This book is respectfully dedicated to the many thousands of Lehman employees whose lives werethrown into turmoil when the firm collapsed, and among whom I was privileged to work for the
.four best years of my life
?1??A Rocky Road to Wall Street
?2??Scaring Morgan Stanley to Death
?3??Only the Bears Smiled
?4??The Man in the Ivory Tower
?5??A Miracle on the Waterway
?6??The Day Delta Air Lines Went Bust
?7??The Tragedy of General Motors
?8??The Mortgage Bonanza Blows Out
?9??King Richard Thunders Forward
?10??A $100 Million Crash for Subprime’s Biggest Beast
?11??Wall Street Stunned as Kirk Quits
?12??Fuld, Defiant to the End
Cast of Characters
Lehman Brothers (31st Floor) / Members of the Executive Committee
Richard S. Fuld Jr.: chairman of the board and chief executive officer
Joseph Gregory: president and chief operating officer
David Goldfarb: former chief financial officer; former global head of principal investing;
chief strategy officer
Christopher O’Meara: chief financial officer, 2005–07; chief risk officer Erin Callan:
managing director and head of hedge fund investment banking; chief financial officer, 2007–08
George Walker IV: managing director and global head of investment management
chief administrative officer; chief financial officer, 2008
Lehman Brothers (Traders, Investment Bankers, Risktakers, Salespeople)
Michael Gelband: managing director and global head of fixed income; head of capital markets;
member of the executive committee
Alex Kirk: managing director and global head of high-yield and leveraged-loan businesses; chief
operating officer of fixed income; global head of principal investing
Herbert “Bart” McDade: managing director and global head of fixed income; global head of
equities; president, 2008; member of the executive committee
Eric Felder: managing director and head of global credit products group; global head of fixed
Dr. Madelyn Antoncic: managing director and chief risk officer; government liaison
Thomas Humphrey: managing director and global head of fixed-income sales
Hugh “Skip” McGee: managing director and global head of investment banking
Richard Gatward: managing director and global head of convertible trading and sales
Lawrence E. McCarthy: managing director and global head of distressed-debt trading
Joseph Beggans: senior vice president, distressed-debt trading
Peter Schellbach: managing director, distressed-loan trading
Terence Tucker: senior vice president, convertible securities sales
David Gross: senior vice president, convertible securities sales
Jeremiah Stafford: senior vice president, high-yield credit products trading
vice president, distressed-debt and convertible securities tradingLawrence G. McDonald:
Mohammed “Mo” Grimeh: managing director and global head of emerging markets trading
managing director and chairman, investment banking commitments committee
Lehman Brothers (Research and Analysis)
Christine Daley: managing director and head of distressed-debt research
managing director, distressed-debt researchJane Castle:
Peter Hammack: vice president, credit derivatives research
Ashish Shah: managing director and head of credit strategies, derivatives, and research
Karim Babay: associate, convertible securities research
managing director, mortgage-backed securities research
Lehman Brothers (Mortgage and Real Estate)
David N. Sherr: managing director and global head of securitized products
managing director and global head of commercial real estate group
Lehman Brothers Family and Former Lehman Brothers Partners
Robert “Bobbie” Lehman: chairman, 1925–69, and the last of the brothers to head the firm
Christopher Pettit: president and chief operating officer, 1994–96
John Cecil: chief administrative officer, chief financial officer, 1994–2000
Bradley Jack: president and chief operating officer, 2002–04
Peter G. Peterson: former chief executive officer; former U.S. secretary of commerce; founding
partner of the Blackstone Group
former investment banker; founding partner of the Blackstone Group
Senior Government Officials and Banking/Investment Industry VIPs
Henry M. Paulson Jr.: former CEO of Goldman Sachs; former secretary of the U.S. Treasury
Ben Bernanke: chairman, U.S. Federal Reserve
Timothy F. Geithner: former president, Federal Reserve Bank of New York; secretary of the U.S.
Jamie Dimon: chief executive officer, JPMorganChase
David Einhorn: founder, Greenlight Capital
chairman and chief executive officer, United Capital Management
Corporate Financial Personnel
Anand Iyer: managing director and global head of convertible securities research, Morgan
Tony Bosco: managing director, convertible securities trading, Morgan Stanley, acquisitions
Philadelphia branch manager, Merrill Lynch
Family and Friends
Lawrence G. McDonald Sr.: father, investor, golfer
Debbie Towle McDonald O’Brien: mother, fashion model
Ed O’Brien: stepfather and lawyer
family friend; point guard, Boston CelticsBob Cousy:
Steve Seefeld: best friend at Falmouth High and Wharton; partner, ConvertBond.com
Kate Bohner: longtime friend and television financial journalist
longtime friend and successful retail stockbroker
president and chief executive officer, EnronJeff Skilling:
Angelo R. Mozilo: chairman and chief executive officer, Countrywide Financial
It’s been said that there are two distinct groups of people in America: “Wall Street” and“Main Street”—the former composed of people who keep the financial plumbing of the latter ingood condition so that everyone will prosper. Wall Street has, however, become increasinglycomplex and opaque, and many on Main Street have only the most basic notion of what it does. Inaddition, Wall Street, particularly with the collapse and bankruptcy of Lehman Brothers inSeptember 2008, was the epicenter of the worldwide financial crises that brought the globaleconomy close to a complete collapse. My objective in writing A Colossal Failure of Common
was twofold. First, to provide Main Street with a close-up, inside view of how marketsSense
really work by someone who was on the trading floor in the years leading up to LehmanBrothers’ calamitous end. And, second, to give my colleagues on Wall Street as crystal clearan explanation as possible about the real reasons why the legendary Lehman Brothers met withsuch a swift ending. The lessons therein are important for beginning to understand how we canprevent such disasters in the future and ultimately do a better job of serving Main Street.
—Lawrence G. McDonald, July 2009
A house divided against itself cannot stand.
Abraham Lincoln,June 16, 1858?????
I STILL LIVE just a few city blocks away from the old Lehman Brothers headquarters at 745Seventh Avenue—six blocks, and about ten thousand years. I still walk past it two or threetimes a week, and each time I try to look forward, south toward Wall Street. And I alwaysresolve to keep walking, glancing neither left nor right, locking out the memories. But Ialways stop.
And I see again the light blue livery of Barclays Capital, which represents—for me, atleast—the flag of an impostor, a pale substitute for the swashbuckling banner that for 158years was slashed above the entrance to the greatest merchant bank Wall Street ever knew:Lehman Brothers.
It was only the fourth largest. But its traditions were those of a banking warrior—thebrilliant finance house that had backed, encouraged, and made possible the retail giants GimbelBrothers, F. W Woolworth, and Macy’s, and the airlines American, National, TWA, and PanAmerican. They raised the capital for Campbell Soup Company, the Jewel Tea Company, B. F.Goodrich. And they backed the birth of television at RCA, plus the Hollywood studios RKO,Paramount, and 20th Century Fox. They found the money for the Trans-Canada oil pipeline.
I suppose, in a sense, I had seen only its demise, the four-year death rattle of twenty-first-century finance, which ended on September 15, 2008. Yet in my mind, I remember the great days.And as I come to a halt outside the building, I know too that in the next few moments I will beengulfed by sadness. But I always stop.
And I always stare up at the third floor, where once I worked as a trader on one of thetoughest trading floors on earth. And then I find myself counting all the way up to thirty-one,the floor where it all went so catastrophically wrong, the floor that housed the royal court ofKing Richard. That’s Richard S. Fuld, chairman and CEO.
Swamped by nostalgia, edged as we all are by a lingering anger, and still plagued byunanswerable questions, I stand and stare upward, sorrowful beyond reason, and trapped by the
.if onlytwin words of those possessed of flawless hindsight:
Sometimes I lie awake at night trying to place all the if-onlys in some kind of order.Sometimes the order changes, and sometimes there is a new leader, one single aspect of theLehman collapse that stands out above all others. But it’s never clear. Except when I standright here and look up at the great glass fortress which once housed Lehman, and focus on thatthirty-first floor. Then it’s clear. Boy is it ever clear. And the phrase if only slams into
If only they had listened—Dick Fuld and his president, Joe Gregory. Three times they were hitwith the irredeemable logic of three of the cleverest financial brains on Wall Street—those ofMike Gelband, our global head of fixed income, Alex Kirk, global head of distressed tradingresearch and sales, and Larry McCarthy, head of distressed-bond trading.
Each and every one of them laid it out, from way back in 2005, that the real estate market wasliving on borrowed time and that Lehman Brothers was headed directly for the biggest subprimeiceberg ever seen, and with the wrong men on the bridge. Dick and Joe turned their backs allthree times. It was probably the worst triple since St. Peter denied Christ.
Beyond that, there were six more if-onlys, each one as cringe-makingly awful as the last.
If only Chairman Fuld had kept his ear close to the ground on the inner workings of hisfirm—both its triumphs and its mistakes. If he had listened to his generals, met people whoformed the heart and soul of Lehman Brothers, the catastrophe might have been avoided. Butinstead of this, he secluded himself in his palatial offices up there on the thirty-firstfloor, remote from the action, dreaming only of accelerating growth, nursing ambitions farremoved from reality.
If only the secret coup against Fuld and Gregory had taken place months before that clandestinemeeting in June 2008. If the eleven managing directors who sat in ostensibly treasonous butultimately loyal comradeship that night had acted sooner and removed the Lehman leaders, theymight have steadied the ship, changing its course.
If only the reign of terror that drove out the most brilliant of Lehman’s traders and risktakers had been halted earlier, perhaps in the name of common sense. The top managers mighthave marshaled their forces immediately when they saw giants such as Mike Gelband beingignored.
If only Dick Fuld had kept his anger, resentment, and rudeness under control. Especially atthat private dinner in the spring of 2008 with Hank Paulson, secretary of the United StatesTreasury. That was when Fuld’s years of smoldering envy of Goldman Sachs came cascading to thesurface and caused Paulson to leave furious that the Lehman boss had disrespected the office heheld. Perhaps that was the moment Hank decided he could not bring himself to bail out the bankcontrolled by Richard S. Fuld.
If only President George W. Bush had taken the final, desperate call from Fuld’s office, acall made by his own cousin, George Walker IV, in the night hours before the bank filed forChapter 11 bankruptcy. It might have made a difference.
If only … if only. Those two words haunt my dreams. I go back to the fall of Lehman, and whatmight have made things different. For most people, victims or not of this worldwide collapse ofthe financial markets, it will be, in time, just water over the dam. But it will never be thatfor me, and my long background as a trader and researcher has prompted me many times to burrowdown further to the bedrock, the cause of the crash of 2008. I refer to the repeal of theGlass-Steagall Act in 1999.
If only President Clinton had never signed the bill repealing Glass-Steagall. Personally, Inever thought he much wanted to sign it, but to understand the ramifications it is necessary todelve deeper, and before I begin my story, I will present you with some critical backgroundinformation, without which your grasp might be incomplete. It’s a ten-minute meadow of wisdomand hindsight, the sort of thing I tend to specialize in.
The story begins in the heady, formative years of the Clinton presidency on a rose-coloredquest to change the world, to help the poor, and ended in the poisonous heartland of worldfinancial disaster.
Roberta Achtenberg, the daughter of a Russian-born owner of a Los Angeles neighborhood grocerystore, was plucked by President Clinton from relative obscurity in 1993 and elevated to theposition of assistant secretary of the Department of Housing and Urban Development. Roberta andBill were united in their desire to increase home ownership in poor and minority communities.
And despite a barrage of objections led by Senator Jesse Helms, who referred to Achtenberg asthat “damn lesbian,” the lady took up her appointment in the new administration, citinginnate racism as one of the main reasons why banks were reluctant to lend to those withoutfunds.
In the ensuing couple of years, Roberta Achtenberg harnessed all of the formidable energy onthe massed ranks of United States bankers, sometimes threatening, sometimes berating, sometimesbullying—anything to persuade the banks to provide mortgages to people who might not have beenup to the challenge of coping with up-front down payments and regular monthly payments.
Between 1993 and 1999, more than two million such clients became new homeowners. In her two-year tenure as assistant secretary, she set up a national grid of offices staffed by attorneysand investigators. Their principal aim was to enforce the laws against the banks, the laws thatdealt with discrimination. Some of the fines leveled at banks ran into the millions, to drivehome Achtenberg’s avowed intent to utilize the law to change the ethos of providing mortgagemoney in the United States of America.
Banks were compelled to jump into line, and soon they were making thousands of loans withoutany cash-down deposits whatsoever, an unprecedented situation. Mortgage officers inside thebanks were forced to bend or break their own rules in order to achieve a good CommunityReinvestment Act rating, which would please the administration by demonstrating generosity tounderprivileged borrowers even if they might default. Easy mortgages were the invention of BillClinton’s Democrats.
However, there was, in the mid- to late 1990s, one enormous advantage: amid general prosperity,the housing market was strong and prices were rising steadily. At that point in time, mortgagedefaults were relatively few in number and the securitization of mortgages, which had suchdisastrous consequences during the financial crisis that began in 2007, barely existed.
Nonetheless, there were many beady-eyed financiers who looked askance at this new morality andprivately yearned for the days when bank policies were strictly conservative, when credit wasflatly denied to anyone without the proven ability to repay.
And at the center of this seething disquiet, somewhere between the persuasive silken-tonguedmembers of the banking lobby and the missionary zeal of Roberta Achtenberg, stood William J.Clinton, whose heart, not for the first time, may have been ruling his head.
He understood full well the goodwill he had engendered in the new home-owning black andHispanic communities. But he could not fail to heed the very senior voices of warning thatwhispered, There may be trouble ahead.
President Clinton wanted to stay focused with the concerns of the bankers, many of whom wereseriously upset by Achtenberg’s pressure to provide shaky mortgages. And right before thepresident’s eyes there was a related situation, one that had the deepest possible roots in theAmerican financial community.
This was the fabled Glass-Steagall Act of 1933, the post–Wall Street crash legislation thatprevented commercial banks from merging with investment banks, thus eliminating the opportunityfor the high-rolling investment guys to get their hands on limitless supplies of depositors’money. Glass-Steagall was nothing short of a barrier, and it stayed in place for more thansixty years, but the major U.S. banks wanted it abolished. They’d tried but failed in 1988. Itwould take another four years for this Depression-era legislation to come once more underattack.
President Clinton understood the ramifications, and he was wary of the reform, wary of seemingto be allied with the power brokers of the biggest banks in the country. He understood thecomplexities of the Glass-Steagall Act, its origins, and its purposes—principally to preventsome diabolical investment house from plunging in big on a corporation like Enron and goingdown with a zillion dollars of small depositors’ cash. No part of that did President Billneed.
On one hand was the belief of the main U.S. clearing banks that such mergers would strengthenthe whole financial industry by increasing opportunities for hefty profits. But there were manypeople running small banks who were fearful that a repeal of Glass-Steagall would ultimatelylead to large conglomerates crushing the life out of the minnows.
President Clinton always kept a weather eye on history, and he was aware the commercial banks,with their overenthusiastic investments in the stock market, had essentially taken the rap forthe crash of 1929. They were accused of crossing a forbidden line, of buying stock incorporations for resale to the public. It had been too risky, and the pursuit of huge profitshad clouded their judgment.
The man who had stood firmly in the path of the gathering storm of the 1930s was Virginiasenator Carter Glass, a former treasury secretary and the founder of the U.S. Federal ReserveSystem. The somewhat stern Democratic newspaper proprietor was determined that the commercialbanks and the investment banks should be kept forever apart.
He was supported by the chairman of the House Banking and Currency Committee, Alabamacongressman Henry Bascom Steagall, and it was their rigid legal barricade that did much tosolve Wall Street’s greatest-ever crisis. The biggest banks were thenceforth prevented fromspeculating heavily in the stock markets. But even then, a lot of people thought it was a harshand restrictive law.
With President Clinton in office for only three years, the major banks once more marshaledtheir forces to try for a third time to repeal Glass-Steagall, and once more it all came tonothing, with the nation’s small banks fighting tooth and nail to hold back a system theythought might engulf them. But in 1996 they failed once more.
In the early spring of 1998, however, a Wall Street detonator exploded, sending a sharp signalthat the market was willing to go it alone despite the politicians. On April 6 Citicorpannounced a merger with Travelers Insurance, a large corporation that owned and controlled theinvestment bank Smith Barney. The merger would create a vast conglomerate involved withbanking, insurance, and securities, plainly in defiance of Glass-Steagall.
The House scrambled to put a reform bill together, but the issue died in the Senate after itbecame clear that President Clinton had many concerns and was almost certain to veto it. The$70 billion merger between Citicorp and Travelers went right ahead regardless. The result was abanking giant, the largest financial conglomerate in the world, and it was empowered to sellsecurities, take deposits, make loans, underwrite stocks, sell insurance, and operate anenormous variety of financial activities, all under one name: Citigroup.
The deal was obviously illegal, but Citigroup had five years to get the law changed, and theyhad very deep pockets. Senators harrumphed, and the president, concerned for the nation’ssmaller banks, worried.
However, the most powerful banking lobbies in the country wanted Glass-Steagall repealed, andthey bombarded politicians with millions of dollars’ worth of contributions. They cajoled and
pressured Congress to end this old-fashioned Depression-era law. Inevitably they won. InNovember 1999, the necessary bills were passed 54–44 in the Senate and 343–86 in the House ofRepresentatives. In the ensuing days the final bipartisan bill sailed through the Senate, 90–8with one abstention, and the House, 362–57 with fifteen abstentions. Those margins made itvetoproof. I remember the day well. All my life my dad had been telling me that historyinevitably repeats itself. And here I was listening to a group of guys telling me it was alldifferent now, that everything was so much more sophisticated, “doorstep of the twenty-firstcentury” and all that, so much more advanced than 1933.
Oh, yeah? Well, I never bought it. It’s never different. I knew that Glass-Steagall had beenput in place very deliberately to protect customer bank deposits and prevent any crises frombecoming interconnected and forming a house of cards or a row of dominoes. Carter Glass’s billhad successfully kept the dominoes apart for more than half a century after his death.
And now that was all about to end. They were moving the pieces, pressing one against the other.I remember my concern as I watched the television news on November 12, 1999. The action on thescreen was flying in the face of everything my dad had told me. I was watching PresidentClinton step up, possibly against his better judgment, and sign into law the brand-newFinancial Services Modernization Act (also known as Gramm-Leach-Bliley), repealing Glass-Steagall. In less than a decade, this act would be directly responsible for bringing the entireworld to the brink of financial ruin. Especially mine.
A Rocky Road to Wall Street
Right here, in a haze of tobacco smoke and cheap hamburger fumes, I was on the skid row of
finance … places like this specialize in the walking dead of failing corporations.
AT THE AGE of ten, I resided in some kind of a marital no-man’s-land, a beautiful but lovelessgabled house in the leafy little township of Bolton, Massachusetts, some twenty miles west ofdowntown Boston. My father, Lawrence G. McDonald, had accepted the end of his marriage and hadleft my stunning fashion-model mother to bring up their five children all on her own. I was theoldest.
The general drift of the breakup was rooted in my dad’s hard-driving business career. Ownerand chief executive of a chemical engineering company, he might have stepped straight out of asuburban cocktail party staged on the set of The Graduate: “Plastics, son. That’s the
And I guess in a way it was the future. At least it was his future, because plastics made him astack of money, enough to start his own brokerage firm, and it only took him about twenty-ninehours a day, seven days a week, to do it. He was obsessed with business.
So far as my mom was concerned, that was the upside. The downside was his devotion to the gameof golf, which took care of his entire quota of spare time. For all of my formative years heplayed to scratch or better. As the club champion of Woods Hole Golf Club, down on the shoresof Nantucket Sound, he had a swing that was pure poetry, relaxed, precise, and elegant, theclubhead describing a perfect arc through the soft sea air as it approached the ball. Also, hecould hit the son of a bitch a country mile.
Mom never really saw him, since she never landed a job as a greenskeeper. And he saw herprincipally in magazines and on giant billboards around Boston, where dozens of images showedher modeling various high-fashion accessories.