June 27, 2008 10:39AM
New Details from Fed Minutes on Bear Stearns Rescue
By Elizabeth MacDonald
Minutes from a high-stakes Federal Reserve meeting on the emergency rescue of Bear Stearns are out this morning, and they are revealing.
They provide fresh detail on what went on behind the scenes of the Fed-orchestrated shotgun wedding between JPMorgan Chase and Bear Stearns, including fears of a “contagion” spreading through the market if Bear Stearns was allowed to collapse.
The contagion here refers to the fact that Bear Stearns operated one of the country’s largest clearing operations, and a collapse would have cascaded through the system, causing calamity in counterparty trades.
Let’s recap. Bear Stearns had $389b in assets and $387 bn in liabilities at the time it went belly-up. It had $11.9 bn in shareholder equity, or net worth, to support that book of business.
The bonds on its books were getting crushed by the subprime crisis, so much so that two of Bear’s own hedge funds went belly-up last July, with the two former hedge fund managers subsequently arrested for alleged securities fraud and conspiracy, among other things. A cash run on the bank leading up to its St. Patrick’s day rescue put Bear Stearns on the brink of bankruptcy.
JPMorgan Chase’s chairman and chief executive Jamie Dimon initially balked at the thought of his bank taking on Bear’s colossal balance sheet, and rejected a deal. “I tell people that buying a house is not the same as buying a house on fire,” Dimon testified before Congress later (Dimon sits on the board of governors of the New York Federal Reserve).
The Fed then stepped in with an initial $30b loan, and then JPMorgan agreed to buy Bear Stearns for $2 a share, or $236m. JPMorgan increased its offer to $10 a share a week later amid a revolt by the smaller firm’s shareholders. JPMorgan is now digesting Bear’s massive $360 bn balance sheet.
Back to the $30b loan JPMorgan got from the Fed to seal the deal, supported by Bear securities that the two sides say were valued, or marked to market, at $30b as of March 14.
The Fed came up with as novel a rescue as it could. Using a creative read of section 13A of the Federal Reserve Act, the New York Fed agreed to lend JPMorgan $30 bn over 10 years at a small 2.5% rate, a loan backed by a similar amount of Bear Stearns’ assets. Never before had the Fed taken on mortgage-backed securities as collateral. The Fed is now holding those assets to maturity and is not marking them to market, analysts note.
JP Morgan subsequently agreed to absorb the first $1b of losses on that $30b if the value of the assets backing its loan declines. Again, if that portfolio drops in value, JP takes the first $1b in losses. If the portfolio zeroes out, the Fed takes a $29b hit. The assets now sit in a Delaware limited liability company.
The Fed minutes show that JPMorgan “had requested assistance in financing a specific pool of assets that Bear Stearns had difficulty financing in the market” and that JPMorgan Chase “believed added significant uncertainty to the level of risk it would assume” in its acquisition of Bear Stearns.
To seal the deal, the minutes show that the Fed gave JPMorgan Chase, among other things, an 18-month exemption from the Fed’s statutes requiring banks to hold a certain amount of capital on its books against its risk-weighted assets. Banks also must adhere to international debt to capital ratios under the Basel accords. The capital ratio is the percentage of a bank’s capital to its risk-weighted assets.
The Fed let JPMorgan “exclude the assets and exposures of Bear Stearns” from its risk-weighted assets for purposes of applying the risk-based capital requirements” at the bank. The Fed also let JPMorgan “exclude the assets of Bear Stearns from the denominator of its tier 1 leverage capital ratio” requirements, noting that “each exemption would be reduced over time.”
The relaxation of the standards was necessary to stop a disaster the Fed says it saw coming if Bear went under.
Also, “by agreeing to lend against a portfolio of securities, we reduced the risk that those assets would be liquidated quickly, exacerbating already fragile conditions in the markets,” New York Federal Reserve Bank president Timothy Geithner testified before Congress in defending the deal.
A fire sale would have created chaos in an already crazy market.
Now the debate is just what is in that $30b pool of assets, given that the Fed is taking on this credit at a time when the government is already levered to the hilt, what with what is going on at Fannie Mae and Freddie Mac. The New York Fed hired Black Rock, 49% owned by Merrill Lynch, to cherry pick the best assets off of Bear’s books to use as collateral. Both sides signed a confidentiality agreement covering those assets–-why tip your hand to the market and invite unwanted arbitrage?
Only broad descriptions are available. The Bear assets are collateralized mortgage obligations, the majority of which are obligations backed by the likes of Freddie Mac, as well as asset-backed securities with things like adjustable rate mortgages, as well as commercial mortgage-backed securities, collateralized bond obligations, and cash assets consisting of investment grade securities rated BBB- or higher.
But how sound is that $30b worth of collateral?
JP’s Dimon testified: “We could not and would not have assumed the substantial risks of acquiring Bear Stearns without the $30b facility provided by the Fed.”
That comment led Sen. Robert Menendez to ask: “JP Morgan would have never gotten involved [in the deal] but for your [the Fed's] guarantee” that it would swallow $29b in Bear’s assets and not hit up JPMorgan for other collateral if those Bear assets zero out. Menendez wondered, is that a vote of confidence in these assets?
And remember what Geithner said in testimony before Congress, in defending the central against criticisms that it should have opened its Fed window to investment banks, not just commercial banks, to help Bear Stearns survive. “We only allow sound institutions to borrow against collateral” at the Fed’s discount window, he testified, adding, “I would have been very uncomfortable lending to Bear given what we knew at that time.”
What suddenly turned Bear’s assets golden as collateral for the Fed’s $29b loan to JPMorgan, what turned those sows ears into silk purses over night?
Comment by Robert Canella
Jun 27th, 2008 at 12:50 pm
Wow…
This is enlightening…we see the FED backing with Taxpayer dollars a deal to save a private equity company…then the FED takes profits on the deal…Dimon saying we don’t think the collateral is worth anything at all. Nice deal!
Next we see the “Friends of Angelo” getting deals from Countrywide/ B of A then offering more tax payer guarantees to the banks thru the DODD/SHELBY morgtgage bill…sure wouldn’t want the banks to end up footing the bill for this mess!
By the time this is over, I am afraid our children’s children will be working ’till Christmas every year just to pay off the tax debts we are chalking up…gotta love those bankers and the FED!!!
At least some real American’s getting involved to get some attention to this non-sense. I understand there is a rally going on today (7/27) in Washington DC from a group called FED-UP USA… http://fedupusa.org
Comment by Diggy Zazz
Jun 27th, 2008 at 1:59 pm
This is legitimized robbery. We’ve heard the “too big to fail” argument for these rich-boy bailouts before. It’s the same swindle that Greenspan pulled to rescue Long Term Capital Management in the late ’90’s.
I love the way that the neocon Fed chiefs preach the gospel of laissez-faire capitalism until some of their own are in danger of missing out on their $40 million Xmas bonuses. Then, it’s big government to the rescue in a way that even th leftmost of liberals never envisioned.
Comment by DrZoidberg
Jun 27th, 2008 at 2:01 pm
Hope you put together a year in review book for Wall Street there Elizabeth MacDonald !
Will make for some great reading.
Maybe you could put together a quarterly review or something - that would be awesome.
This article reveals more than I understood about the behind the scenes on goings.
now, if you could get your hands on the New York Federal Reserve Bank’s behind the scenes ongoings in the spirit of Bear Stearns that are happening right now, THAT would be - well -FRBNY wouldn’t like that very much I suppose.
This kind of reporting is in the interest of every citizen I think.
I wonder who the next BS will be ?
Comment by beholder
Jun 27th, 2008 at 4:31 pm
you can not unstain something that was so much toxic, not even with 29b free tax payers $. I am eager to see how they plan to clean all that mess that their greed created. Ben bought them some time but not near enough and grim collector is coming with bill. The Truth is to black for all of us, in the previous period to much money went to money haven, and no FED’s mumbojumbo can resurected it. They can print as much as they want, but real money backed with real value assetes has just vaneshed and when oil baloon bursts (as next BS) the foundetion of this new age economy will be rocked. I think that old greek saying goes fromm nothing comes nothing…
Comment by DrZoidberg
Jun 27th, 2008 at 5:38 pm
Question to Elizabeth MacDonald…
Did you ever find Bear Stearns to be a heavy consumer of this ‘toxic waste’ as I think you put it accurately - regarding these resets that will start showing up in 2010 ? 2011 ?
I think the most responsible thing to do is that a task force be formed to track down this ‘toxic waste’ and prepare for the defaults - perhaps even with penalties extended BACK to who SENT the toxic waste loan products.
The FDIC as you point out says reset, and you say ‘default’ I tend to agree, why should anyone expect it won’t default ?
I think it would be foolish to NOT address the expected defaults coming. Legally ? perhaps there can be accountability through indictments - some to mine for more information, some prosecution. If an effort ISN’T made to aid in discovery as to who did what when (we know the why, at least my intuition says as to the why) ? I think we’ll have far more than just one or two investment banks/firms like Bear Stearns find themselves with more on sheet balances in red than not.
Maybe you can do some more pieces on what YOU think should or could be done to remedy these anticipated - not too far off in the future - write downs coming ?
I see innercitypress.org bring data together, and ‘basic’ observations as to questionable activity - but to date I haven’t found any other source than you that’s on this matter with such clarity. I hope you continue to get closer to the truth and share more insights backed with data.
Comment by DrZoidberg
Jul 1st, 2008 at 3:48 am
Off subject, catching up on the news yesterday from the site - Looks like Liz MacDonald hosted Cavuto - I just saw the segment on taxes with 401k’s - MacDonald says ‘We wantcha back on, you’re terrific’ - Hope FBN says that to MacDonald.
I wonder if this was a first on MacDonald hosting, either way, Fox might actually for once (in my view) hold up to fair and balanced if MacDonald is behind the desk. I do completely disagree on oil demand is the issue though for high oil futures, I think it’s more of the shape of the USD - AS does OPEC, and when you have every CEO of every US major oil corporation over in Saudi Arabia saying “No shortages here” - AND the Saudi’s saying, sure we’ll up output, but we have no buyers - I tend to think it’s not a demand issue. Neat theory on under the radar Chinese oil consumers but I think there would be actual buyers then that the Saudi’s say just aren’t there, under the radar or not if demand was issue on oil futures.
favorite slip ? “Tax Heist” over “hike”
favorite line “That pork wagon just rolled right over…”
it’s like the Natural, MacDonald kept hitting home runs.
Comment by DrZoidberg
Jul 1st, 2008 at 4:21 am
Going to post this here - because there isn’t anywhere else to post responses to MacDonald’s contributions to FBN.
But Liz and Muriel ? That should be a weekly followup ! I’d say for once, I witnessed 100% integrity from this network.
There you had two highly intelligent people seriously exploring the truth - period.
No hint of slant - there was no slant.
People want to understand, need to understand what the ‘big picture’ or 40,000 foot view is, and these two - Liz and Muriel brought a cathartic release on understanding what abuses of the market play into some of the loss we experience - that everyone experiences as a result of such foul play. Whether it’s people moving to London to borrow more - or sub prime creeping up out of zero - or low regulation on credit derivatives ?
I hope FBN does have Muriel on more. I’ve seen her comments before, but this particular chemistry with MacDonald leaves one with a sense that they can rely on the dialog, why ? because it is reliable. It’s responsible, and it’s accountable, why it’s actual candidacy for trust. Rare in TV media experiences.
Comment by DrZoidberg
Jul 1st, 2008 at 5:49 am
I think the hottest issue now is phony liquidity - and how markets moved over to global derivatives.
I think also another GREAT subject is the obfuscation of sub prime orinigators (I kept the typo)- or perhaps better viewed as the never ending destination for - what Liz MacDonald calls it ‘Toxic Waste’.
Lord of the Flies demonstrates children need regulation.
What I think people are starving for is some catharsis in understanding just how investment banks over-leveraged themselves, or got into trading ‘toxic waste’ as if it was anything OTHER than that.
I hope Ms. MacDonald covers this more in depth, there are is a lot of slant in many media presentations on this, FEW people that JUST want the clearest, most truthful data and perspective they can attain. The payoff for having and seeking integrity to me is that reality is all the more real ! Now, Wall Street investment firms discover how real these ‘numbers’ on paper passed around as ‘if’ they were worth something - are. I bet we see 400 billion min. in more write downs before the year is over.
Perhaps a good subject would be to distill the ‘write down’. On a citizen level, people don’t quite ‘get’ what it would mean for a person to declare a ‘write down’. It’s kind of 1 foot into bankruptcy I suppose. I need/want more insights !
Perhaps ‘write down’ as it’s said so casually now is the reciprocal of ‘re-fi’ in 2003, or the other side of the coin.
Comment by DrZoidberg
Jul 1st, 2008 at 5:51 am
I have a question also resulting from reading here.
If indeed starting in 2003, no money down, no interest payments (let’s add in no credit check and no job check) mortgages WERE issued ? and they were ?
I hate to say it - but looks to me like people have been living in nice, big 250k, 350k, 450k (did any jumbo’s go out on 5 yr ARM’s ? yikes) homes RENT FREE.
That furthers the distortion of the health of the economy.
If people have been living rent free in these homes, then that’s all the more it makes the economy look better over the last 5 years, that’s rent money or mortgage money that otherwise wouldn’t be contributing to consumer spending.
Did this mask a recession ?
just occurred to me.
Comment by DrZoidberg
Jul 1st, 2008 at 5:53 am
More so
if people have been living rent free for 5 years ?
in nice big 250k to 500k homes ?
No money down - No interest payments till 5 years later ?
I have only one question
and it’s a scary one.
Were they allowed to draw on home equity ?
Is there really a TWO times multiplier in this game of pinball ?
I use pinball borrowing from Jerzy Kosinski’s book Pinball where one reference to the title is made in the book ‘Pinball, you never know what’s going to happen next’.
is it possible that we not only see the loss of the home as a product - at 400k + depreciation ? BUT - another 400k in HELOC’s taken out on it ? My God.
Comment by DrZoidberg
Jul 1st, 2008 at 6:01 am
Gee
if I didn’t REACH for integrity, I suppose what? I should have given up software engineering, and starting in 2003 ? Just started - oh my - what if people were out there getting MORE than one home !
with no money down.
and - augh ! what if they then drew on home equity.
I wonder if that happened… That turns this entire no money down CountryWide offering into one big swindel - providing you knew how to play the game.
Augh !
Heya Liz MacDonald - if you read any of these comments - which you might, or some employee just filters them - I enjoyed the expression on that ‘Bottom of the housing market’ videi piece - where at the end you bring accountability and sanity by saying “yeah, perhaps her 14 year old daughter being embarrassed ? ya think so ? ”
It was the ‘ya think so’ part - indeed - in that you reveal you are one sane, accountable, responsible, good person.
That was an unfortunate ‘bottom’ of the housing market indeed. Personally, the person selling their home with them included I think could benefit from some direction regarding self esteem.
In fact ? Perhaps the woman selling herself with the home ? in SOME way - demonstrates the BAD decision making people make with home purchases or sales - in connection with the reset crisis you brought focus to that’s JUST beginning to bring more write downs, Bear Stearns style hidden or not (remember, CEO of BS on Friday spoke from HIS Palm Beach home saying all was just peachy, and it was all speculators)
Comment by DrZoidberg
Jul 1st, 2008 at 6:03 am
I wonder though
What kind of person takes on a 350k mortgage no money down, no interest, knowing they can’t afford $1800 a month min. in 5 yrs - for another 30 yrs ?
It seems to me ? the kind of person that would TAKE a mortgage like that ? would have about the same character as someone that would give it.
Comment by DrZoidberg
Jul 1st, 2008 at 6:08 am
Maybe that woman who sells herself WITH the home should be policy ?
I mean, would people take on a 5 yr no money down obligation ?
if they thought they had to be responsible ?
I should look back at the changes in the bankruptcy bill - what was it ? 40k or so ? and you can still do it ?
but if you make over 40k ? you have to go through hoops.
Either way, there has been a STRANGE 5 year free ride - BOTH sides, resident who lived in a nice home for 5 years, and investment banks who sold the loan off, as MacDonald puts it - Daisy Chained it down the line - to Oz and back.
And now ? It’s as if everyone has to come together to face THAT music I guess.
Hearing MacDonald’s 10 to 15 year comment on how long it will take to clear up the sub prime mess, eeeks. I was hoping 3 to 5 yrs. Yikes, that’s SERIOUS loss - it should be headlines - for years. And yet ? This emac blog is the only place I see lots of focus on it. Innercitypress.org too I suppose.
Comment by DrZoidberg
Jul 1st, 2008 at 6:17 am
Maybe someone could post here - WHERE one can write any thoughts in a broader forum ?
Running downstairs to get a coffee- I caught FBN running a comment on Florida suing Mozilo.
They left out Washington State in the list of states suing.
It’s California, Illinois, Washington AND now Florida.
Odd - these states are suing on the very subject MacDonald brings forward on these attractive no money down loans - Perhaps one way to explore the matter is to examine OTHER types of loans, and see who in their right mind would issue 5 year no money down loans on such HIGH valued products.
Airplanes ?
Boats ?
Cars ?
Perhaps a car loan would be a good place to start.
WHO would lend ANYONE 250k to buy a car - no money down, 5 yrs, no interest, no income check etc. hmmm - that one spells it all out. Fraud with Intent.
Comment by John Olagues
Jul 6th, 2008 at 3:38 pm
Elizabeth;
James Dimon CEO of J.P. Morgan on April 4, 2008 before the Senate committee in response to a question from Senator Reed stated in very clear language that there were two facilities from the New York Fed Bank . One was for $25 Billion to Bear and a secondary facility for $30 Billion to J.P. Morgan. That totals $55 Billion. Why do all the writers on the subject speak of the $30 Billion only?
The $25 Billion is 100% guaranteed by J.P. Morgan. About $29 of the $30 Billion is non-recourse.
John Olagues