Having just been to the Schwarzmans’ apartment, I noticed right away that the Armory was decorated as a replica of their living room. Everything was absolute perfection, as one would expect of a party with such a hefty price tag. Schwarzman’s favorite entertainer, Rod Stewart, performed. (I’m told his fee was $1 million.) Patti LaBelle sang “Happy Birthday.” It was yet another lavish, over-the-top celebration of capitalism, paying homage to the new captains of finance. Life was good.
“It was a great age of leverage, credit, and debt entitlement,” Mohamed El-Erian, CEO of Pimco, the world’s largest bond investor, told me later. “People felt entitled to do all sorts of things using debt. You suddenly had a massive innovation that reduced the barriers of entry to credit markets. Wall Street believed that it could build one liquidity factory after another after another after another.”
El-Erian noted that the mind-set at that point was that everything was basically stable. It was a “Goldilocks economy”—never too hot or too cold. The aura of stability led to false confidence, which led in turn to excessive leveraging and riskier activity. His take seemed to be accurate. The people whom I interviewed didn’t appear to have a care in the world. But Schwarzman’s opulence was starting to annoy some of his colleagues in the business. Several of them made comments to me that they wished he would stop throwing parties. Others questioned whether Schwarzman’s birthday bash and his company’s going public the same year represented the top for the industry.
That winter, I did a report from the World Economic Forum in Davos, Switzerland. I asked a group of very big names in finance what were the most important issues facing business. In retrospect the answers were mostly way off the mark:
Tom Russo, vice chairman, Lehman Brothers: “Avian flu: High risk, low probability, but if it should happen, people won’t come to work. We are trying to figure out how to run a firm from home.”
Martin Sullivan, CEO, AIG: “The threat of terrorism.”
Victor Chu, chairman, First Eastern Investment Group: “Bird flu. It would impact everything and you can’t prepare.”
Sergey Brin, co-founder, Google: “The environment and escalating disasters.”
It’s striking how much focus was on external calamity, as if terrorism and avian flu were the only forces capable of halting the phenomenal tide of growth and prosperity. The only one of so many I interviewed who said anything about banks being at risk was Deutsche Bank CEO Josef Ackermann. In reply to my question, he said, “Overleveraging in the real estate market.” Bingo! He got it. (Years later I asked Ackermann how he had been so prescient, and he told me that he would advise anyone who asked him that the two biggest problems to avoid in any successful economy were indebtedness and real estate bubbles. When I asked, “So, did you do anything about it?” he admitted, “We did a little, not a lot,” noting how competitive the market was then and how difficult it is to put the brakes on during a boom.)
In January 2007 I conducted another interview with David Rubenstein of the Carlyle Group. “What are your expectations for the year? Can this keep up?” I asked him. Rubenstein answered, “It’s hard to believe it can get any better.” He said that assuming there was no cataclysmic event like 9/11, he expected 2007 to be another big year.
That prediction, born of what—false optimism, bravado, blindness, deceit?—did not come true. Within weeks of Rubenstein’s remark, the gloom was setting in. It was going to be a very long year, and a very long fall to earth. This is the story of that fall.
ONE
Nightmare on Liberty Street
“Because of what he did with Bear Stearns, everybody thought good ol’ Hank [Paulson] would be there with the money.”
—A FORMER TREASURY DEPARTMENT OFFICIAL, IN AN INTERVIEW WITH MARIA BARTIROMO
SEPTEMBER 12, 2008
The Federal Reserve Bank of New York rises up from a narrow street in the financial district of Manhattan, a literal fortress of limestone and sandstone whose cavernous subterranean vault houses 25 percent of the world’s gold supply. The building is a commanding emblem of the security and size of the American economy, and few people enter its Liberty Street doors without feeling a power surge. When times are flush, they may even have an exhilarated spring to their step, happy to be at the center of prosperity. But the men who streamed out of the line of black cars on Liberty Street in the waning afternoon hours of Friday, September 12, 2008, did so with heads bent, battling gusting winds and a torrential downpour. To a man they were extremely grim. Their names were among Wall Street’s elite—Jamie Dimon, of JPMorgan Chase; Vikram Pandit, of Citigroup; Brady Dougan, of Credit Suisse; John Thain, now of Merrill Lynch; John Mack, of Morgan Stanley; Lloyd Blankfein, of Goldman Sachs; Robert Kelly, of Bank of New York Mellon; and Robert Wolf, of UBS Group. Waiting inside were the horsemen of the apocalypse—or, perhaps, the angels of salvation (no one knew then which it would be)—Treasury secretary Henry “Hank” Paulson, New York Fed president Timothy Geithner, and SEC chairman Christopher Cox. At issue that particular day was the fate of Lehman Brothers, the 158-year-old investment banking firm that formed one of the pillars of Wall Street. The men gathering faced the blunt reality that Lehman could not open for business the following Monday without a rescue—and that rescue was in their hands.
As the titans of capitalism plowed through the rain-drenched streets of lower Manhattan, each was filled with a deep inner turmoil. Several of them would later admit to me how troubled they were. John Mack, CEO of Morgan Stanley, who had earned the nickname “Mack the Knife” for his ruthless, unsentimental ability to slash costs and pursue profits, spoke softly as he recalled the sense of crisis. “The dominoes were falling,” he said, “and one of them was almost Morgan Stanley.” Every man present was likely feeling the same way—not just concern for Lehman, but dreading his own fate.
The meeting was called for 6:00 p.m., but the bad weather delayed it until nearly 7:00. Rain always means traffic bottlenecks in New York, especially on a Friday night. Mack described the ride down from the Morgan Stanley offices in midtown. “It was pouring, and traffic was stopped. I was worried that we wouldn’t get there on time. And my driver, who was an ex-policeman, said, ‘Hey, boss, do you see that bike lane over there? Does it go all the way down to the Battery?’ I said, ‘Yeah, I think it does.’ So we took the bike lane and got there in five minutes. That’s how important it seemed.”
Hank Paulson and a couple of associates had flown in from Washington, and their car crawled through the clogged streets. While he rode, Paulson worked the phone. For more than a week he had been trying to facilitate a behind-the-scenes deal with Lehman Brothers and one of two promising suitors—Bank of America and the British bank Barclays. It was no secret that BofA was the preferred buyer. Certainly, Lehman CEO Dick Fuld felt that way, and many others shared the view that the company should be kept in American hands. Earlier that day Paulson had taken a call from New York senator Chuck Schumer, expressing concern about the prospect of the Brits buying Lehman. He suggested that a foreign owner wouldn’t have the same commitment to jobs as an American firm, and he worried about setting off a firing spree on Wall Street.
Like a manic marriage broker, Paulson had been going back and forth between Fuld and Bank of America’s CEO, Ken Lewis. Paulson knew that after JPMorgan acquired Bear Stearns earlier that year, Bank of America was likely the strongest, most deep-pocketed American bank that could pull off another takeover. Lewis was attracted to the idea of buying Lehman, with one big caveat: he wanted to leave behind the toxic assets—that is, those whose value had declined so substantially that they represented a burden on the balance sheet. It was like making an offer to buy a house except for the leaking roof. Paulson stated repeatedly that the federal government was not going to be on the hook for the bad assets. A private-sector solution was required. But Ken Lewis didn’t seem to register what Paulson was saying. Now, sitting in his car, Paulson took another call from Lewis.
“Okay, I’ll do a deal if you guarantee
all the bad assets.”
Paulson sighed heavily. “Ken, we can’t do that.”
“Then I’m out,” Lewis said.
Paulson urged him to wait. He told him about the meeting at the Federal Reserve and suggested that perhaps a consortium of banks could get together and take on some of Lehman’s toxicity. Lewis agreed to hold off on a decision, but he didn’t sound optimistic.
“Do you think he’s really serious about buying Lehman?” Paulson’s chief of staff, Jim Wilkinson, asked. They were all beginning to have their doubts. Separate conversations were being held with Barclays, just in case. Members of Paulson’s staff were constantly on the phone with the British regulators who, like Lewis, were balking at the idea of taking on Lehman’s debt. It was going to be a long weekend, and Paulson had no idea going in whether they’d be able to pull off the save.
I remember asking someone from the Treasury that week whether Lehman’s toxic assets were so much worse than what anybody else had on the books.
“Oh, yeah,” he said. “The difference between Bear and Lehman was that everybody had been into Lehman looking at its books. They knew exactly how bad it was. I was in there with Bank of America, and they were talking about just some of this horrible land. Believe me, it was awful.”
Contrary to the way it is portrayed in movies, the floor of the New York Stock Exchange is not consumed by frenzy or populated by unruly, shouting traders. Computers long ago replaced ticker tape, and the scene today is of hundreds of people hunched over their terminals making electronic trades. Even so, a visceral energy pulses through the vast room. When the opening bell rings each morning at 9:30, no one can predict with any certainty how the market is going to end at 4:00 p.m.—although hundreds of analysts and reporters are dedicated to the job of divining the outcome. I have been reporting from the floor for more than fifteen years. My afternoon show, Closing Bell, broadcasts between 3:00 and 5:00 p.m., which is the apex of global trading. And during this particular time, the nervousness was surreal. Every day I would come in not knowing what to expect. We would watch massive gyrations with the Dow, down 500, 600, 700 points on some days and up 500 points on others. Investors were nervous, and the nervousness manifested itself on markets around the world.
Closing Bell focuses on the financial issues everyone is talking about, and during the few days leading up to that “big weekend,” the talk was about Lehman Brothers: Would it survive until Monday? How much did it matter to the financial health of Wall Street if Lehman went down? Would the Fed backstop a purchase as it had done with Bear Stearns six months earlier? Were there serious suitors that might rescue Lehman? The experts were generally pessimistic about Lehman, and the flashing board told the tale: the once-great investment firm’s stock closed on Friday at a paltry $3 a share, down from a fifty-two-week high of $67.73.
To outsiders, the crisis might have seemed sudden, shocking, unbelievable—a bolt from nowhere. But it had been coming for a long time. A Lehman insider, recalling the months leading up to this fateful moment, told me, “By Friday, September 12, we just wanted to get through the damn day. Every day you’d sit there and think ‘I can’t wait until the market closes.’ People were transfixed by the ticker and what was happening to our stock price.” Now months of agony and hope were coming to a final reckoning, and the actions of the men gathering at the Fed would define the financial landscape for years and even decades to come.
By the time I arrived at the New York Stock Exchange for Closing Bell on Friday, I had been working the phones and text messaging for hours. Lehman Brothers was on the ropes. With the announcement of third-quarter losses of nearly $4 billion, credit agencies were threatening a downgrade unless Lehman raised substantial cash before the weekend was out. Share prices had plummeted throughout the week. Rumors had been floating around for weeks that the state-owned Korea Development Bank (KDB) was talking about acquiring Lehman and/or taking a sizable stake, but that deal was dead by the weekend. My sources told me that the Koreans had made an offer of capital in exchange for a 50 percent stake, but Fuld declined it. “It’s not enough,” he told them, asking for much more than they wanted to pay. He overreached and lost the deal.
Midway through my show, my BlackBerry started buzzing with the news that Tim Geithner had called a major-league powwow for later that evening, and the principals of the big firms were heading down to the Federal Reserve.
Not everyone knew the exact reason for the summons, but when Geithner called, they responded. The head of the New York Federal Reserve had that power.
“Tell me what’s happening,” I said to one of my sources. He laughed. “Let’s put it this way,” he said. “The call from Geithner wasn’t a request. He didn’t say ‘Would you mind coming down?’ It was more like an order.”
“Is it about Lehman?” I asked.
“I think so,” he replied. “I think they’re going to try and get a pound of flesh from us.” He said he expected Geithner and Paulson to pressure the firms to ante up some hard cash to save Lehman.
Moments later, I was back on air, fielding a series of commentators, lining up for an anticipated weekend bloodbath around Lehman Brothers. By now it had become somewhat commonplace to wait for the weekend meetings to get news before the opening of the Asian markets on Sunday. This weekend felt the same, but it was actually more significant. “The world changed very quickly and caught the U.S. financial system off guard,” Mohamed El-Erian told me, adding, “When we look back we’re going to say, ‘Wow! That was a period when the U.S. financial system was redefined.’”
With Lehman shares at rock bottom as we neared the close, everyone was speculating about what price Lehman might command, and whether there were any viable suitors. There was broad agreement that Lehman was not too big to fail. “They have their hat in their hand at this point,” said David Kelly of JPMorgan. Harvard University professor Martin Feldstein agreed that Lehman was no Bear Stearns and probably did not warrant a government backstop. “There is no reason why the shareholders or, indeed, the creditors of Lehman should be protected if in fact there isn’t enough capital there for Lehman to be viable,” he said. Feldstein was joining a growing chorus of financial experts who believed the system had reached a dangerous tipping point of too much government involvement, brought about by an overleveraged system. But there was still debate about whether the firm would, in fact, be forced to declare bankruptcy.
Jerry Webman, chief economist at Oppenheimer Funds, voiced deep concern. “This is a sea change in the financial world,” he said on my show that day. “For twenty-five years we’ve had an economy based on financial leverage—earnings based on the ability to borrow and put borrowing on top of borrowing, easy money driving these economies, driving earnings forward. What we’re trying to do right now is sort out who’s got a good long-term earnings model from solid business and whose balance sheet is potentially a lot of air.”
Most people I spoke with said to me, “Maria, this is different. This is unbelievable. This is the worst thing I’ve ever seen.” And it wasn’t just the specter of a bunch of wealthy Wall Streeters being toppled. Unlike Bear Stearns, where stock in the company was mostly held by the top executives, Lehman had a trickle-down ownership culture, with the lower rungs of the company, such as executive assistants, paid in stock. If Lehman fell, there would be a lot of average people left with nothing.
As the business day drew to a close, CNBC showed scenes of Lehman employees leaving the building, saying that they didn’t know if they would be back Monday. There were many tear-streaked faces outside Lehman headquarters in Times Square that day. Even so, few people, including the principals, believed Lehman would go down. For those on the outside, it was simply inconceivable.
The three men on the hot seat this weekend—Tim Geithner, Hank Paulson, and Chris Cox—were by no means a cookie-cutter team of financial types. That is to say, these were bright and very different men who shared one big commonality: the desire to get something important accomplished, po
pularity be damned. There are few times in life when one’s actions may create history, and they all knew that this was one of them.
New York Fed president Tim Geithner took a lot of ribbing for his youthfulness. The first time people met the slender forty-seven-year-old, they often remarked that he looked too green to bear such a large responsibility. The word most often used to describe him was “boyish.” But Geithner’s résumé was impressive. Born in New York City, the second-generation offspring of German immigrants, Geithner spent most of his childhood living abroad and graduated from Dartmouth with a degree in Asian studies.
One thing that distinguished Geithner was that he wasn’t a product of Wall Street. His rabbi was former Treasury secretary Robert Rubin, who years earlier told me, “Geithner will one day be Treasury secretary.” When he was tapped for the Fed position in 2003, Geithner was working at the Council on Foreign Relations, and, indeed, he’d spent his entire career in government and quasi-government positions. He didn’t come from the culture of the Street, where success was often measured in sizable bonuses and fat stock portfolios. He and his wife and two children lived in a modest house in Westchester County and were not regulars on the New York social scene. (Later, when Geithner was named Treasury secretary by Barack Obama, he had a tough time selling his house, even after he’d slashed the price to under $1 million. He eventually rented it while he waited for the real estate market to turn around.)
Geithner’s low-key, no-drama style was well suited to his position. But no one ever accused Geithner of being a pushover.
The Weekend That Changed Wall Street Page 2
