The House of Morgan

by Ron Chernow

  AMONG Wall Street banks, none agonized more than the House of Morgan over whether to choose deposit or investment banking. It postponed a final decision until the summer of 1935. By that point, it had been legally barred from securities work for a year. Disturbed by the paucity of industrial issues on Wall Street, Carter Glass inserted an amendment into the proposed Banking Act of 1935 that restored limited securities powers to deposit banks. The partners rested their final hopes on this peg.

  George Whitney, as head of corporate underwriting, was under mounting pressure to inform Morgan clients of the bank’s decision. With interest rates down, many companies wanted to refund maturing bonds at lower rates. They kept asking Whitney what to do. In late July, Charles Mitchell, former chairman of the National City Bank and now a partner in Blyth and Company, found Whitney still hoping for a last-minute reversal of Glass-Steagall. “I think they are waiting . . . to see if the underwriting amendment in the banking bill will pass,” Mitchell told a partner, “and regarding this they are more optimistic than they have been.”14 In late August, the banking amendment reached a House-Senate conference committee. But President Roosevelt—bringing down his fist in one last blow to the House of Morgan—interceded to kill the amendment. He refused to consider any modification of Glass-Steagall.

  As if too depressed to face the truth, Jack had kept assuring Teddy Grenfell that the amendment would pass. Yet mysterious doings in the art market of early 1935 betrayed his underlying pessimism. Citing inheritance taxes and a desire to put his estate in order, Jack sold six magnificent paintings for $1.5 million. To Fritz Thyssen, the German steel magnate, went Domenico Ghirlandajo’s portrait of Giovanna Tor-nabuoni while the Metropolitan Museum got a Fra Filippo Lippi triptych and Rubens’s Anne of Austria. Through Christie’s in London, Jack auctioned seven cases of coveted miniatures amassed over thirty years. In oppressive July heat, with a nurse in attendance in case anyone fainted, Christie’s sold a portrait by Hans Holbein the Younger, a gold pendant with Queen Elizabeth’s profile, and other rarities. Only astute press commentators connected this sudden need for cash with a pending decision about the House of Morgan. As he had demonstrated after his father’s death, Jack was ready to pare his art collection ruthlessly if he needed to conserve the bank’s capital.

  Before J. P. Morgan and Company made its decision, a new arrangement was devised with Morgan Grenfell in June 1934 to comply with Glass-Steagall. The British house became a limited company in which the New York firm held a one-third stake. This was designed to buffer the new commercial bank, J. P. Morgan and Company, from British securities work, a structure preferred by the Bank of England as well. New York would now be a passive investor. “It was definitely a hands-off situation,” noted Tim Collins, a later Morgan Grenfell chairman.15 There remained a close, familial feeling between 23 Wall and 23 Great Winchester, and the London Times called it only a “slight technical alteration.”16 Yet for a firm that had always been subordinate to New York, the change represented a new level of British autonomy. It also occurred at a time when the City could no longer float huge foreign loans, as it had before the war, except for the British Empire. Morgan Grenfell and London’s other merchant banks concentrated instead upon securities and merger work for domestic companies.

  In August 1935, Tom Lamont gathered the J. P. Morgan chieftains at his island farm off the Maine coast. The group included Morgan partners Leffingwell, Whitney, S. Parker Gilbert, and Harold Stanley, and Lansing Reed of Davis, Polk, and Wardwell. At this secret meeting, the House of Morgan decided irrevocably to remain a deposit bank and spin off an investment bank called Morgan Stanley. No minutes survive from this summit, thus leaving unanswered several essential questions. Why did Morgans—nonpareil of underwriters—opt for “commercial” rather than “investment” banking? Why the preference for deposits and loans rather than securities and brokering? Why an action that, in retrospect, seems a failure of vision?

  Fifty years later, the choice seems strange. Between 1919 and the Pecora hearings, Morgans had sponsored $6 billion in securities for blue-chip companies and foreign governments. The Morgan cachet on bond issues brought in collateral banking business, such as the payment of dividends on bonds. As Russell Leffingwell had told Lamont, “I believe further that our securities business is a necessary feeder to our banking business, and that without it the banking business would in time dry up.”17 Except for Brown Brothers Harriman, most distinguished partnerships—Kuhn, Loeb; Goldman, Sachs; and Lehman Brothers—opted for “investment banking” (a misnomer for the securities business the term denotes). The world of commercial banking—with its letters of credit, loans, foreign exchange, and stock-transfer work—seemed prosaic for a bank of such rarefied tastes and as active in secret diplomacy as J. P. Morgan and Company.

  The choice was heavily influenced by the moribund state of the securities markets. Securities underwriting had become the firm’s least profitable activity, and new securities laws strapped underwriters with large potential liabilities. Stung by the preferred-list scandal, perhaps Jack Morgan favored commercial banking as more stable and consistently profitable than investment banking. In urging repeal of Glass-Steagall, Leffingwell wrote a letter to Roosevelt that shows the way in which securities work was regarded during the Depression:

  The business of underwriting capital issues is and should be a byproduct business. It is occasional and sporadic. Nobody can afford to be in the business unless he has a good bread and butter business to live on. A house exclusively in the underwriting business is under too much pressure to pay overhead and living expenses to pick and choose the issues it will underwrite.

  One reason why our record is so good . . . may be . . . that we have no salesmen, very little overhead attributable to the underwriting business and that we have a good bread and butter banking business. So we could and did say no to half of Europe and of South America.18

  This approach of keeping overhead low, not having salesmen, and selecting only prime clients would shape Morgan Stanley’s philosophy for the next forty-five years.

  The human factor was undoubtedly also significant in choosing commercial banking. In 1935, about 20 percent of American workers were unemployed. It would have been hard to renounce the labor-intensive activities on the commercial-banking side. To have entered investment banking would have meant wholesale firings—an egregious betrayal for a paternalistic firm. Says an official Morgan history: “At the time of that decision the partnership, J.P. Morgan &. Co., had a staff of about 425 people. If the firm had chosen to remain solely in the securities business, a large part of this staff probably would have become surplus. . . . Approximately 400 people were busy in commercial banking and other activities and remained with the firm; about twenty left to form Morgan Stanley & Co.”19

  There were also less benign motives. Morgan partners wanted to retain the option of someday recreating the House of Morgan without losing its clients. In late 1934, Lamont wrote to his partner Charles Steele: “We all feel, I think, that ways and means will be found to get us back into the securities business, either through the amendment of the existing laws or through some separate corporate plan or otherwise. We are considering all these matters now, but have by no means accepted the idea that . . . we are to be eliminated from the security business”20 (italics added). The reference to a separate corporate plan hints at Morgan Stanley’s genesis. Lamont, it seems, believed they could stay in securities without changes in Glass-Steagall, suggesting he had a trick or two up his sleeve.

  Both at 23 Wall and elsewhere, Morgan Stanley was regarded as a branch of the main trunk, a successor firm. As a cable to Morgan Gren-fell explained, “The fact it is a segregation is apparently well understood. At the same time, everyone looks to the new company to carry on the traditions of the firm.”21 The House of Morgan probably wanted to create a firm that later, under a friendly Republican administration, could be cleanly folded back into J. P. Morgan and Company. Lamont may have recalled the birth of Bankers
Trust as a “captive” bank, one that would politely return customers referred to them for trust business. If Morgans had chosen investment banking and released 90 percent of its staff, it would have been impossible to rebuild the House of Morgan if Glass-Steagall were rescinded.

  At four o’clock on the afternoon of September 5, 1935, the eve of Jack Morgan’s sixty-eighth birthday, the House of Morgan was officially divided. Lamont, Whitney, and Stanley stood before the fireplace at the end of the long narrow partners’ room, below the oil portrait of Pierpont. They announced to two dozen newsmen that several people from the Morgan Bond Department would leave to form Morgan Stanley. The new firm would have three J. P. Morgan partners—Harold Stanley, who had joined the firm in late 1927, after Dwight Morrow was appointed ambassador to Mexico; Jack’s younger son, Harry; and William Ewing—and two Drexel partners, Perry Hall and Edward H. York. Lamont said the new firm would conduct a securities business “of the character formerly handled by our firm.”22

  Jack and Harry Morgan were absent from the conference, refusing to forgo the pleasures of grouse shooting, even on this historic occasion. It was a mournful moment. One reporter, noting the solemn faces, observed, “The segregation of the old firm was taken as seriously as a separation of any private family.”23 Yet however lugubrious for Morgans, the new Morgan Stanley was cheered as a sign of returning prosperity, a tonic to Wall Street’s mood.

  Morgan Stanley looked less a distant cousin than a richly endowed stepson of J. P. Morgan and Company, which financed it almost fully. Morgan Stanley officers owned virtually all the $500,000 of common stock, and they retained voting control. But the real start-up capital was $7 million in nonvoting preferred stock, $6.6 million of it held by J. P. Morgan partners. Jack and his family held about 50 percent of the preferred shares; Tom Lamont and his family, over 40 percent. Small wonder the new offshoot caused grumbling from some competitors, a feeling that J. P. Morgan and Company had honored the letter, but violated the spirit, of Glass-Steagall.

  On September 16, 1935, Morgan Stanley opened for business at 2 Wall Street, about a hundred yards from 23 Wall. The office of this splendid bastard had a view of the Trinity Church steeple and its decor evoked its blue-blooded parentage. Prints of old New York adorned the walls, and signature rolltop desks were lined up in the manner of 23 Wall. It had something of the mood of a J. P. Morgan branch office. “My first job in the bank was going to Morgan Stanley,” recalled Ellmore C. Patterson, later chairman of Morgan Guaranty. “They were short-handed. It got very busy and they borrowed two of us for about a year.”24

  September 16 was one of the most bizarre opening days in American business history: it didn’t resemble that of a new business. The night before, Perry Hall asked the janitor to set out a table in case anybody sent flowers. When he reported to work, he found two hundred floral displays. “In fact, the entire length of our office was just one row after another of these magnificent flowers in vases. . . . Nearly every one of them was from our competitors and associates on the Street.”25 One reporter said it resembled a flower show. The New York Times noted the eerie sense of continuity: “The inauguration of business proceeded as if it were just the beginning of another week in any old-established firm.”26 One Morgan Stanley legend, perhaps apocryphal, claims that so many companies came for business the first week that when one utility chairman arrived to discuss financing, Stanley said, “Tell him to come back next week.”27

  At the new firm, the leading personalities were recognizable Morgan types. The press, as if covering the debut of a new country club, showed them golfing or emerging from the surf. Harold Stanley, a utility-bond expert, was handsome and distinguished looking with thick, prematurely gray hair, a long face, and steady eyes. Now nearly fifty, he was president and senior statesman of the firm and a figure of enormous stature on Wall Street.

  Son of a General Electric engineer—the inventor of the Thermos bottle—Stanley had a very Morgan pedigree: he was a Massachusetts Episcopalian, a star hockey and baseball player at Yale, and a Skull and Bones member. He owned a home in Greenwich, Connecticut, and an apartment on Sutton Place. As a negotiator, he was tough and stubborn but honest. “While others banged conference tables he sat shyly by; but he seldom budged in an argument,” reported Newsweek.28 Coolly diplomatic, he was well suited for the political attacks that would shadow Morgan Stanley for twenty years.

  Absent from the opening-day festivities was the firm’s new treasurer, Harry Morgan, thirty-five, then returning from England aboard a cruise ship. Harry’s aloofness from the affairs of the firm foreshadowed later developments. Yet it would be important for the new firm to have not only the Morgan name and money, but a real, breathing Morgan on the premises.

  Harry Morgan had shiny, pomaded hair, a sharp chin, and electrically intense eyes. He was brusque and aggressive like his grandfather and with some of Pierpont’s flamboyance. He bought up the Eaton’s Neck peninsula on the North Shore and commuted by seaplane to Wall Street. As had happened with Jack in relation to Pierpont during the Pujo hearings, Harry became deeply embittered by the Pecora hearings’ treatment of his father. It would be the formative event of his life, making him fanatically private and aloof from any public role other than in the world of yachting. It would likewise make Morgan Stanley far less prone than the old House of Morgan to dabble in politics or seek publicity. In 1935, the press portrayed Harry as the real heir to the Morgan business talents, and he shone in comparison with his more languid, gentle older brother, Junius, who remained with J. P. Morgan and Company. Harry would function more as the conscience of Morgan Stanley, the custodian of its traditions, than as a day-to-day executive. He also had important business contacts through his friendship with European banking families, including the Wallenbergs and the Ham-bros. He explained his role thus: “My father, as my grandfather got older, brought into his firm some very brilliant and desirable new partners. He built a team, and he was immensely successful in doing that and in acting as a moderator and team captain. In many ways when this firm was started, I thought that there was a place for me to act in such a capacity.”29

  The founders of Morgan Stanley romanticized their early days, stressing the perils they braved. “We were going out into a rough sea in a little tiny rowboat,” said Perry Hall. “We didn’t know how we would be received.”30 They were, in fact, received like members of a Renaissance court in exile. There were many links between J. P. Morgan and the new firm. Morgan Stanley closings—that is, payments for and deliveries of securities—took place at 23 Wall. And George Whitney, acting as “family physician” to clients, steered them to Morgan Stanley. Morgan Stanley started out with only a few spillover deals from the Corner—but what deals! George Whitney steered such clients as Wendell Willkie, chairman of Consumers Power, to Harold Stanley; before September 1935 was over, Morgan Stanley had its first big electric utility issue. Early in the summer, Walter Gifford of AT&T had asked Stanley about rumors that Morgan partners would form a securities firm. When Stanley confirmed this, Gifford said, “That solves my problem.” He then put on his hat and left.31 AT&T needed to do some new financing, and the Securities and Exchange Commission was eager for AT&T to return to capital markets to prove their health under the new regulations. In a historic issue for Illinois Bell Telephone, Morgan Stanley published the first newspaper prospectus conforming to New Deal securities laws, following consultations in Washington between Stanley and SEC chairman Joseph P. Kennedy.

  Despite predictions from the House of Morgan that the New Deal would kill capital markets, they boomed in 1935, and underwritings jumped fourfold. In its first year of operation, Morgan Stanley handled an astounding $1 billion in issues, sweeping a quarter of the market. Forbes hailed a wonder: “Most firms, institutions and companies start off modestly. Unique is the record of Morgan Stanley & Co. . . . never remotely approached by any other newly created organization.”32 The firm originated issues but generally wouldn’t participate in others’ issues. SEC rules limited
the size of underwriting stakes relative to a firm’s capital, and so syndicates grew huge. On telephone issues, Morgan Stanley might marshal up to one hundred underwriters and five hundred or six hundred distributors. Its power to exclude firms from issues made it feared. Gradually much of J. P. Morgan’s clientele—lovingly referred to as the Franchise—shifted to the new firm. By the late 1930s, New York Central, AT&T, General Motors, Johns-Manville, Du Pont, U.S. Steel, and Standard Oil of New Jersey, as well as the governments of Argentina and Canada, had come for securities work. Morgan Stanley was strong in the same areas as the pre-Glass-Steagall unified bank—utilities, telephone companies, railroads, heavy industry, mining, and foreign governments.

  The rest of Wall Street assumed that Morgan Stanley had inherited its parent’s mantle of authority. Charles Blyth and his partner, Charles Mitchell, sought to ingratiate themselves with the new leaders. “Our main job is to get under the covers and as close to them as possible,” Blyth told Mitchell.33 To cultivate Morgan Stanley, he suggested opening an account at J. P. Morgan and Company. “It is true our account won’t be very important,” he told Blyth, ”. . . but it would show that our hearts are in the right place.”34 Such was the persisting faith in any firm bearing the Morgan name.

  For New Deal reformers, it was also hard to believe that J. P. Morgan and Company didn’t lurk somewhere in the shadows. That Morgan Stanley assumed so many former J. P. Morgan clients bred suspicion. One powerful enemy who resolutely tracked Morgan Stanley conquests was Interior Secretary Harold L. Ickes. After the firm’s formation, he wrote in his diary, “Meanwhile, taking advantage of the depression, the Morgan people have extended their financial domination. Ordered to put a stop to the underwriting business of their bank, they have organized a separate company which is doing even more business than was done by the bank itself along this line.”35 Ickes and other enemies bided their time. But they would soon strike back in a sustained attack, through Congress and the courts.