The Weekend That Changed Wall Street

by Maria Bartiromo

  Steel was a happy man. He had weathered the storm. But these were frightening days for the average person. People were asking, “Is my money safe?” This lack of confidence was reflected in the plummeting stock numbers.

  “I always ask, what did we do wrong?” a government source told me. “Well, what we did wrong was we should have started capitalizing the financial sector back in March of 2008, maybe even a little bit earlier, to make sure companies had sufficient funds to withstand these liquidity runs. But the problem was we couldn’t even get Congress to pass it the first time after the Lehman failure, after the AIG failure, you know, with Wachovia and Washington Mutual, with Fannie and Freddie failing, with the runs on the investment banks. You still couldn’t get them to pass it. So there was no chance we could have gotten them to pass it earlier. I think the evidence is clear on that, that you needed some pretty catastrophic events to get this stuff through Congress.”

  He added that he always got annoyed when people started pointing fingers at the sellers and not the buyers. “Everybody’s to blame,” he said. “If you were to add up all the blame, it would equal seven hundred percent. But, in my mind, the people who were most problematic were the people who bought these assets and didn’t think them through.”

  As 2008 wound to a close, Hank Paulson was in a contemplative mood. He was preparing to leave Washington at the end of the Bush administration and was looking forward to spending more time on his farm in Illinois. He planned to write a book and had been offered a teaching fellowship at Johns Hopkins University. He knew his life would be full. But he also knew that his career would be defined by the events of 2008, and he wasn’t shy about defending his decisions and actions during those critical months. We sat down together for one final conversation before Paulson left the Treasury.

  “Where are we in terms of recovery?” I asked.

  He smiled. “Well, Maria, that’s the question everybody is asking.” I could see that he wanted to analyze what had been achieved. Paulson had been sitting atop the bucking bronco for nearly a year. He was proud that he’d taken firm control and had not allowed a complete collapse of the system. “We stemmed a string or cycle of financial institution failures, which could have led to a downward spiral—a freefall for the economy,” he said, adding that the less sexy, long-term work of stabilization was still ahead.

  I looked Paulson in the eye and asked, “Do you regret allowing Lehman to fail?”

  He sighed. I imagine he’d been asked that question hundreds of times, and given his decency, he’d probably lost sleep over it. He seemed mildly frustrated to have to go back over it—the fact that pre-TARP, the government had no authority to save Lehman. Although it clearly pained him that a solution had not been found that weekend, he was quietly defiant about the suggestion that he could have done anything differently. However, I noticed that when he left the interview, Paulson did not have the old spring in his step. The crisis had aged him and changed him. He’d be turning over the reins of the Treasury to the man he had worked with so closely, Tim Geithner. But Geithner would be answering to an administration with a different attitude toward Wall Street. Paulson couldn’t predict what would happen to his carefully crafted solutions once the Obama team took office.

  John Thain was having a very, very bad morning on January 22, 2009. Ken Lewis had phoned the day before from Charlotte to schedule an urgent meeting in Thain’s New York office for 11:30 a.m. Thain could only guess what Lewis wanted, but the thought of his boss’s private plane barreling north was not a comforting one.

  It had been four months since the triumphant announcement of Merrill’s sale to Bank of America, which had saved the investment firm’s hide in the wake of Lehman’s failure. Thain had agreed to stay on to support the merger and to ease the way in what would be a complex venture. It was difficult to explain to anxious shareholders that the sale did not mean an overnight correction. Merrill still had problems on the books, although Thain was working overtime to divest the company of the remaining toxic assets. He had anticipated all along that it would be a difficult several months. The deterioration of the market had continued, and though he’d been aggressive in moving away from mortgage-related products, there were still enough of them on the books to cause pain. There were huge spreads between the prices of cash assets and credit default swaps, and any type of forced selling drove asset prices down. That meant more losses before Merrill started to climb back.

  Merrill’s vulnerabilities should not have been a surprise to Lewis, either. Right after the agreement in September, he’d moved his accountants into the Merrill offices, and they knew about Merrill’s problems better than anyone. By the time Bank of America’s shareholders formally approved the merger on December 5, Thain felt optimistic that the two companies could successfully move forward. What he didn’t fully grasp was the extreme sensitivity involved in combining two cultures—the staid world of commercial banking and the comparatively high-flying world of investment banking. With the official takeover date scheduled for January 1, 2009, Thain was focusing a lot of his energy in December on taking care of his own people—specifically, making sure that $4 billion in bonuses were in place. There were reports that he also requested a bonus of $10 million for himself, stating that he deserved the large sum because he “saved Merrill” with the sale to Bank of America. In doing so he missed the mood of the company—and of the nation. He failed to see that with Merrill still bleeding, the bonuses might have been perceived by Bank of America shareholders and by members of Congress as terribly inappropriate. (It deserves note that to this day Thain denies asking for $10 million, but directors who were there told the media a different story.)

  By December Lewis had grown deeply concerned. He later told me, “The losses began to really accelerate in mid- to late December. November was bad, but November was bad for almost every company in the business. And there was a point in mid-December that we said, ‘Hey, things are accelerating and we need to call for a material adverse change.’”

  A material adverse change (MAC) is a legal contingency clause that allows an acquiring company to halt completion of a transaction if the status of the company it’s acquiring changes measurably, and that’s what Lewis was seeing.

  “We went to the Treasury and the Fed,” he told me, “and we talked to them about that. And we jointly concluded that it would pose some systemic risk if the deal didn’t go through. They promised to assist us in getting it done and filling the bucket of capital that was taken away by the loss.”

  “Did they say, ‘No, no, no, you can’t walk away from it?’” I asked.

  “They said, ‘We strongly advise you that it is not in your best interest or the country’s best interest to walk away from this,’” Lewis explained. “And at the end of the day, we thought it was in our best interest and the country’s best interest to go ahead with it, because we still saw the long-term strategic benefits. And we thought the disruption caused by not doing it just outweighed calling the MAC.”

  The government assist involved the promise of an additional $20 billion in stimulus funds. But Lewis could not contain a sense of doom as the announcement of fourth-quarter losses loomed. There was no way to sugarcoat the news: Bank of America posted a loss by Merrill of more than $15 billion.

  Unquestionably, there were those at Bank of America who had the knives out for Thain. The bonus issue was bad enough, but then someone leaked an old story that put Thain in a very bad light. The story involved Thain’s start at Merrill Lynch a year earlier, when he had spent more than $1.2 million in the renovation of his office, including $131,000 for area rugs, a $68,000 antique credenza, a $35,000 commode, and a $1,400 wastebasket. This was the type of excess that might have been acceptable in the frothy days just past, but it did not go down well with taxpayers in the throes of recession. Never mind that it had happened a year earlier, before the crisis hit. The media slammed Thain, focusing on the $45 billion in stimulus funds that had landed in Bank of America’s coffers. The
point got mangled but nobody cared: John Thain was viewed as the guy who spent a small fortune on office commodes and wastebaskets—and then demanded a $10 million bonus while the taxpayers wrote fat checks to his company.

  In spite of the bad press, Thain did not feel the personal jeopardy that was looming on January 22. Shortly before noon, Lewis entered his corner office, his demeanor cool and unfriendly. He sat down and got right to the point. “Things aren’t working out. We’re going to replace you.” While Thain was digesting this bitter news, Lewis added that the blame for fourth-quarter losses was going to land squarely in Thain’s lap. End of conversation. This wasn’t a negotiation; it was a firing. The meeting was over in fifteen minutes.

  Thain was shaken to the core. They were only twenty-two days into the merger, and he had agreed to stay because he was convinced he could make a positive difference for the two companies, especially during the transition process. Fourth-quarter results aside, he was already seeing good results in January. He couldn’t believe that Lewis was firing him just as they were getting started.

  The minute the news broke, I was on the phone trying to reach Thain. I was eager to hear his side of the story. Finally, that weekend, as I was packing to leave for Davos, Switzerland, to cover the World Economic Forum, Thain returned my call. He agreed to do an on-air interview—his first—on Monday.

  As my plane crossed the ocean to Switzerland, I thought about the questions I would ask. I vividly recalled the critical weekend in September when the future of the financial system seemed to hang in the balance. I remembered thinking how courageous Thain was that weekend—stepping up and making a bold move to save his company. Was this just a clash of cultures? Was it a warning about the level of toxic assets still buried in the banks? Was it a story about Wall Street not getting it?

  “John,” I said, at the start of our interview, “Merrill paid out $4 billion in bonuses to Merrill’s top players. How can you justify losing $15 billion in a three-month period and still be paying out bonuses at a time when you were forced to sell to a larger player, and you were going to the government for needed capital? How do you justify paying out all of that money?”

  His answer was similar to what I had heard many times over from others on Wall Street. “If you don’t pay your best people, you will destroy your franchise. Those best people can get jobs other places, and they will leave. So the necessity to maintain the franchise is why you really have to pay some amount of bonuses, because, as you know, Wall Street people’s salaries tend to be relatively small. And their bonuses are the vast majority of their compensation for the year.” I knew that many listeners would find the explanation arrogant and tin-eared. Here was a company that had lost more than $15 billion in the fourth quarter, and Thain’s defense of bonuses in light of the company’s problems would not garner much support from the public.

  I also asked Thain about his expensive office renovation. At the very least, this was a public relations problem; at most, it betrayed a gross insensitivity.

  “It was an environment where jobs were being cut and salaries were being cut,” I said. “And the firm was reporting all of these losses. Did it occur to you at some point over the process to say, ‘This is probably not the best judgment. I better put this off’?” I asked.

  He began defensively. “Well, first of all, this was a year ago or actually a little bit more than a year ago, in a very different economic environment, and a very different outlook for Merrill and the financial services industry. It was my office. It was two conference rooms and it was a reception area. But it is clear to me in today’s world that it was a mistake. I apologize for spending that money on those things. And I will make it right. I will reimburse the company for all of those costs.”

  I was curious, though, as were many people, about what was so wrong with former Merrill Lynch CEO Stan O’Neal’s office that such an expensive renovation would be necessary. His explanation was unconvincing, and he squirmed as he tried to explain that O’Neal’s office was outside the standard set by Merrill. “It really would have been very difficult for me to use it in the form that it was in.” He seemed to be implying that the place was a dump. Who believed that? Actually, I later learned that O’Neal was much more egregious in his office spending, insisting on having clear glass walls and a very modern decor with white and glass everywhere. It seemed to me he’d gotten off easy, considering the level of debt and lavish spending on his watch.

  Thain was clearly embarrassed by the situation. “With twenty-twenty hindsight, it was a mistake,” he said. “I’m sorry that I did that. And I intend to fully reimburse the company.”

  But it was too late for Thain to fully make amends. The story would tarnish him, although he would reemerge before long as the CEO of troubled lender CIT Group.

  I was also curious about Ken Lewis’s role in a deal that was looking more problematic by the day. Although the sale of Merrill Lynch to Bank of America had been considered good news in the midst of a catastrophic weekend, many people were troubled by the rapidity of the agreement and wondered how Lewis could possibly have done due diligence in the space of forty-eight hours. I also wondered about the personal dynamic between two very strong-willed, ambitious men whose cultural differences ran deep. I’d heard that since the acquisition, Thain avoided Charlotte whenever possible, and the two men spent little time getting their management and future plans in sync. One glaring example: Thain had no idea that Lewis had tried to pull out of the deal on the MAC clause in December.

  On February 10, I caught up with Lewis in Washington, D.C., when he joined me for an interview on CNBC. I put it to him bluntly. “Clearly, the losses at Merrill have been stunning: $15 billion in the fourth quarter alone. Once you saw the losses piling up, how did it happen that you went forward? Investors want to know, what were you thinking when you allowed this deal to go through?”

  Lewis was uncharacteristically edgy. He reiterated that the Treasury and the Fed urged him to complete the deal, saying, “Too much damage will be done to the industry, to the country, and to you” if the deal didn’t go through. “And so it got to be in some ways, enlightened self-interest. Because we’re so inextricably tied in with the U.S. economy, and have such large market shares, that what’s good for America is good for Bank of America.”

  “But did you feel strong-armed?” I asked. “Did they say, ‘Look, we may take you out of a job’?”

  “I promise you, that was not a factor,” he said firmly. “This was about their advice. And then, as we reflected on it, we agreed it was the right thing to do.”

  And why, I wondered, had he fired Thain?

  Lewis definitely didn’t want to talk about it. “I almost feel like that’s ancient history,” he said of the firing, which was only three weeks old. He had already moved on and had effectively thrown Thain under the bus.

  But Thain’s ouster was hardly the end of the story. Bank of America’s purchase of Merrill Lynch continued to haunt Lewis. At the end of 2009, Lewis was forced out of Bank of America, a breathtaking fall from grace. Two months later, on February 4, 2010, New York attorney general (and soon-to-be governor of New York) Andrew Cuomo filed fraud charges against him, stating that he had hidden the scope of Merrill’s problems. “We believe the bank management understated the Merrill Lynch losses to shareholders,” Cuomo said. “Then they overstated their ability to terminate their agreement to secure $20 billion of TARP money, and that is just a fraud. Bank of America and its officials defrauded the government and the taxpayers at a very difficult time. This was an arrogant scheme hatched by the bank’s top executives who believed they could play by their own set of rules. In the end, they committed an enormous fraud, and American taxpayers ended up paying billions for Bank of America’s misdeeds.” Lewis hired attorney Mary Jo White, now a private lawyer whose former job for nine years was as a U.S. attorney for the Southern District of New York, litigating white-collar crime from the other side. White stated, “There is not a shred of objective evid
ence to support the allegations by the attorney general.”

  Regardless of the legal outcome, the deal that had so many people praising the team of Lewis and Thain in 2008 had become a giant black mark for both of them. Lewis might well have wondered how it all happened. Hadn’t he been the good guy, the dignified Southern banker who eschewed Wall Street’s culture of greed? Hadn’t he rescued Merrill?

  Lewis was quickly replaced by Brian Moynihan, the fifty-year-old lawyer who had been serving as Merrill’s CEO. I caught up with Moynihan on the Bank of America trading floor, and he cheerfully told me how the transfer of power came down. “I was in Charlotte for other reasons, and they said, ‘You need to stay around.’ And the board has their meeting and someone came down and said, ‘They need you to come upstairs.’ I walked in, and the board greeted me with a round of applause, and gave me a hug and said, ‘You’re the new CEO.’ I said that was terrific.”

  He smiled broadly and I returned it. “That was the easy part,” I said. “Now the hard part begins.” It was true. With the acquisition fever of recent years, Bank of America had joined Citigroup on the poster for “too big to fail” banks, and that was not a good place to be. The deal that would hurt most—Countrywide Financial.

  “Can you categorically say no more acquisitions for the near term?” I asked Moynihan, knowing what his answer would be. With Lewis gone, no one at a bank built on a long string of mergers had much stomach for expansion. Instead, the new ideal was lean and mean. Even worse, the string of foreclosures and mortgages gone bad would haunt Bank of America for years to come.

  As the months rolled on, many began to talk about the fact that things were not as they had seemed that weekend in September, when the crisis appeared to revolve around the fate of a single investment firm, Lehman Brothers. Truths were revealed in a trickle, not a flood, and everyone was too focused on surviving to contemplate the larger picture.