September 16, 2008
By STEPHEN LABATON
WASHINGTON — In another unnerving day for Wall Street, investors suffered their worst losses since the terrorist attacks of 2001, and government officials raced to prevent the financial crisis from spreading.
Trading opened sharply down Monday morning, and the mood later turned even gloomier, despite efforts by President Bush and Treasury Secretary Henry M. Paulson Jr., in separate appearances at the White House, to reassure markets that Wall Street’s deepening problems would not weaken an already anemic economy.
Amid worries that the bankruptcy of Lehman Brothers and the sale of Merrill Lynch over the weekend might not be enough to stop the downward spiral, stocks fell sharply in the last half hour of trading. By the end of the day, the Dow Jones industrial average had dropped 504.48 points, or 4.4 percent, as a record volume of more than 8 billion shares traded hands on the New York Stock Exchange. It was the biggest decline since Sept. 17, 2001 — the day the index reopened after the 9/11 terrorist attacks — when it fell 7 percent, or 684.81 points.
A concern hanging over the market is the fate of other financial companies, most notably the American International Group, one of the world’s largest insurers. After the Fed rebuffed a request by the company for a $40 billion temporary loan, federal and state officials worked on Monday to stabilize A.I.G., with the State of New York relaxing rules to allow the company to borrow as much as $20 billion in much-needed cash, while the New York Federal Reserve Bank was engaged in talks with JPMorgan Chase and Goldman Sachs on a $75 billion loan for the insurer.
Market participants fear that without a cash infusion for A.I.G., losses on its financial insurance contracts could cause a ripple effect that would damage other companies. Shares of A.I.G., already battered in recent weeks, plunged another 60 percent on Monday, closing at $4.76. Last year, the company had traded as high as $72.
The stock market’s descent in the closing minutes Monday could set the stage for more fallout on Tuesday, when Asian markets that were closed for a holiday the day before will reopen. In response to the market turmoil, officials at the Federal Reserve were considering lowering interest rates at the regularly scheduled meeting on Tuesday of the Open Market Committee, which sets monetary policy. Such a move would follow a pattern — the Fed lowered rates after the Sept. 11 attacks and after the crash of 1987 to help calm the markets — though a rate cut is far from a certainty.
The Fed also took steps to ease rules separating banks and investment banks, a move intended to make it easier for healthy companies on Wall Street, like Goldman Sachs, to buy up troubled institutions.
Wall Street was still reeling on Monday from a tumultuous weekend in which Treasury and Fed officials told top bank executives that they needed to work together to resolve the financial industry’s problems, because the government did not intend to bail out Lehman, a decision that led to Lehman’s bankruptcy filing.
Dispirited employees of Lehman arrived at work in Midtown Manhattan with little to do, with many spending their time polishing their résumés and sharing dark humor. Traders at other firms arrived at work before dawn to brace themselves for a heavy day and continued to limit their losses by unwinding their trading positions with Lehman. Nervous investors around the nation logged onto their investment accounts on the Internet to see what toll the financial tumult had taken on retirement and college-education funds.
Workers at Merrill Lynch, stunned by the respected institution’s demise as an independent brokerage firm, came to work after learning about the sale on Sunday of the company to Bank of America. While the acquisition may have saved Merrill from what some worried would be a fate similar to Lehman’s, it will come at a cost to Merrill workers. Bank of America said it planned to wring $7 billion in costs from Merrill over four years from the consolidation, a plan that could result in thousands of layoffs. At a news conference on Monday, Kenneth D. Lewis, Bank of America’s chairman, would not discuss job losses, but he repeatedly praised Merrill’s 16,000 financial advisers, calling them “the crown jewel of the company.”
Merrill employees who are laid off will have plenty of company, as many financial workers have lost jobs in the last year, leaving many without a paycheck. Appearing briefly in the morning before reporters in the Rose Garden, Mr. Bush characterized the recent events as short-term market adjustments that would have a limited effect on an otherwise sound economy.
“I know Americans are concerned about the adjustments that are taking place in our financial markets,” Mr. Bush said at a ceremony to welcome the president of Ghana.
He added: “In the short run, adjustments in the financial markets can be painful — both for the people concerned about their investments, and for the employees of the affected firms. In the long run, I’m confident that our capital markets are flexible and resilient, and can deal with these adjustments.”
But, seeking safer places for their money, investors drove down the yields of Treasury notes. Widening spreads in the credit market indicated deep skepticism about mortgage-backed securities. The price of crude oil dropped more than $5 a barrel to close to at $95.71, as investors seemed to conclude that an economic decline would cause a significant decrease in the demand for energy.
A senior administration official, recounting the fall of Lehman, said that for weeks Mr. Paulson had been pressing Richard S. Fuld Jr., the company’s chief executive, to sell the company, but that ultimately no one in the market wanted it because of billions of dollars in bad investments the company had made in subprime mortgages and real estate. They said that Mr. Paulson told Mr. Fuld after the company reported dreadful second-quarter earnings that Lehman had to be sold or it would not survive.
The official said that, several weeks ago, Mr. Paulson had a list in his mind of major institutions that might not be able to resolve their huge investments in troubled real estate and that the list consisted of Fannie Mae, Freddie Mac, Lehman Brothers, Merrill Lynch and Washington Mutual. The official said that Mr. Paulson also decided that it was paramount to first resolve the problems at Fannie Mae and Freddie Mac, the two huge mortgage finance companies, before turning to the others. In addition to A.I.G., the difficulties of Washington Mutual, the nation’s largest savings and loan, remain unresolved. On Monday, the shares of Washington Mutual closed down nearly 27 percent, to $2.
Mr. Paulson concluded that the financial system could survive the collapse of Lehman, which has shown signs of weakness for months.
The rapid deterioration of Bear Stearns, in contrast, took top officials by surprise last March. And Fannie and Freddie are government-created companies that are simply too large to fail — together they own or guarantee nearly half of the nation’s residential mortgages.
As throughout most of the year, Mr. Bush and the White House left most of the details about the crisis to Mr. Paulson, who told reporters at a White House briefing that the problems in the housing markets at the heart of the financial crisis would take months to resolve themselves.
“I believe that there is a reasonable chance that the biggest part of that housing correction can be behind us in a number of months,” Mr. Paulson said. “I’m not saying two or three months, but in months as opposed to years.”
Mr. Paulson sought to distinguish the government’s decision to provide financial assistance to Bear Stearns last March, as well as to rescue Fannie Mae and Freddie Mac last week, from its rejection of aid requests from Lehman Brothers and A.I.G.
“The situation in March and the situation and the facts around Bear Stearns were very, very different to the situation we are looking at here in September,” he said. “I never once considered that it was appropriate to put taxpayer money on the line in resolving Lehman Brothers.” He called the discussions on assisting A.I.G. “a private sector effort.”
Still, Mr. Paulson did not reject any future Washington bailouts.
Crash! Shares tumble as Lehman Brothers collapses and fears grow for AIG
By Stephen Foley in New York
Tuesday, 16 September 2008
A global banking crisis was last night threatening to spiral out of control, and frantic US officials were locked in talks to save one of the world's biggest insurance companies just a day after they let one of its most powerful investment banks go to the wall.
Emergency talks on the future of AIG, which has operations across the globe and is deeply enmeshed in the world's financial markets, continued all day with no resolution, causing panic selling on the stock market.
Investors were already reeling from the collapse of Lehman Brothers on Sunday night and the fire sale of its bigger rival, Merrill Lynch, events which will reshape the finance industry forever. Images of Lehman employees in New York and London leaving buildings yesterday with belongings packed in cardboard boxes may become a defining image of the credit crisis.
Lehman employs 4,500 people in London and 20,000 more around the world, and the human cost of its bankruptcy was the first and easiest to measure. Many employees have most of their wealth tied up in its shares, which are now worthless.
But there are other costs from the past four days, and the reckoning has only just begun. The FTSE 100 collapsed by 4 per cent yesterday. And as panic selling spread during the afternoon on Wall Street, the Dow Jones Industrial Average of leading US shares ended down over 500 points, setting up for another weak opening in London this morning. AIG – which sponsors Manchester United football club – was pleading for $40bn in US government help to stave of its collapse, and advisers were working on emergency assets sales.
America's central bank, the Federal Reserve, was pressing for Wall Street firms to make bridging loans available, rather than providing government money. The company's regulator in New York said AIG would be allowed to dip into supposedly ring-fenced funds to reach $20bn of extra cash, if necessary.
Meanwhile, investors were still absorbing the news that Merrill Lynch, which employs 60,000 people, is no longer an independent company, after an emergency takeover by Bank of America.
The implosion of some of the most powerful financial firms in the world is the culmination of over a year of turmoil in the credit markets, turmoil that has its roots in the collapse of the US housing market.
Many economists fear that, without a resolution soon, the global economy could be sent into a deep recession. The dollar tumbled in value yesterday and the oil price skidded below $100 a barrel, both signs that traders fear an economic slowdown.
The City of London bore the brunt of the storm yesterday, as bankers braced for more job cuts, not just at the firms directly affected by the weekend meltdown but across the industry, which must now beginning shrinking dramatically after years of excess. There was near-panic trading in shares of HBOS, the UK banking group which owns Halifax, the country's largest mortgage lender, which lost 35 per cent of its value at the worst point of the day. It ended down 18 per cent, and Barclays and Royal Bank of Scotland also posted double-digit percentage falls. In the US, Ken Lewis, head of Bank of America, said he thought that up to half of the country's 9,000 banks would ultimately go under or be taken over.
The problems in the derivatives markets could be even larger. Lehman's bankruptcy triggered a scramble by traders on both sides of the Atlantic to unwind an estimated $700bn of trading positions, something never tried on such a scale. The growth of the derivatives market has been so fast and so vast that Wall Street has not had time to invent a central trading mechanism and the whole edifice has gone largely unregulated.
In co-ordinated moves, the Bank of England and the European Central Bank injected a combined £28bn of new lending into the markets to help ease any bottlenecks. The US Federal Reserve has also relaxed its rules for lending, and ten Wall Street banks said on Sunday night they were creating a $70bn fund to make temporary loans to institutions in difficulty.
Out on the US presidential election trail, Barack Obama blamed eight years of lax regulatory oversight for "the most serious financial crisis since the Great Depression". His rival, John McCain, said these were "frightening times" and vowed "to clean up Wall Street". President George Bush, meanwhile, called for calm, saying the economy was strong enough to withstand "adjustments" on Wall Street.
Hank Paulson, the US Treasury Secretary, blamed Wall Street for bringing the crisis on itself, and he called for a sweeping overhaul of financial regulation to prevent similar threats to global stability in the future.
What the Lehman collapse means for us all
James Daley
Tuesday, 16 September 2008
Borrowers
The collapse of Lehman Brothers is confirmation that the credit crunch is far from over. Although mortgage rates have been coming down, there is now every chance they will start to rise again as banks grow nervous about lending to each other once more.
Yesterday, the overnight Libor rate – the rate at which banks lend to each other – jumped from just over 5 per cent to almost 5.5 per cent, having fallen all the way from highs of about 6.75 per cent last summer. Mortgage rates may well start to move in the same direction before the month is out. So, if you're thinking about getting a home loan any time soon, it may be worth getting your application in as soon as possible to secure the best rates.
You are also likely to need a good credit rating and a big deposit to get the best deals. While lenders such as Nationwide and Abbey will lend up to 95 per cent of a property's value, they will charge you much more.
Savers
Lehman Brothers is an investment bank, whose clients are institutions, not individuals. However, its collapse shows that the banking sector as a whole is still vulnerable, and it is not impossible that another retail bank finds itself in the situation that Northern Rock did. If another high-street bank went bust, savers would have the first £35,000 of their deposits guaranteed, but beyond this they could lose everything. Hence, if you're sitting on a larger amount of savings, you might want to consider spreading it around a few different banks – or putting it with Northern Rock or National Savings & Investments, both of which are fully backed by the HM Treasury. The good news for savers is that nervousness in the banking sector may keep savings rates high. As long as banks are struggling to raise new money from each other, they are sure to continue offering great savings rates, to try to boost their capital positions.
Investors
For the small number of British individuals that held shares in Lehman Brothers, their investment will now be all but worthless.
For most people, however, the effects of Lehman's collapse will be felt in a less direct manner. Global stock markets fell sharply in reaction to the news yesterday. If you are investing for the long term, make sure your portfolio is well diversified, and sit out the storm. If the market continues to fall in the short term, you can take comfort that by continuing to make your monthly contributions, you are buying more shares for your money.
If you are investing for the short term, then hopefully you don't have all your money invested in equities. If you do, it may be worth visiting a financial adviser to help provide some diversity for your portfolio. To find an adviser in your area, visit www.unbiased.co.uk.
Economy
Lehman Brothers employs some 25,000 staff worldwide, of which about 5,000 are in the UK. Most if not all of these will be out of a job after yesterday. On a wider scale, the collapse of another bank will create a further drain on liquidity in the capital markets, meaning that banks remain reluctant to lend to individuals. Britain's economy had already ground to a halt by the end of the second quarter this year, and looks increasingly likely to record its first quarter of negative growth in 18 years between July and the end of this month. The financial services sector accounts for about 10 to 15 per cent of GDP and, as the collapse of Lehman Brothers has shown, this sector is shrinking rapidly.
House prices
A prolongation of the credit crunch can only mean more bad news for house prices. Lehman's collapse is certain to reduce the amount of capital available to banks, which in turn will reduce the amount of money which lenders are willing to advance to UK homebuyers. Although house prices have fallen by about 10 per cent over the past year, the sharper drop in mortgage approvals since the start of the year would suggest this is only the beginning. Some economists are predicting that prices will fall by more than a third from the top of the market last year. Anyone needing a mortgage will continue to need a large deposit and a good credit history to get the best rates. Alas, the Chancellor's move to recently increase the 1 per cent stamp duty threshold from £125,000 to £175,000 is unlikely to be incentive enough to tempt first-time buyers back into a very difficult market. For those who bought a property close to the top of the market last year, and are now in negative equity, it may be tricky to secure a new mortgage deal when your current one expires.
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