Bank chief blames rumours and market fixers for Bear\'s collapse

Date: Friday, April 4, 2008
Author: Andrew Clark, The Guardian

The head of the crisis-hit investment bank Bear Stearns has blamed short sellers and market manipulators for spreading negative financial rumours to induce a collapse of the 85-year-old Wall Street institution.

Bear's chief executive, Alan Schwartz, told the senate's finance committee in Washington that his firm had been as well-capitalised as its rivals but it suffered an evaporation of confidence last month fuelled by falsehoods.

"As an observer of the markets, it looked like more than just fear," said Schwartz. "It looked like people wanted to induce a panic."

He told senators that he never dreamed a run on the bank could happen so quickly. Bear lost $10bn of liquidity in a single day, with its financial resources plummeting from $12.4bn to $2bn on March 13 as customers, trading partners and investors fled.

"The minute we got a fact out, a different set of rumours would start," said Schwartz, who testified that the "nature and pattern" of the damaging whispers made him suspicious they were being circulated deliberately. He urged regulators to investigate the debacle. "There are laws against market manipulation and there used to be laws against spreading rumours about banks," he said.

Bear, which employs 14,000 people, was rescued from bankruptcy through a hastily arranged takeover by rival bank JP Morgan, which only agreed to do the deal if the Federal Reserve stood behind the troubled bank's riskiest assets with $30bn of public money.

During a five-hour hearing on Capitol Hill, the securities and exchange commission's chairman, Christopher Cox, assured lawmakers that any allegations of market manipulation would be taken seriously.

"The SEC very aggressively pursues insider trading, market manipulation and the kinds of illegal naked short selling that have been very publicly alleged in this case," he said.

Several senators expressed unease about the use of taxpayers' funds to support Bear Stearns. Critics have suggested that Wall Street banks bear a share of the blame for the credit crunch because they took undue risks in packaging subprime mortgages.

Jim Bunning, a Republican from Kentucky, accused Federal Reserve chiefs of ignoring repeated red flags in the run-up to Bear's failure.

"How did we get to a point where the failure of one firm can bring us to the edge of collapse for the whole of our financial markets?" Bunning asked. "How did you let the entire financial system become so fragile that it could not tolerate one failure?"

The New York Fed's president, Timothy Geithner, said the crisis had taken years to develop. "What produced this is a very complicated mixture of factors. I don't think anyone fully understands it yet."

Fed officials told the committee a substantial increase in risk-taking, the invention of elaborate derivatives and a deterioration in underwriting standards contributed to the financial system's brittle condition.

Geithner said regulators tried to crack down on the problem but added: "I'm not claiming people were wise and all-knowing or that we did everything that could have been done."

The Fed has argued that allowing Bear to go out of business would have caused a disastrous knock-on impact by sapping confidence in the banking system throughout the economy.

JP Morgan's chairman, Jamie Dimon, said it would have been too risky for his firm to buy Bear without the Fed's backing: "This wasn't a negotiating position. It was the plain truth."

He told the senators that a bankruptcy of Bear could have sparked a chain reaction of defaults.

"It could have made it harder for homebuyers to get mortgages, harder for municipalities to get the funds they need to build schools and hospitals and harder for students who need loans to pay tuition," said Dimon.

During round-the-clock negotiations to secure the buyout of Bear, the US Treasury intervened to impress upon JP Morgan the importance of keeping down the takeover price to avoid the "moral hazard" of rewarding investors in a failed enterprise. "There was a view that the price should not be very high, that it should be towards the low end," said Robert Steel, the treasury under-secretary for domestic finance.This strategy backfired because JP Morgan's initial deal to buy Bear at $2 per share aroused such outrage among shareholders that it was raised to $10 a week later.

Employees at Bear are still waiting to hear whether or not they have a future at the firm. Analysts have suggested that as many as 8,000 may lose their jobs."

Number crunching

$30bn The sum the SEC and the FED had to publicly guarantee to save the bank

$2 The amount per share JP Morgan originally offered; it caused outrage

$10 JP Morgan's per-share offer made a week later after shareholder protest