I began Monday, September 8, with an early round of television interviews, part of my plan to spend much of the week reassuring taxpayers, the markets, and the institutions’ employees that Fannie Mae and Freddie Mac had been stabilized. The initial reaction to our weekend moves to seize control of the two big mortgage companies had encouraged me. Asian and European markets had surged, and Japanese and Chinese central bankers had applauded. The U.S. government had essentially guaranteed the GSEs’ debt, but I knew it would take time and a focused effort to communicate that clearly to all investors.
By 8:00 a.m. I’d talked to CNBC, CBS, and Bloomberg. I was careful to emphasize that Fannie’s and Freddie’s employees were not responsible for the housing decline or their companies’ problems. “This was created by Congress a long time ago. It was a system that shouldn’t have existed,” I told CNBC’s Steve Liesman.
When U.S. markets opened, Fannie’s and Freddie’s stocks fell like stones, as expected, but the Dow shot up 330 points at the start of trading. I had little time to exult, though, as the disaster that had loomed all summer began to unfold.
Ken Wilson came into my office to tell me that talks between Lehman Brothers and the Korea Development Bank were going nowhere. The week before, news leaks had prompted speculation that KDB would buy up to 25 percent of Lehman. But Ken, who was on the phone with Lehman CEO Dick Fuld every day—and had talked with him the night before—downplayed the possibility of a deal. Lehman shares were up at the opening, but if the talks failed they would plummet, just as the firm was about to announce a big third-quarter loss.
Lehman’s plight wasn’t the only troubling news. Late Monday morning, General Electric CEO Jeff Immelt called to tell me that his company was having problems selling commercial paper. This stunned me. Although GE’s giant financial unit, GE Capital, had faltered along with the rest of the industry, the company as a whole was an American business icon—one of the few with a triple-A credit rating. If GE couldn’t sell its paper, what did that mean for other U.S. companies?
Monday afternoon belonged to the GSEs. I gave interviews to the Washington Post and Fortune magazine and met with Chris Dodd, who was close to Fannie and Freddie, and had gotten upset with me over the weekend. I sat down with him and his staff at his office and explained our thinking, telling him that his leadership, and that of Barney Frank and Richard Shelby, had been critical to helping us avoid a disaster. He seemed much more comfortable after the meeting.
The market stayed strong through the day, with the Dow closing up 290 points, or 2.6 percent, at 11,511. But Lehman’s shares dropped $2.05, to $14.15, while its credit default swaps edged up to a worrisome 328 basis points. And the markets still did not know that Lehman’s talks with KDB were collapsing.
I had hoped that the GSE takeovers would give Lehman a bit of breathing room, but I was wrong.
I arrived at the office shortly after 6:00 a.m. and headed straight to the Markets Room. Lehman’s shares were headed toward single digits, and its credit default swaps were under pressure. I went to Ken Wilson’s office to get the latest on Dick Fuld. The KDB deal, Ken told me, was dead.
“Does he know how serious the problem is?” I asked.
“He’s still clinging to the view that somehow or other the Fed has the power to inject capital,” Ken answered.
I felt a wave of frustration. Tim Geithner and I had repeatedly told Dick that the government had no legal authority to inject capital in an investment bank. That was one reason I had been pushing him to find a buyer since Bear Stearns failed in March. Fuld had replaced Lehman’s top management, laid off thousands of employees, and pitched restructuring ideas, but the firm’s heavy exposure to mortgage-backed securities had discouraged suitors and left him unable to make a deal.
Ken had been telling Dick with increasing urgency that he needed to be ready to sell, but Dick did not want to consider any offer below $10 per share. Bear Stearns had gotten that, and he would accept nothing less for Lehman.
After I spoke with Ken, I had an important obligation to fulfill. I was scheduled to address Freddie Mac’s employees. Many people at Treasury couldn’t believe that I wanted to meet with a group that was sure to be angry with me. It was simple. I felt bad for them, and they deserved to hear straight from me where they stood. And I wanted them to know that our actions had not resulted from any fault of theirs.
David Moffett, the new CEO, and I stood on a stage in an auditorium at the company’s headquarters in McLean, Virginia, facing hundreds of disheartened and confused Freddie Mac employees who wanted to hear about their futures and whether their shares would ever rebound. I knew that Freddie Mac stock had made up a big percentage of their net worth.
I was very direct. I told them that the odds were low that they would ever recapture the equity value that had been lost, but I emphasized that as long as they kept learning, honing their skills, and helping Freddie perform its vital function, their careers would likely remain intact. I couldn’t say what Freddie’s ultimate structure would be—that was for Congress and the next administration to decide—but I noted that the old business model was flawed and didn’t work. It was a difficult meeting, but I was glad I went.
I returned to my office to find that once again all hell was breaking loose. Dow Jones Newswire was reporting that Lehman’s talks with KDB had fallen through. The firm’s shares were plunging and credit spreads widening—they would top 400 basis points by day’s end. But I didn’t need a Bloomberg terminal to tell me what was happening. Once more we had a big financial institution under assault, and no clear solution in sight. If Lehman didn’t find a buyer soon, it would go down.
I couldn’t help but think of all those Freddie Mac employees worried about their jobs and savings. We had staved off disaster with Bear Stearns and the GSEs, but the stakes just kept growing. Unlike in March, when Bear went down, the overall economy was now clearly hurting: unemployment had hit 6.1 percent in August, the highest level in five years, and we were clearly in a recession. The last thing we needed was a Lehman failure.
With these thoughts weighing on my mind, I met Commerce secretary Carlos Gutierrez for a scheduled lunch in the small conference room next to my office. I couldn’t fully concentrate on our conversation. All I could think was, What do we do about Lehman? There’s got to be something—we’ve always managed to pull a rabbit out of the hat.
Forty minutes into lunch, Christal West, my assistant, interrupted to tell me that Tim Geithner was on the line and needed to speak to me urgently. Maybe, I hoped, he had good news. But Tim was calling to say that the markets were very jittery, and that he did not see how Lehman could survive in its current form. He said he had already spoken with a shaken Fuld.
Thinking back to our experience with Bear Stearns, I wondered if Lehman would last long enough for us to pull an industry solution together over the weekend. I asked Tim, “Can we hold this situation together through the close on Friday?”
Tim said he thought we could do it. But the markets would need reassurance that we were working on a solution. They’d get that if it was clear that Lehman was looking for a buyer.
“I’ll lean on Ken Lewis,” I said. “Maybe at the right price BofA will be willing to do something.”
Carlos and I finished lunch, and about an hour later I spoke to Fuld. The short sellers were all over him, and he sounded panicked. He wondered if he should release his earnings early and simultaneously announce his restructuring plan. I didn’t know if these measures would be enough to appease investors, but I told Dick it was up to him to decide whether to try. I also said I would try to persuade Ken Lewis to acquire Lehman—even though Bank of America had looked at the firm twice over the summer and walked away both times. Dick agreed this was the best solution.
Ken had a love-hate relationship with Wall Street. The previous fall, announcing trading losses for BofA, he’d famously declared, “I’ve had all of the fun I can stand in investment banking at the moment.” But he wanted to grow his bank through acquisitions and craved a business platform outside the U.S. I knew him as a man of few words, a tough negotiator who liked to do deals. With its big balance sheet and history of moving quickly, Bank of America would make an ideal buyer for Lehman.
Still, as much as I hoped that Lehman’s bargain-basement stock price might entice Ken to take another look at the firm, I suspected from the start that he would be interested only if he could leave behind a large chunk of undesirable assets. What’s more, neither Merrill Lynch nor Morgan Stanley was looking strong, and I suspected Ken might prefer to acquire one of them. Both had bigger investment banking businesses than Lehman, and both had retail franchises that Lewis wanted. In fact, I knew Ken had long coveted Merrill.
By Tuesday afternoon, the entire industry was beginning to understand the gravity of Lehman’s situation. Few perceived this more keenly than Merrill CEO John Thain, who called me with his concerns. In the 29 years I’d known him—first as a young MIT graduate with a Harvard MBA, then as one of Goldman Sachs’s rising stars, now as the self-confident CEO of Merrill Lynch—he had always been confident and analytical. But Merrill was generally considered to be the weakest bank after Lehman, and he could see the problem for the markets and his firm.
“Hank, I hope you’re watching Lehman,” he said. “If they go down, it won’t be good for anybody.”
John wanted to know how we planned to handle Lehman and how he could help. He had called me over the summer as Lehman had faltered, offering to play a role in any industry solution.
I thanked John for his offer, and after hanging up I called Ken Lewis. He said he’d been watching the Lehman situation, and I told him that we wanted him to seriously consider buying the troubled firm. I pointed out that Lehman was a lot cheaper now. Could he take a closer look at it, as soon as possible?
“Hank,” Ken told me, “we’ve looked at it a couple times before and determined that the risks were too great relative to what we might be getting.”
Still, he said he might be willing to buy the firm if he could leave the commercial real estate assets behind in a Bear Stearns–type deal. I told him we couldn’t put government money in but pressed him to get back to us with a decision as quickly as possible.
“This would be a big bite for us,” he said.
He then raised another issue. BofA had bought Countrywide Financial, the troubled mortgage lender, in January for $4.1 billion, and had expected the Fed to give it some form of relief from regulatory capital requirements for having done the deal. Instead, the Federal Reserve Bank of Richmond, BofA’s direct overseer, had been putting pressure on BofA to redo its capital plan and cut its dividend. Lewis wanted help getting his dispute with the Fed resolved.
On the face of it, the request was reasonable. How could BofA do a deal with Lehman and further strain its capital ratios without first clearing up this issue with the Fed? The solution, however, was out of my jurisdiction. I told Ken I would relay his concern to Tim and Ben Bernanke. I asked him to call Dick Fuld and start to do due diligence.
Next, Tim and I got on the phone with Dick. We had agreed that whenever possible we would speak to the Lehman CEO together. We wanted to be sure that he heard the same thing from both of us. I shared my reservations about Lewis’s seriousness, but Dick was excited.
“The key is speed,” he told us. “Can Lewis get his people here tonight? We’re willing to work around the clock.”
I called Ken and urged him to get a team together as soon as possible. We then convened a conference call with Chris Cox, Tim, Ben, and Treasury staff at 5:00 p.m. to deal with a possible Lehman bankruptcy.
Over the summer, the Treasury, the Fed, and the SEC had put a team together to deal with this contingency. We knew how disastrous it would be: a Lehman Chapter 11 would trigger a global shock. Tim and I stressed the urgency of the situation now.
“Lehman has been hanging like a dead weight in the market,” I said. “Thank God we got to Fannie and Freddie before this.”
We discussed ways to forestall a Lehman collapse. Tim suggested a reprise of the 1998 rescue of Long-Term Capital Management. Back then, a group of 14 Wall Street firms had banded together to craft a $3.6 billion package, receiving 90 percent of the imperiled hedge fund, which they proceeded to liquidate over time. To do something similar, I said, we would first have to get Lewis interested—no small thing—then allow him to buy what he wanted and convince an industry consortium to take on the remaining assets. John Thain had already declared himself willing to aid in a private-sector bailout, but we would need to persuade the other CEOs. This wouldn’t be easy to pull off, with the entire financial industry under increasing pressure. Of course, the alternative, Lehman’s demise, was far worse.
While I was on the conference call, Dick Fuld phoned me to report that he hadn’t yet heard from Bank of America. I reassured him that we were doing everything we could, then I got hold of Ken Lewis and let him know that I had passed on the word about Countrywide.
“I’ve spoken with both Ben and Tim. They understand how important this is,” I said, assuring him the issue could be resolved. At my urging, he agreed to send a team to Lehman right away.
A few minutes later, I heard back from Lewis. He said that he and Fuld had spoken, and they were going to begin discussions. Dick called after that, excited, to say that Lewis’s team was ready to go. Despite all the back-and-forth of that afternoon and evening—we logged nearly a dozen calls with Lewis or Fuld in three hours—I wasn’t completely convinced of Lewis’s seriousness. My doubts only grew when he called back one last time and once again pressed the point about his unhappiness over the Countrywide business. He wanted to be sure to get that matter resolved with the Fed.
I called Dick a little after 7:00 p.m. to reassure him that Lewis was still in the game. “We’ve got some things to work out,” I said. “But he will be getting there.”
That day the Dow had fallen 280 points, to 11,231, erasing Monday’s gains. Lehman shares were down 45 percent, to $7.79, and its CDS had jumped by nearly 50 percent, to 475 basis points. And there was other worrisome news: investors concerned about AIG’s exposure to mortgages had driven its stock down 19 percent, to $18.37.
But AIG was not my foremost concern that night as I lay sleepless, wondering how Lehman would manage to pull through to the weekend.
Three days was a long time.
I had barely gotten to my office early Wednesday morning when Dick Fuld called to let me know that BofA still hadn’t shown up. It was just after 7:00 a.m.
“We haven’t heard from them,” Dick said, exasperated. “We missed a whole night.”
“You haven’t heard a thing?”
“Nothing,” he said.
It was a bad start to a bad day. I assumed that the Fed still hadn’t satisfied Ken Lewis on BofA’s capital issue, so I followed up with Tim and Ben. Less than an hour later, Lehman pre-released its third-quarter results—a $3.9 billion loss, stemming from a $5.6 billion write-down on residential and commercial real estate. The firm also announced that it would sell a majority stake in its asset-management subsidiary, Neuberger Berman, and spin off between $25 billion and $30 billion of its commercial real estate portfolio.
Investors were having none of it. Lehman’s shares fell in premarket trading, while its CDS jumped to 577 basis points. The market smelled a corpse.
Even as I wondered whether Bank of America would come through, another possible partner for Lehman popped into view, taking me by surprise. Bob Steel—my former undersecretary for domestic finance, now CEO of Wachovia—called just before 8:00 a.m. to say that he’d spoken with Bob Diamond, the president of Barclays, the British bank. The two bankers knew each other from Steel’s stint on Barclays’s board a few years before.
Steel told me that Barclays was interested in Lehman. I admit I had to ask him if they were serious. The British bank had not previously demonstrated an ability to move fast or to consummate major strategic transactions. Barclays was still stinging from losing a takeover battle in 2007 for the Dutch bank ABN AMRO to the Royal Bank of Scotland. I also had some concerns about whether Barclays had the financial strength to do a Lehman deal.
Although I mentioned Barclays’s potential interest in my discussions that day with Tim, Ben, Chris, and the group in New York, we were focused on Bank of America. Lewis had promised to get back to us by Thursday evening if there were no leaks. We understood that the Charlotte bank might well decide against buying Lehman or insist, despite my guidance to Lewis, that it would need financial support.
In my afternoon conference call with Tim and Treasury staffers, we again discussed how we could help Lehman. My team and I believed we should emphasize publicly that there could be no government money for a Lehman deal. To my mind, this was the only way to get the best price from a buyer, and the only way to prepare the industry to be fully ready for the likelihood that it would need to participate in any solution.
“We need to do everything we can to fashion a private-sector alternative,” I told the group.
Tim agreed. He, too, favored an industry solution. But we both knew that if a Bear Stearns–style rescue was the only option, we would take it. As Tim put it, a Lehman failure would be more expensive for the taxpayers.
All of us were well aware that after Fannie and Freddie, the country, Congress, and both parties were fed up with bailouts. Obama and McCain, neck and neck in the national polls, each spoke out against them on the campaign trail. The previous day, in fact, McCain and Sarah Palin had published an op-ed in the Wall Street Journal entitled, “We’ll Protect Taxpayers from More Bailouts.” And just before our conference call had begun I’d spoken with Chris Dodd, who told me, “Fuld is a friend. Try to help, but don’t bail Lehman out.”
We discussed the worst-case scenario: no buyer for Lehman, no government authority to inject capital, and no legal authority to wind down a failing nonbanking financial institution. We knew a Lehman collapse would be a disaster. With roughly $600 billion in assets, the firm was bigger and even more interconnected than Bear Stearns. Under those circumstances, how could we stabilize the market?
After the conference call, Tim and I spoke privately, reviewing the situation: Neither of us had the authority to put money in the entity Lehman hoped to create to hive off its commercial real estate assets—unofficially known as Spinco. And clearly, the embedded losses were proving to be too big for Lehman to attract private capital. It was unlikely that a restructuring plan could help the firm now.
Just three days after the historic government takeover, the GSEs were already old news to the public. We hadn’t taken our eyes off them, however. Mortgage rates had decreased, but they were still too high, given that the GSEs were now officially under the U.S.’s wing.
Meantime, I continued to reach out to unhappy GSE employees. Wednesday afternoon I met with Fannie Mae staff at their Wisconsin Avenue headquarters, just a little ways from the National Cathedral. I encountered an even tougher group than I had at Freddie’s headquarters: they pushed back harder, upset about the losses on their shares, and worried about Fannie’s long-term prospects. I answered their questions candidly, explaining how crucial their company would be to helping get the nation through this crisis, but the sight of their unhappy faces stayed with me after I left.
That evening, when I checked in with Ken Lewis, I learned that he had not yet sent a team to New York. He still hadn’t resolved his issues with the Fed. But he assured me that BofA would be able to move quickly, given that they’d done due diligence on Lehman in the summer.
I called Tim to see when the Fed would clear up the problem with BofA. He assured me he would immediately work to find a solution.
Early Thursday morning, not long after I arrived at my desk, Ken Wilson suggested I call Bob Diamond at Barclays. The British bank needed more encouragement. When I reached him, he confirmed that his bank was interested in acquiring Lehman.
“You’ll need to move quickly,” I told him. “I also want to let you know that we are unable to put public money in.”
“I understand that.”
I asked him if Barclays’s board and its CEO, John Varley, were in agreement with him about a possible Lehman deal. British boards, I knew from experience, played a more active role in takeovers than did their counterparts in the U.S.
“They are,” Bob said. “This is obviously a major undertaking.”
I suggested that he talk further with Varley and his board, while I touched base with Tim Geithner, whom I immediately updated.
“Diamond is clearly interested,” I said. “Barclays doesn’t have much of a history of completing acquisitions, but I think we should move ahead here pretty aggressively.”
We needed to act fast—and not just for Lehman’s sake. Market worries were spilling over to other institutions. Shares of Washington Mutual, the troubled Seattle mortgage lender, were being battered. Tim and I agreed that, for the industry to be part of the solution, we needed to get all of Wall Street together quickly. I suggested that we set the meeting for Friday night, because we needed a deal by Sunday night. John Thain called later that morning to tell me that Merrill’s stock was off significantly and its credit spreads were widening. He volunteered to participate in an industry solution for Lehman, and I told him that we planned to get a group together in New York over the weekend.
I stepped away from Lehman long enough to place more than 20 calls to members of Congress, briefing them on the GSEs and problems in the financial markets. They generally supported our action on the GSEs, but they gave me an earful about bailouts and—as Chris Dodd had done the previous day—warned me that they didn’t want to see taxpayer money put into Lehman.
I touched base again with Bob Diamond, who confirmed that Barclays was serious and that Varley wanted to talk directly to me. He noted that Barclays’s board was keen not to be embarrassed, as they would be if word leaked out that they were an interested bidder and someone else did the deal.
“We’re looking for an exclusive,” I remember him saying. “If we get one, we can move very quickly.”
“We can’t give you an exclusive, and I don’t believe Lehman Brothers can, either,” I replied. Barclays hadn’t asked for assistance in doing a deal, and because I assumed Ken Lewis would, I knew this would give the British bank a leg up. “I believe that if you move quickly, the odds are very high that you will be successful. I can assure you that the Fed and I will work together to make this happen.”
I emphasized that because the government couldn’t put money into the transaction, Barclays should focus on Lehman’s troubled assets so we could discuss realistically how they could get a deal done. I recommended that he call Dick Fuld right away and arrange to get together.
Ken Lewis called a little after 5:00 p.m. He said that the capital issue had been more or less settled with the Fed; Ben Bernanke had assured him that the Fed would try to resolve the problem. But that was the extent of any good news.
“We took a hard look at Lehman Brothers, and there are a number of assets we’re uncomfortable with,” he said. “I’m sorry to tell you we won’t be able to do this deal.”
I wouldn’t let him off the hook. “If you had help with the bad assets, would you be willing to proceed?”
“You said there would be no government money,” he pointed out. “Have you changed your position?”
“No, we haven’t. But I expect that if you made an acceptable offer, we could get others in the industry to help finance the part that you weren’t going to take. It would be just like the LTCM consortium.”
Lewis had watched the Fed assist JPMorgan in acquiring Bear Stearns, so it was only natural that he would try to get whatever help he could—from the government or the private sector. He agreed to put together a proposal and get back to me, and I said I would approach Wall Street firms to work something out. I told him we needed a deal finalized by Sunday, so I wanted his preliminary thoughts by Friday night.
Reports that buyers were circling Lehman helped prop up the market. The Dow had ended the day up nearly 165 points, at 11,434. Even WaMu gained, closing at a dismal $2.83, up from $2.32 the previous day, but its CDS had blown out to a breathtaking 2,838 basis points from 2,267. Lehman did not benefit from the market rally: its shares fell 42 percent, to $4.22. Merrill’s shares dropped almost 17 percent, to $19.43, their lowest level in nearly a decade.
That night my team got on a conference call with the New York Fed, the Washington Fed, and the SEC. There must have been between 30 and 40 people on the line, all with one concern: getting Lehman to the weekend.
Tim took us through a quick review of the unsettled market. One New York Fed staffer noted that Lehman’s funding was increasingly problematic. JPMorgan had renewed a week-old $5 billion collateral call that day. It felt like Bear Stearns all over again, with a critical difference: There were much bigger concerns about the losses in Lehman’s balance sheet. Many were worried that all the bad news coming out would lead banks to begin to pull their funding. Lehman borrowed $230 billion overnight in the repo market—an extraordinary reliance on short-term funding that could be pulled at a moment’s notice. Lehman could easily become the victim of a run triggered by a widespread loss of confidence. Chris Cox said that the SEC staff was making contingency plans for a Lehman bankruptcy.
I reminded the group that we had two potential buyers for Lehman. Bank of America was further along, but there was a significant amount of assets they were unwilling to take.
“I’ve heard from Lewis, and he wants to pass on this if there is no help, but I believe he’ll come back with a proposal,” I said. I added that Barclays seemed more interested in Lehman.
Then, realizing that I was speaking to a large group, I again emphasized that there would be no public assistance for a Lehman bailout and that we would be looking to the private sector to help the buyer complete the acquisition. My team at Treasury believed that we needed to publicly stress these two points, to prepare the industry for the likelihood it would have to help us. The New York Fed would be inviting Wall Street CEOs to a meeting, and we didn’t want them to arrive thinking that we would be there waving a government checkbook. Even if by Sunday we had to resort to a government rescue, we needed on Friday to put as much pressure as possible on the private sector to help out.
On Thursday evening, Michele Davis told reporters off the record that there would be no government money for Lehman, hoping that our stance would become clear in Friday’s papers. Michele wanted to lay the groundwork for what we all hoped would be a deal that would see Lehman bought that weekend.
I arrived at the office at 7:00 a.m., suitcase in hand, prepared to spend the weekend in New York. We had to get through one more trading day until then, and it was shaping up to be a brutal one. Lehman’s credit spreads remained wide, while Merrill Lynch, WaMu, and AIG also were getting hammered.
Looking at the papers that morning, I realized that our communications strategy hadn’t worked out as planned. Although a front-page story by David Cho, Heather Landy, and Neil Irwin in the Washington Post said, “The government is looking for an agreement that would not involve public money,” I knew that few people on Wall Street paid attention to the Washington paper. Their more likely news sources, the New York Times and the Wall Street Journal, left the door open. So Michele quickly went to CNBC to reiterate that there would be no public money. At 9:15 a.m. CNBC’s Steve Liesman reported that, according to a person familiar with my thinking, “there will be no government money in the resolution of this situation.”
I had my Friday morning breakfast with Ben Bernanke in the small conference room just off my office. He was not going up to New York but would stay in close touch. I said I was hopeful but had serious doubts about both Bank of America and Barclays. But I didn’t think any other institution had an interest or we would have heard about it.
Ben and I ran over our options for what to do if Lehman failed, but the tough fact was, we didn’t have many. As I knew all too well, and as Ben reminded me, if Lehman filed for bankruptcy, we would lose control of the process, and we wouldn’t have much flexibility to minimize market stress.
“We can only hope that if Lehman goes, the market will have had a lot of time to prepare for it,” he said.
All morning I went back and forth with Tim and Ken Lewis, encouraging Ken to make an offer. Meantime, we were still waiting to hear back from Barclays. Tim expressed concern about my public stand on government aid: he said that if we ended up having to help a Lehman buyer, I would lose credibility. But I was willing to say “no government assistance” to help us get a deal. If we had to reverse ourselves over the weekend, so be it.
In the early afternoon, I received a call from Alistair Darling, the U.K.’s chancellor of the Exchequer, with whom I had a good working relationship and who shared my views on the markets. I considered Alistair a straight shooter, and I gave him a candid update on Lehman.
“I understand one of your possible buyers is a British bank,” I remember him saying. “I want you to know that we have some concern, because our banks are already under a lot of stress. We don’t want them to become overextended and further weakened.”
Afterward I commented to Jim Wilkinson that Alistair seemed to be telling me that the British didn’t want their banks to catch the American disease. But because he couched this as a general concern, I didn’t see his words as the red flag that in retrospect they appear to have been.
I left for New York shortly before 3:00 p.m., with Dan Jester, Jim Wilkinson, and Christal West in tow, amid a grim downshift in the markets. The Dow ticked down just 12 points, but Lehman shares had declined another 13.5 percent, to $3.65. AIG’s shares dropped 31 percent for the day, ending at $12.14, and were off 46 percent for the week. I realized that I now had one more institution to put on our watch.
En route to the airport, I took a call from New York senator Chuck Schumer, who offered his views on Lehman. “We had better find a buyer who’s not going to fire a lot of people,” he said. “It would be better to have a domestic buyer than a foreign buyer.”
I wondered if Fuld, who preferred BofA, had put Schumer up to this call, but there was no question that the senator cared deeply about his state. He pointedly told me that JPMorgan’s purchase of Bear Stearns had cost New York jobs.
Tim had suggested I phone Ken Lewis to see just how serious he was. He felt, as I did, that Bank of America was drifting away. I spoke briefly with Lewis while I was on board the flight. He was trying to outline the rudiments of a proposal, but our connection was poor in the stormy weather, and I agreed to call back once we were on the ground.
I thought glumly of the challenge before us. This crisis was far greater than what we’d faced with LTCM, a decade before, almost to the day. And the circumstances were more ominous than when we saved Bear Stearns in March. The financial system, and the global economy, were in much weaker shape.
The plane touched down a little before 5:00 p.m., and I jumped into a waiting car, accompanied by Dan, Jim, and Christal. As we made our way slowly into Manhattan I got back on the phone with BofA. Lewis laid out a tentative but complex proposal. He said his people had figured that Lehman had a capital hole of about $20 billion. For BofA to buy the investment bank, it would have to leave behind $40 billion of assets. The North Carolina bank would split the first $2 billion in losses with the U.S., 49 percent to BofA and 51 percent to the government. The U.S. would have to absorb 100 percent of all other losses on the assets left behind. In return, as a modest sweetener, BofA would give the government warrants to buy its shares. I reminded him that there would be no government money but that we were bringing together a private-sector consortium, and we agreed to meet in New York to discuss the matter further.
Dan Jester followed up with a phone call to BofA’s Greg Curl to get more details. I listened to snippets of the conversation and watched Dan’s unenthusiastic reaction to what he was hearing. I had suspected that Lewis didn’t really want to buy Lehman, but I had hoped that if he believed he could get some help, he might try to pick it up on the cheap.
When Dan hung up, he shook his head. BofA had only wanted to talk about Lehman’s bad assets and the size of the valuation hole.
“It’s a positive sign that they’ve come in with the outline of an offer,” I told him. “But it sure doesn’t sound like they really want this.”
“They don’t,” Dan agreed. “But do we have anything better?”
As we slowly made our way through the heavy rain and traffic to the New York Fed’s headquarters on Liberty Street in Lower Manhattan, I checked in with Tim. He said Barclays was having trouble getting access to all the information they wanted as quickly as they needed. I wasn’t completely surprised; when I had first told Dick Fuld about Barclays’s interest he had been hesitant—he clearly preferred BofA as a buyer.
Tim thought we should press Fuld on helping Barclays. We got hold of Dick and relayed our concern. We also outlined BofA’s proposal. Dick said he didn’t understand why BofA needed any assistance. He was still clinging to his belief in the value of his assets, but he was alone there, a point underscored by a subsequent conversation I had with Varley and Diamond. The Barclays executives were encouraging, but they had one important qualifier.
“We’ve been focusing on the most problematic assets, and we may need some help with the funding,” Varley said.
He reported that he’d spoken with Barclays’s board as well as the bank’s regulator, the U.K.’s Financial Services Authority (FSA), and he believed a deal could be made.
Reassuring him again that we would not embarrass his bank, I told him we wanted his best bid right away. “Your team needs to work through the night doing due diligence,” I said. “We need as much specificity as soon as possible.”
Built in the decade before the Great Crash of 1929, the New York Federal Reserve is a Renaissance Revival fortress with iron-barred windows, hunkered amid the skyscrapers of Wall Street. Its 14 stories of offices sit atop what is said to be the biggest pile of gold in the world. I’d walked its corridors many times in my career, but never before with such a sense of urgency.
Tim had called the meeting for 6:00 p.m., but it didn’t begin until closer to 7:00 p.m., because of the bad traffic. The weather, the delay, and the market conditions contributed to a gloomy atmosphere.
Tim, Chris, and I met upstairs on the 13th floor, where Tim had taken up temporary residence while the Fed’s 10th-floor executive offices were being renovated. We quickly went through our order of presentation, then rode the elevator down to a first-floor conference room where the meeting was being held. We took our seats at a long table, where Wall Street’s most prominent CEOs sat waiting for us. Among them were Jamie Dimon from JPMorgan, John Mack from Morgan Stanley, Lloyd Blankfein from Goldman Sachs, Vikram Pandit from Citigroup, John Thain from Merrill Lynch, Brady Dougan from Credit Suisse, and Robert Kelly from Bank of New York Mellon.
It was an extraordinary moment: These were the people who controlled Wall Street and global finance. They had fought for years, sometimes bitterly, to lead their institutions to the forefront of the business, and now they had gathered to save a rival—and their own skins.
Tim opened the meeting by noting the seriousness of the occasion and the fragility of the markets. He said it was crucial for everyone to work together to save Lehman and to find a way to contain the damage if that could not be done. A failure would be catastrophic, and we couldn’t completely insulate the banks from the fallout. Tim had crafted his speech to get the CEOs focused, and when he handed the meeting over to me, I had their full attention.
I was straightforward: We all knew why we were there. Without their help, Lehman would not open for business on Monday, and the consequences for the markets—and for everyone sitting around the table—would be dire. I explained that we had two potential buyers for Lehman; with no one from Bank of America or Barclays in the room, it was clear to everyone who the potential buyers were.
I stressed that a Lehman sale was possible but not probable. The industry had to find its own solution. Both bids had capital holes whose sizes were still unclear. What was clear, however, was that there could be no government money involved in any rescue. I knew that unless I explicitly said this, some of them might think that Good Old Hank would come to the rescue.
After Chris Cox explained how the SEC had been planning to manage a bankruptcy, I concluded that we needed to work together to avert a Lehman failure—if we could fashion a deal—and to manage one if we couldn’t.
Tim said the Fed was considering many options to make liquidity available to the markets. And to help prevent the market from tightening even more, he encouraged the CEOs not to keep pulling back from one another.
Immediately the questions flew: How much money did we expect the bankers to put in? Why should they risk their capital? What difference would saving Lehman make, given the problems wracking the entire industry?
All the attendees knew how fraught the market was and that its problems went way beyond Lehman. By now, everyone knew that AIG was in trouble. The insurance giant’s problems had been all over the news that day. Apart from the dramatic plunge in its shares, Standard & Poor’s had warned that it might downgrade the company’s credit rating; this would force AIG to produce billions in additional collateral. Then what? What was the point of having the private sector weaken itself further to save Lehman if someone else was going to need help afterward?
But when Pandit asked if the group was also going to talk about AIG, Tim said simply: “Let’s focus on Lehman.”
Tim went on to outline a plan for three main groups to work through potential outcomes for Lehman. One group would plan ways to minimize the repercussions of what Tim called the “lights out” scenario of a Lehman bankruptcy, focusing on Lehman’s vast skeins of derivatives, secured funding, and triparty repo transactions. A second set of firms would look into how the industry might buy all of Lehman with the intention of liquidating it over time—an approach similar to what Wall Street had done in the 1998 LTCM bailout. A third group of firms would examine how to finance the part of Lehman that a prospective buyer didn’t want.
In the end, the meeting turned out to be much less contentious than I had feared. I could see that the CEOs weren’t all convinced that they would solve anything by risking their own capital. No doubt, they also questioned the government’s resolve in saying we wouldn’t put any taxpayer money in. But it was also clear they had come to the meeting with a purpose: they were committed to working with us and wanted to find a solution that would avoid market chaos.
“Come back in the morning,” Tim told the CEOs. “And be prepared to do something.”