Could Lehman's Failure Cause a Systemic Meltdown? 22 comments
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What are the risks of a systemic crash if Lehman Brothers (LEH) is allowed to fail? As Sudeep Reddy says, Lehman is just as big and interconnected as Bear Stearns was:
Mr. Bernanke, testifying before Congress in July, outlined his three reasons for stepping in with Bear Stearns: One was the size of the firm and its implications for broader financial markets. Another was that financial infrastructure was not strong enough to protect against a failure in derivatives markets. The third was "extremely fragile" financial conditions.
Supporting the case for Fed action with Lehman: Most of those issues aren't resolved today.
Yet the situation with Lehman is clearly not a re-run of Bear. Why not? That's harder to answer. The main reason is that the Lehman unravelling has taken so long that everybody pretty much expects it to fail, at this point -- and in the markets, if something is expected (a/k/a priced in), there's generally little likelihood much chaos when it actually happens.
On the other hand, I suspect that although a bank failure might be priced in to the LEH share price, the same expectations have yet to percolate fully through the rest of the financial system. It's easy for a stock market investor to anticipate a Lehman collapse: you just sell the shares. But what if you're a widget manufacturer in Iowa whose treasurer has been doing a lot of business with Lehman's derivative desk? Those positions are much harder to unwind. If you're expecting a big payment next month on the interest-rate swap which Lehman wrote for you, what are you meant to do?
I would hope and expect that the New York Fed will somehow manage to backstop most of Lehman's obligations to its counterparties, but given that nobody knows anything, it's impossible to say for sure. There should be some way to keep the pure trading book functioning smoothly even if people who lent money directly to Lehman are forced to take a haircut. But it would be much easier for a big commercial bank to take over the entire Lehman Brothers operation -- Bank of America (BAC) seems to be the most likely contender, according to the WSJ.
Remember that when BofA took over Countrywide (CFC), it was careful not to guarantee Countrywide's debt. It might be able to do something similar with Lehman: buy the bank, absorb its employees and traders, but then allow the subsidiary to default if it turns out to be insolvent.
That might be a desirable outcome from the point of view of the New York Fed, but I can't see Ken Lewis being particularly keen on taking the reputation risk associated with such a move: No banker wants to default on his obligations, ever. It'll be interesting to see whether Tim Geithner comes up with a clever way of twisting his arm.
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This article has 22 comments:
Think about that for a second, the exposures are so great that it would bring down GS.
If you think the government is going to allow that to happen, think again. However, equity holders will likely be wiped out since the Fed./Treasury is rumored to be involved. Sad case.
LEH is a great franchise and Wall Street will not let it fail for obvious systemic reasons, nor will it let it go the way of BSC. If it did, when will this run on the bank end? Who will the shorts crush next? MER? MS? GS?!?
I am convinced that LEH will be snapped up by a large financial institutions for $20-25/share by Sunday. When this deal is announced LEH shares will run up to $35 in a massive short covering wave. This will send a clear signal that the financial sector isn’t fair game.
I would like this to just end the way it should, let the bank wind down and the chips fall where they must. I could not disagree with Felix more that the Fed should take any actions. How much more of my money does the government have to steal? I am already in the mortgage business thanks to these clowns, I don't want to be in the Investment Banking one right now.
These criminals create a bubble for five years, steal our money and then expect us to "backstop/cover up" their theft. I have no problem working out the counterparty issues but debt should get exactly what is left over after asset sales, not a penny more.
We already know that. Fair game implies no government manipulation and in a free market we just can't have that kind of non sense
Treasury and the SEC need to clean up the CDS business and make it open and transparent. Because it is insurance, insurable interest should be required to eliminate gambling or the moral hazard associated with short-sellers attempting to create CDS losses.
If Lehman can't find a buyer or protector in the private sector the government should prop it up and then clean up the market - both the CDS mess and the short and distort manipulation, the rumor-mongering and the attack publicity.
Let's burn books while we're at it. Darn those inconvenient truths
The thing I hate most about short selling is that it allows all of these apologists to blame the practice, which I don't like by the way,
for bringing the whole financial system to the edge of the abyss. Even cheerleader number one, Mr Cramer has admitted ( I heard him say it) that he was deceived by Lehman into believing that short selling was at the seat of their problems. Reading a lot of these posts, it is little wonder America is heading down the gurgler at light speed. I just wonder how long the PPT can keep this teetering sham on two legs.
can you tell me how to make that sketch picture of yours. i want to make mine also. thanks!
He most likely didn't sketch that picture. He probably just took a regular photo and used a photo editor (there are many available) to apply that effect.
Who do you think has been benefiting most from naked short selling?
concur or not, sometimes the safety of the lehmans of the world is a priority if for no other reason than keeping it afloat keeps us all floating; the so-called big picture. it may serve and even amuse the merrills of the world to see one of its competitors die but it may not serve the efficient and profitable running of the economy. lest the other
finance-titans lose touch, basking in the cozy warmth of their schadenfreude, someone may rudely remind them that they may be next.
SpinCo is nothing more than spin. How does Dick plan to capitalize this new company? Stock offerings? Who would buy into a business that everyone knows is losing a billion a month? Not me. Use the money they get for selling a stake in Neuberger Berman? Lets say they get 5 Billion for a 50% stake, that wouldn't cover 6 months of losses, and they would be giving up 50% of what they have as profits now.
The dogs are now on MER, WB, and WM because they have exactly the same issues with bad paper. Once again not a short sale problem, it's a risk and greed issue created by management.
As for the biggest criminal in the mess ? It is congress, they encouraged the mortgage people to lend to Mr 7/11 and took kickbacks, (er I mean political contributions) from the Wall Street types who made millions in bonuses.
The US has the most dishonest, corrupt government in the world. That includes both parties.
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