Government Sets a Dangerous Precedent with Lehman

Here's how I see the problem:

• The Fed and Treasury have set precedents of, for all practical purposes, wiping out shareholders when providing what they consider 'taxpayer money at risk'.
• With FNMA (FNM), the Treasury provided funding on their own initiative without consent of management.

Therefore, while justified or not, this means the government can, on its own, decide to provide 'taxpayer money' AND eliminate all shareholder value.

This creates a serious risk for any shareholder for ANY business.

For an extreme example, the Treasury could decide unilaterally, that ANY corporation (including, for the strongest example, GE (GE)) needs a Treasury guarantee to be sure it can fund itself and won't fail.

And any such action could carry with it eliminating any/all shareholder value.

This is the risk to Lehman (LEH) shareholders.

Lehman may be perfectly able to function at some level without the need of new capital to survive.

But markets must now discount that possibility that the Treasury or Fed could decide Lehman's counterparty risk poses sufficient systemic risk to justify intervention with 'taxpayer money' at risk, which would carry with it the elimination of all shareholder value.

The means the risk to shareholders from government intervention is much higher than the risk of bankruptcy or any other form of liquidation.

There was no economic reason for the Treasury to take 79.9% of the housing agencies' capital. 'Taxpayer money' was already as senior as the Treasury wanted it, and any funds added by Treasury also carried any type of interest and various other payments the Treasury desired.

All that wiping out most of the residual value for shareholders did was add a new element of catastrophic risk for all shareholders.

So when a stock like Lehman goes down, which increases the perception of risk of government intervention, the risk of shareholder value going to zero due to government intervention increases as well.

Not my first choice of institutional structure.

Disclosure: Long Lehman.

Comments

[alpha pig:]

Nailed it on the head. The nature of the gov't interventions in Bear, Fannie, and Freddie has created unintended consequences and made it impossible for a firm with a whiff of problems to raise capital. The ripple effects could be devastating unless the cascade can be reversed.

Who's next? AIG, MER, even C could be vulnerable to a bear raid.

2008 Sep 14 09:42 AM

[jabez:]

Exactly. And all that is required to put companies in jeopardy is that market cap be reduced sharply.

A scary part for me is that I am not seeing this aspect discussed in mainstream media.

2008 Sep 14 10:01 AM

[corellian98:]

Question is....and this is how it starts....who is the shorts next target? If a company in trouble had enough time to reorg....then the odds increase that a fix can be found. When the shorts attack a stock, there is no time left. We've all seen it.....the shorts can push a company to it's knees in two days. It's no wonder these companies are not accessing the fed window. Any little weakness and bang your dead.

2008 Sep 14 10:44 AM

[spider42000:]

The shareholders will sue and the government will pay. Takeover isn't then end of the story. Sahreholders will do better at the Supreme Court than they would have in Bankruptcy court. It is really a win for the lawyers and shareholders over time at the expense of the taxpayers.

2008 Sep 14 10:55 AM

[Steven Hansen:]

did i miss something? fannie, feddie, lehman, et al made some pretty fundamental risk errors and were caught with their pants down when the tide reversed. whether the government intervened or not - the shareholders were going to lose.

you might as well read about the great depressions of the 1930's now where the government intervened in the wrong ways and reacted too late to events.

2008 Sep 15 04:53 AM

[RLLH:]

I don't recall Fannie Mae complaining about the taxpayers counter signing for them in all their glory years. If financial firms were willing to play poker all those years with our money, then let them not complain when we no longer are willing to finance them. What a nerve for anyone to complain about them being forced out of business when they are required to use their own capital instead of ours.

2008 Sep 15 04:42 PM