On Friday Bear Stearns–-even in the throes of a financial collapse that had driven its share price down by three-quarters–-was still worth $3.5 billion. On Sunday night it was worth barely $200m, sold for two bucks a share to J.P. Morgan, in a deal brokered by the Fed. If this is a bail-out (and it is) the shareholders of Bear Stearns are not exactly thrilled about it. They will want to know why giving away their firm (whose book value, they had just been told, was in the neighbourhood of $80 a share, and whose headquarters building is said to be worth $1 billion) to J.P. Morgan was better for them than going bust.
It wasn’t. Bankruptcy would surely have recovered more value for shareholders than this give-away-–but the Fed evidently feared that closure and disposal of Bear’s assets would have jeopardized other parts of the country’s teetering financial system. Preventing that was the Fed’s overriding goal. The firm had to be acquired in a hurry, shored up, and then run, so far as counterparties were concerned, as though nothing had happened. By any measure, Bear Stearns was not that big: it was surely not “too big to fail”. Apparently, though, it was deemed too delicately interconnected to fail. One wonders how many such institutions there now are, and who will carry the burden of keeping them in business.
The Fed, helping to answer that question, simultaneously announced a new lending facility for “primary dealers”–-non-bank financial firms like Bear, which have hitherto been unable to borrow from the Fed. This constitutes a remarkable expansion of the Fed’s financial safety net. Something else Bear’s shareholders will want to know is why this facility was not created in time for them to take advantage of it. At the end of last week, they were having to borrow from the Fed indirectly, through the good offices of J.P. Morgan. Two days later, J.P. Morgan is getting Bear for nothing, and in addition has been promised as much as $30 billion in Fed loans, secured against Bear’s dodgy assets. If the assets turn out to be worth less than the loans, the Fed–-ie, the taxpayer–-shoulders the risk. (And that, by the way, is why these arrangements are indeed a bail-out, though not one that helps Bear’s original owners.)
On the face of it, this looks like a remarkably good deal for J.P. Morgan. We will see whether it turns out to be such good value for taxpayers.
The value of Bear Stearns or a bank or the house down the block is at the heart of the problem/crisis. Once the market can set prices with better certainty, the crisis will have passed.
Until then the guesswork about values isn't too interesting.
I'm much more interested in the guesswork about how long it will take to get to anything resembling an equilibrium.
JP Morgan's stock validates your article: the first time I have seen a buyer's stock jump 10 percent upon announcing that it was buying another company.
Incredible.
I don't think that putting Bear Stearns into bankruptcy would have recovered any, let alone more, value for the stockholders. In all likelihood, they would have been wiped out even if Bear had been taken into bankruptcy. The Bankruptcy Code does not impose an automatic stay with regards to counterparty creditors with securities contracts - the existing creditors would have been able to reach and liquidate Bear's assets, leaving nothing for the stockholders.
In any situation where the Fed is bailing out failing financial institutions, they should insist on equity in the newly created/merged entity, as a quid pro quo for extending the safety net. That way when the recovery comes, the Fed can strengthen its now weakened balance sheet and the taxpayer can recoup some of the losses he/she will inevitably sustain as a result of absorbing the losses from these financial follies. Bailouts shouldn't be a one-way street, as this one appears to be.
It will be very interesting to see what details become public on this transaction. I am assuming that the only reason Bear's management agreed to this is that the company would have otherwise collapsed in short order due to lack of liquidity. Once that happened, none of the options available would have saved any shareholder equity -- and I am assuming that management hadn't had enough time to have dumped their positions prior to making this deal -- if they did, that would prove to be quite interesting in its own right. I do agree that this is a pure windfall for JPM, since it appears that if this deal works out, they win -- if not, the taxpayers lose.
Bear was 'sold' by its management without consulting its shareholders. So much for property rights. JPM clearly has an inside deal with the Administration, and must be seen as a designated survivor after all the dust settles in the industry. Bear's problems apparently were immediate liquidity, not lack of assets - the breakup value is somewhere around 6 to 8 billion. Last week, Bear could not borrow from the Treaury directly, so had to bring in JPM as a favored intermediary; this week the rules are changed, and Bear could have survived on its own. If this deal does not stink, what deal ever could ?
When a fire is spreading across a city, private property might be seized and destroyed ahead of the flames to help slow the spread of the fire. The shareholders of Bear were not consulted, but urgency may have played a role. However, the lack of appropriate compensation should be tested in the courts.
The markets were not assured, so the fire break appears to been ineffective. JPM seems to have done well. In the documents, if shareholders in Bear were injured, who will then have the liability? The Fed and the administration have not enunciated a clear policy.
Unless the law has changed, JP Morgan cannot simply acquire Bear so quickly. The transaction would seem to require shareholder consent which would require calling a meeting and filing a proxy statement with the SEC. The last I looked today, Bear's stock was trading at almost $4 per share. That is almost double the supposed purchase price. If I am correct that a shareholder vote is required, how can JP take care of Bear's obligations during the interim period (which may be months) before the deal can close. I also thought I read today the Lewis, who recently invested $1 billion in Bear, may raise some questions about the deal.
Not in a million years would equity get crap in an 11 of a financial institution. What evidence do you have to back this up? Where's the illiquid value in Bear? There isn't any. They're a high-priced professional services firm. File 11 and whatever value equity may have been able to claim would be washed away along with the paintings in the lobby.
Kim’s post (1:26 pm) reiterates a point often heard in finance channels and which is worthy of greater exploration. It references getting to equilibrium, i.e. to” where the market can set prices with better certainty”.
De-leveraging is occurring in multiple markets simultaneously (U.S. and U.K. housing market, mortgage-backed securities,) and is spreading deeper into the CDS and US stock market, and other highly-leveraged markets. The estimated size of some of the markets partially or completed affected by the un-winding of leverage include $7.1 trillion for mortgage securities, $21.9 trillion for the U.S. stock market and $45.5 trillion for the credit default insurance market (cite: Gretchen Morgenson, NYT).
As a simple 5-syllable-word, ‘equilibrium’, doesn’t have the gravitas to capture the monumental task and timeline that may be involved given the interlinking and leveraging involved. Add to this the very fickle ingredient of human ‘trust and faith’ as described by Gillian Tett at the Financial Times.
The wait may be a quixotic task, like waiting for something the size of earth’s interlinked oceans to achieve ‘equilibrium’ after absorbing a vast slow-moving disruption. The tsunamis just keep rolling and rolling and rolling. And they’re looking awfully slow moving when viewed from a great distance. But they’re devastating and frightening when it’s your own harbor/beach/coast facing one.
I hope my personal pain is limited to the stock of a greatly profitable tech firm which I finally sold today after months of dismaying losses caused exclusively by hordes of other sellers needing to raise money in response to the de-leveraging assaulting them. “Debt Reckoning: U.S. Receives a Margin Call” NYT- 3/15/08, is the rare article that focuses attention on how this painful de-leveraging easily reaches far and affects many outside of the world of finance and who are not sub-prime mortgage holders, are not employed on Wall Street, and do not work in recession-vulnerable fields.