Too Big to Fail

by Andrew Ross Sorkin

  Federal Reserve Act, Section 13, point 3: www.federalreserve.gov/aboutthefed/section13.htm.

  “regulatory capital relief”: From AIG’s 10-Q filing, August 6, 2008: “Approximately $307 billion of the $441 billion in notional exposure on AIGFP’s super senior credit default swap portfolio as of June 30, 2008 was written to facilitate regulatory capital relief for financial institutions primarily in Europe.”

  AIG’s vast insurance empire: A “strictly confidential” AIG presentation draft, dated February 26, 2009, entitled, “AIG: Is the Risk Systemic?” states that “AIG has written more than 81 million life insurance policies to individuals worldwide” at a face value of $1.9 trillion, with more than $12 billion in claims paid in 2008.

  he knew the top people in the industry: Susanne Craig, “In Ken Wilson, Paulson Gets Direction From the Go-To Banker of Wall Street,” Wall Street Journal, July 22, 2008.

  telling the press that he planned to mount a proxy contest: “Hank Greenberg: Plans Fight for Control or Buyout of AIG,” Dow Jones Newswires, September 16, 2008.

  “Dear Bob”: The full text of Hank Greenberg’s letter to Robert Willumstad, dated September 16, 2008, can be viewed online at http://online.wsj.com/public/resources/documents/AIG09162008.pdf.

  He and Ben Bernanke had scheduled a meeting with President Bush: According to the Wall Street Journal, this meeting took place at 3:30 p.m. See Monica Langley, Deborah Solomon, and Matthew Karnitschnig, “Bad Bets and Cash Crunch Pushed Ailing AIG to Brink,” Wall Street Journal, September 18, 2008.

  “Well, you finally get your chance”: Richard Beattie’s remarks to Robert Willumstad, as first reported in Fortune magazine. James Bandler, “Hank’s Last Stand,” Fortune, October 7, 2008.

  the government was taking a large ownership stake—79.9 percent: Matthew Karnitschnig, Deborah Solomon, Liam Pleven. and Jon E. Hilsenrath, “U.S. to Take Over AIG in $85 Billion Bailout,” Wall Street Journal, September 16, 2008.

  “Paulson is handling this the same way he did Fannie, Freddie and Bear”: Monica Langley, Deborah Solomon and Matthew Karnitschnig, “Bad Best and Cash Crunch,” Wall Street Journal, September 18, 2008.

  the London Interbank offered rate: Known as LIBOR, this is the average interest rate charged when banks borrow unsecured funds from each other, whether it’s an overnight or long-term loan. In the United States, LIBOR maturities used in pricing loans most commonly include one, three, six, and twelve months. On Wednesday, September 17, 2008, the three-month LIBOR jumped 19 basis points, to 3.0625 percent, its biggest jump since September 1999. Lisa Twaronite, “Three-month Libor Marks Biggest Jump in Nine Years,” MarketWatch.com, September 17, 2008.

  “I won’t be working for the federal government”: Willumstad, as quoted in Bandler, “Hank’s Last Stand,” Fortune..

  a Maine insurer that had fought off an effort by Allstate: Laura Jereski, “We Understand Risk.” (UNUM Corp.), Forbes, March 20, 1989.

  AIG had invested $1.35 billion in Blackstone: Peter Truell, “AIG Will Put $1.35 billion into Blackstone,” New York Times, July 31, 1998.

  Greenberg’s office in exile: A year after his ouster from AIG in 2005, Greenberg relocated his office to the seventeenth floor of Citigroup’s headquarters, at 399 Park Avenue. See Diane Brady, “Hank at War,” BusinessWeek, March 27, 2006.

  “He’s going on Charlie Rose to talk about AIG”: During that week, Hank Greenberg appeared on two consecutive episodes of Charlie Rose. The first was simply to discuss AIG’s crisis, and the second to speak about the federal bailout. See The Charlie Rose Show, “More Crises on Wall Street,” September 16, 2008 and “Former AIG Chair Discusses Bail Out,” September 17, 2008.

  The gathering had been hastily organized: Langley, Solomon, and Karnitschnig, “Bad Bets and Cash Crunch,” Wall Street Journal.

  had sent him an e-mail: facsimile of Herzog’s e-mail appeared in Fortune, where this was first reported. Carol J. Loomis, “AIG’s Rescue Has a Long Way to Go,” Fortune, December 29, 2008.

  CHAPTER SEVENTEEN

  “Reserve Primary Fund, had broken the buck”: It was the first time in fourteen years that a fund’s net asset value had fallen below $1, or “broken the buck.” Particularly unsettling was the fact that the Primary Fund’s owner, the Reserve Management Corporation, invented the money fund in 1970. See Christopher Condon, “Reserve Primary Money Fund Falls Below $1 a Share,” Bloomberg, September 16, 2008.

  4.04 percent annual return: According to Morningstar Inc., the Reserve Primary Fund posted a return of 4.04 percent over a twelve-month period, versus a 2.75 percent average among more than twenty-one hundred money market funds it tracks. See Binyamin Appelbaum, “Beyond Wall St., Losses Spill Over,” Washington Post, September 18, 2008; Eleanor Laise, “Market Rescue: Money Funds Offer More Detail,” Wall Street Journal, September 20, 2008.

  $785 million in Lehman paper: Steve Stecklow and Diya Gullapalli, “A Money-Fund Manager’s Fateful Shift: Bruce Bent Shunned Corporate Debt for Years—Then Bought Some of Lehman’s,” Wall Street Journal, December 8, 2008.

  “Goldman, Morgan Now Stand Alone”: Aaron Lucchetti and Robin Sidel, “Dow Industrials Take a 504.48-Point Dive—Goldman, Morgan Now Stand Alone; Fight On or Fold?,” Wall Street Journal, September 16, 2008.

  “For seven years, I’ve said”: Lewis, during a conference call that Monday to discuss the Merrill merger. Joseph A. Giannone, “Goldman, Morgan Stanley Face Biggest Market Test,” Reuters, September 16, 2008.

  had been given a big promotion by Mack: Pandit joined Morgan Stanley as an associate in 1983. Seventeen years later, with Mack at the helm, he became president of investment banking. Joe Hagan, “The Most Powerless Powerful Man on Wall Street,” New York, March 9, 2009.

  With $62 billion in assets: On Friday, September 12, 2008, the Primary Fund’s assets had been about $62 billion. Diya Gullapalli, Shefali Anand, and Daisy Maxey, “Money Fund, Hurt by Debt Tied to Lehman, Breaks the Buck,” Wall Street Journal, September 17, 2008.

  “They pretended they were drawing a line in the sand”: Nouriel Roubini, quoted in Emily Kaiser, “After AIG Rescue, Fed May Find More at its Door,” Reuters, September 17, 2008.

  Wachovia’s 2006 acquisition of Golden West: On May 7, 2006, Wachovia announced plans to purchase Golden West Financial Corp., based in Oakland, California, for $25.5 billion. Investors, however, failed to embrace the merger, and Wachovia’s shares took a dive. Jonathan Stempel, “Wachovia CEO—No More Big Mergers After Golden West,” Reuters, June 14, 2006.

  “The past several months have been”: Serena Saitto and Yalman Onaran, “Fuld Tells Lehman Employees He Feels ‘Horrible’ for Their Pain,” Bloomberg, September 17, 2008.

  “the war situation has developed”: Broadcast at noon on August 15, 1945, Hirohito continued with, “while the general trends of the world have turned against her interest.’ “Andrew Roberts, “The Debt Japan Owes These Men,” Daily Mail (London), September 17, 1993.

  graduates of Duke and members of the university board: Steel retired from the board in May 2009. See http://trustees.duke.edu/.

  “One Firm. One Team. Bribe a Leader”: See http://www.dealbreaker.com/robert_kin-dler/.

  portrait of Alexander Hamilton: Andy Serwer, “Mr. Paulson Goes to Washington,” Fortune, November 27, 2006.

  Duer could not cover his debts, setting off a panic: Chernow, Alexander Hamilton, 293.

  “Free Market Day”: Frank quipped at a hearing held on Wednesday, two days after Lehman filed for bankruptcy. “Barney Frank Celebrates Free Market Day,” Wall Street Journal, September 17, 2008.

  Senator Jim Bunning, Republican from Kentucky Ted Barrett, Deirdre Walsh, and Brianna Keilar, “AIG Bailout upsets Republican lawmakers,” CNN.com, September 17, 2008.

  Richard Shelby, Republican from Alabama: Ibid.

  The Gold Reserve Act of 1934 and Exchange Stabilization Fund: See http://www.treas.gov/offices/international-affairs/esf/.

  “DB: A Solid Counterparty”: Aaron Lucchett
i, Randall Smith, and Jenny Strasburg, “Morgan Stanley in Talks with Wachovia, Others,” Wall Street Journal, September 18, 2008.

  set up a series of phone calls for Mack, who also contacted Chuck Schumer and Hillary Clinton, Cox, Paulson…: First reported by Emily Thornton, “Morgan Stanley’s John Mack Swings into Action,” BusinessWeek.com, September 17, 2008.

  “I know all of you are watching our stock price today”: “Morgan Stanley Memo: ‘There Is No Rational Basis for the Movements in Our Stock,’” WSJ Blog/Deal Journal, September 17, 2008.

  “This memorandum provides a waiver….”: Author obtained copy of memo.

  “Stop the insanity—we need a time out”: Author obtained copy of Schorr’s e-mail.

  “It’s one thing to complain”: Susan Pulliam, Liz Rappaport, Aaron Lucchetti, Jenny Strasburg, and Tom McGinty, “Anatomy of the Morgan Stanley Panic,” Wall Street Journal, November 24, 2008.

  “Morgan Stanley applauds Attorney General Cuomo”: Press release, September 18, 2008. Find full text in Press section of Morgan Stanley’s company Web site, http://www.morgan-stanley.com.

  “There are no atheists in foxholes”: Peter Baker, “A Professor and a Wall Street Deal Maker Bury Old Dogma on Free Markets,” New York Times, September 21, 2008.

  Resolution Trust Corporation: Lee Davidson, “The Resolution Trust Corporation and Congress, 1989–1993,” 18, no. 2, FDIC Banking Review, 2006.

  L. William Seidman: Greenspan, The Age of Turbulence, 116.

  “This new governmental body”: Excerpt of an editorial written by Nicholas F. Brady, Eugene A. Ludwig, and Paul A. Volcker, “Resurrect the Resolution Trust Corp.,” Wall Street Journal, September 17, 2008.

  “As Fears Grow, Wall St. Titans”: Ben White and Eric Dash, “As Fears Grow, Wall St. Titans See Shares Fall,” New York Times, September 17, 2008.

  “We need a merger partner or we’re not going to make it”: An appended editors’ note in the New York Times on September 17, 2008, said that both Morgan Stanley and Citigroup “vigorously” denied that Mack had ever made this comment.

  Sulzberger family pulled its money from Morgan Stanley: Sarah Ellison, “New York Times Controlling Family Moves Assets from Morgan Stanley,” Wall Street Journal, February 3, 2007.

  Morgan Stanley’s unfailingly bearish economist: Sarah McBride, “Bearish Economist Roach Says U.S. Caused Global Recession,” Asian Wall Street Journal, July 13, 2001.

  George Soros acolyte worth more than $3.5 billion: That week, Stanley Druckenmiller had been ranked 105 on Forbes’s annual list of the four hundred richest Americans, with a net worth of $3.5 billion. “The Forbes 400 List,” Forbes, September 17, 2008.

  sent out a companywide e-mail: Author obtained copy of e-mail.

  Congress to increase the “debt ceiling” in July: The “debt ceiling” was a political hot potato that would require Congress to vote to increase the amount of debt the country could take on, and Congress had just increased the amount to $10.615 trillion in July.

  “The market is trading under the assumption”: “European Shares Rise after Central Bank Plan, Asia Losses,” Agence France-Presse, September 18, 2008.

  “The Star-Spangled Banner”: New York Times, October 2, 2008.

  FSA announcing temporary ban on short-selling: David Prosser, “Hedge Funds’ Misery as FSA Bans Short-selling on 32 Firms,” The Independent, September 20, 2008.

  “Treasury, Fed Weighing Wider Plan”: Alison Vekshin, “Treasury, Fed Weighing Wider Plan to Ease Crisis, Schumer Says,” Bloomberg, September 18, 2008.

  Charlie Gasparino of CNBC reported what he was hearing from his sources on Wall Street”: “Treasury Secretary Hank Paulson is working on an RTC-type solution to the financial crisis, reports CNBC’s Charlie Gasparino.” CNBC, September 18, 2008.

  “Mr. Secretary, we would like to meet with you”: On September 28, Pelosi relayed her phone conversation with Paulson to CBS’s 60 Minutes anchor Scott Pelley. Pelley also interviewed Paulson on the show. “Secretary Paulson Details the Federal Bailout,” 60 Minutes, CBS, September 28, 2008.

  The notion of becoming a bank holding company: Jon Hilsenrath, Damian Paletta, and Aaron Lucchetti, “Goldman, Morgan Scrap Wall Street Model, Become Banks in Bid to Ride Out Crisis,” Wall Street Journal, September 22, 2008.

  to meet with the congressional leadership at Nancy Pelosi’s office: The meeting took place on the second floor of the Capitol, in a conference room beside Pelosi’s personal suite. Carl Hulse and David M. Herszenhorn, “Behind Closed Doors, Warnings of Calamity,” New York Times, September 20, 2008.

  “I spent my career as an academic studying great depressions”: Bernanke, as quoted by Wessel, In FED We Trust, 203.

  noticeably gulped: As Schumer himself told the New York Times, “When you listened to him describe it, you gulped.” David M. Herszenhorn, “Congressional Leaders Stunned by Warnings,” New York Times, September 19, 2008.

  “What about the homeowner?”: Wessel, In FED We Trust.

  Richard Shelby disapprovingly characterized: “If we say ‘whatever it takes,’ that means there’s a blank check of the treasury, future generations, to pay for the mistakes of a lot of people.”

  “If it doesn’t pass, then heaven help us all”: Deborah Solomon, Liz Rappaport, Damian Paletta, and Jon Hilsenrath, “Shock Forced Paulson’s Hand,” Wall Street Journal, September 20, 2008.

  “Do you know what you are asking me to do?”: New York Times, September 20, 2008.

  “I think we need to do this”: McConnell, a Republican senator from Kentucky and Republican leader of the Senate, who often spars with Reid on the Senate floor, “reached over to assure his colleague they could work it out.” New York Times, September 20, 2008.

  put in place a ban on shorting financial stocks: The SEC issued a press release on the morning of Friday, September 19, that read: “Given the importance of confidence in financial markets, the SEC’s action halts short selling in 799 financial institutions. The SEC’s emergency order…will be immediately effective and will terminate at 11:59 p.m. ET on Oct. 2, 2008. The Commission may extend the order beyond 10 business days if it deems an extension necessary in the public interest and for the protection of investors, but will not extend the order for more than 30 calendar days in total duration.” See http://www.sec.gov/news/press/2008/2008-211.htm.

  “While this is all politically pleasing”: Chanos, as reported by Kara Scannell, Deborah Solomon, Craig Karmin, and Gregory Zuckerman, “SEC Is Set to Issue Temporary Ban Against Short Selling,” Wall Street Journal, September 19, 2008.

  Merrill Lynch had bought insurance covering $150 million: On September 17, Merrill bought insurance to cover $106.2 million in Morgan Stanley debt and returned the following day, September 18, to buy protection on another $43 million of debt, according to trading documents obtained by the Wall Street Journal. Susan Pulliam, Liz Rappaport, Aaron Lucchetti, Jenny Strasburg, and Tom McGinty, “Anatomy of the Morgan Stanley Panic—Trading Records Tell Tale of How Rivals’ Bearish Bets Pounded Stock in September,” Wall Street Journal, November 24, 2008.

  Citigroup, Deutsche Bank, UBS, AllianceBernstein, and Royal Bank of Canada: Ibid.

  Wei Sun Christianson: In December 2007, Christianson played a major role in negotiating Morgan Stanley’s $5.6 billion deal with China Investment Corp., which gave CIC a 9.9% percent stake in the company. See Jason Leow and Rick Carew, “Wei Sun Christianson and How Morgan Deal Got Boost in China—Longtime Mack Aide from Beijing Lends Stature, Ties to Region,” Wall Street Journal Asia, December 21, 2007.

  CIC already held a 9.9 percent stake in Morgan Stanley: When Morgan Stanley announced a loss of $3.59 billion at the end of 2007, the state-owned China Investment Corp. (CIC), invested five-billion-dollars in the company, giving it a 9.9 percent stake. “China fund grabs big stake in Morgan Stanley,” AFP, December 2007.

  he’d be interested in buying up to 49 percent of the firm: Christine Harper, “Morgan Stanley Said to Be in Talks with China’s
CIC,” Bloomberg, September 18, 2008.

  CIC’s investment in Blackstone: When Blackstone went public in June 2007, CIC invested $3 billion—giving it a 9.9 percent stake in the company. Since then shares had fallen by nearly 45 percent, to $17.13 in late August, giving CIC a paper loss of more than $1.3 billion. Allen T. Cheng, “Inside the CIC,” Institutional Investor—America, September 10, 2008.

  CHAPTER EIGHTEEN

  “these illiquid assets”: “Text of Paulson’s News Conference Friday,” Associated Press, September 19, 2008.

  Wachovia’s $120 million mortgage portfolio: As part of its 2006 purchase of Golden West Financial Corp., Wachovia inherited a $120 billion adjustable-rate home-loan portfolio, the bulk of which comes from California and Florida, two of the hardest-hit housing markets in the country. Dan Fitzpatrick, Alex Roth, and David Enrich, “With Wachovia Sale Looking Likely, A Makeover for Charlotte, U.S. Banking,” Wall Street Journal, September 29, 2008.