Bear Stearns Buyout: Don't Panic - Initial Reactions Look Overdone

Over the weekend, the Fed opened up the discount window to all the investment banks to ensure that what killed the Bear would not also cause mass extinction on Wall Street. At the same time, the Fed promised to keep the offer open for at least six months. The Fed also cut the primary credit or discount rate a quarter point to close the spread between it and the fed funds rate. I seem to recall myself and others recommending the closing of that spread a while back...

To further ensure that all of New York's Financial District did not commit mass suicide today, the Fed is also offering backstop to JPMorgan's (NYSE: JPM) bid for Bear Stearns (NYSE: BSC) in the sum of $30 billion to cover its illiquid assets. The pain will be felt by all Bear Stearns' shareholders (or rather sh*tholders), which may be 30% composed of BSC's employees, according to Barron's. Expect plenty of lawsuits as these people watched their stock crash from over $70 down to $2 in ten days. This is going to prove reminiscent to Worldcom for some folks.

Call in PETA!

I spoke with an anonymous JP Morgan representative over the weekend, and according to her, what happened to Bear was just plain tragic. The $17 billion or so of cash on the company's balance sheet disappeared almost overnight as the leverage it had employed proved in hard core fashion why leverage increases risk. An ugly rumor got started (I have some ideas here) that Bear was in trouble. All of a sudden, nobody wanted to take the other side of Bear's trades, or risk any capital tied in any way to Bear. Or, maybe Bear really was in trouble.

Bear Stearns' new building is worth roughly $1.2 to $1.5 billion alone, according to Bloomberg and Barron's, respectively, so how the hell do you buy the entire firm for $240 million? Well, you're taking on Bear's risk, and that risk is poison apparently. Still, Big Brother Fed has got your back so poison might not taste too bad at all.

Global markets tanked today as a result of concern for the most important economy in the world. Gold jumped $30 early this morning (now just $16 higher) and the dollar fell to a record low against the euro of 1.59 (more recently about 1.58). Lehman Brothers (NYSE: LEH) looked as if it would be pressured in the premarket.

Don't panic, folks! Lehman Brothers is now on death watch, but probably should not be. Regarding the market, a lot depends on what you folks do now. If you all rush to your computers and sell sell sell, then we'll crash today no matter what the Fed does. But, if the Fed plays its hand in full this morning, and goes through with its FOMC move that probably would have occurred tomorrow, instead acting today before the market open, then maybe it can once again breath life into this struggling patient. The fact is that initial reactions are already looking overdone. It's a good thing that this all played out well enough ahead of the market open for cooler heads to prevail, we hope...

Comments

[sammyg123]

If you have cash in large, heavily leveraged brokerage firms, do yourself a favor and move it out - especially if you have money in Lehman. They are over-leveraged and no matter what they say about how strong their balance sheet is, it's not. I wonder if they will tell the truth about their exposure to Carlyle Group, which fell right before Bear Stearns failed?

[buyitcheap]

Jim Rogers and Grantham, spot on.

[User 164718]

It's amazing to me to see this happen, JPM taking on BSC's risk? No the feds are taking the risk, no wait a minute we are taking the damn risk. As far as I'm concerned 2 dollars and 0 are the same thing. The company should have gone bankrupt, the markets should have crashed, and it will be the end of that story. The markets correct themselves.