out Bear Stearns. This is a too-big-to-fail situation.”