Update: A Marquee firm files for Bankruptcy, US Govt bails out AIG

[Lurker]

My question, why didnt no one ever predict this? Or even if they did, why didnt they do something about it?

It was predicted of course. This whole speculation thing is not a new phenomenon. This idea was first postulated in late 80s and early 90s when a few proponents suggested how income can be generated even if the return was not certain. The people then were pushed behind bars, unfortunately 10 years onwards it was the in-thing. It kind of reminds me of a Credit card project I did in 2001. This credit card company, #5 in US then has now been bought by Washington Mutual, excelled in offering credit cards to either very rich or very poor. From the rich they would earn large transactions, from the small they would earn large interest. Business was sweet. When the economy tanked in 2000 and rich stopped buying stuff, poor couldnt pay interest the company's stock went from 60$ to 1.2$ in a day. What we are seeing in Wall Street is no different.

My fear is also about whats happening in India. There's just too much easy credit thats available now, with many people buying new homes. At some point, if the jobs market slumps, there is bound to massive repurcussions for us too.

The job market does affect everyone but I do hope people realize the value of cash and not credit. 20 years ago a man who worked all his life would get his PF/Gratuity, add savings and then make a house. That was a lifelong ambition. Today you buy a house within a year or two of your job or else be tagged a fool. Now much as I beleive everyone should own a house, I fail to see how we have crossed the bridge of 30 years(in 80s) to 5 years(today). There is something fundamentally wrong in this business model. xxx

[The Outsider]

My question, why didnt no one ever predict this? Or even if they did, why didnt they do something about it?

Many people predicted it from the academia but government and markets are not run by academics. Everyone was interested in making huge profits while they could. The reason why investment banks find themselves in such a soup is not only because of their reckless policies but also the fact that they were left with little choice but to become reckless. Commercial and investment banks are run by hugely different set of rules and that's why there are regulations in place on commercial banks to limit the amount of money they can lend out and leverage in their investment wings. However, all major players flouted these rules and the government turned a blind eye to it for years. In a cut throat environment it left pure investment banks little choice but to take risky decisions and invest in unstable markets to remain competitive and today when commercial banks can cover those losses, investment banks can't. They've run out of lenders.

My fear is also about whats happening in India. There's just too much easy credit thats available now, with many people buying new homes. At some point, if the jobs market slumps, there is bound to massive repurcussions for us too.

The credit market can be worked around in a responsible manner if there are good regulations and implementations. The problem with US has been that regulations have been falling by the way side for the last 30 years and the existing ones were not implemented properly in the name of a free economy. And we are left with a situation where the government is being forced to take over or aid in the take over of one ailing company after another slowly making it one of the most state owned economies in the western world. And in places where state ownership is required like health care and social service they are still conspicuous by absence. The idea behind a credit market is age old and here to stay. We do it in our day to life everyday. We will easily loan out a few hundred bucks to someone whom we feel has the capacity and will to return it but not to people who have a poor reputation with money. The problem is that so many complex and esoteric derivatives have evolved in the financial market that pricing credit and derivatives is an extremely difficult task. Quantitative finance, derivatives etc. are still a relatively young field. The very fundamental of all this, the Black-Scholes model is only 35 years old and financial instrument pricing remains a very uncertain area even today.

[Ram]

The job market does affect everyone but I do hope people realize the value of cash and not credit. 20 years ago a man who worked all his life would get his PF/Gratuity, add savings and then make a house. That was a lifelong ambition. Today you buy a house within a year or two of your job or else be tagged a fool. Now much as I beleive everyone should own a house, I fail to see how we have crossed the bridge of 30 years(in 80s) to 5 years(today). There is something fundamentally wrong in this business model. xxx

My worry is that global slowdown may take a heavy toll on the Indian tech sector Industry. And its the tech workers who are right now propelling the Real estate and Auto Industry forward. It will be interesting to see the coming quarterly results of Infosys, TCS etc. I definitely expect slightly lower profits, compared to previous years.

Many people predicted it from the academia but government and markets are not run by academics. Everyone was interested in making huge profits while they could. The reason why investment banks find themselves in such a soup is not only because of their reckless policies but also the fact that they were left with little choice but to become reckless. Commercial and investment banks are run by hugely different set of rules and that's why there are regulations in place on commercial banks to limit the amount of money they can lend out and leverage in their investment wings. However' date=' all major players flouted these rules and the government turned a blind eye to it for years. In a cut throat environment it left pure investment banks little choice but to take risky decisions and invest in unstable markets to remain competitive and today when commercial banks can cover those losses, investment banks can't. They've run out of lenders.[/quote'] I think this is a big lesson that a totally de-regulated market is not the option. I am sure that in the next couple of years, we will see Investment banks all over the world exiting risky Business areas and focus on their core competence even more.

The credit market can be worked around in a responsible manner if there are good regulations and implementations. The problem with US has been that regulations have been falling by the way side for the last 30 years and the existing ones were not implemented properly in the name of a free economy. And we are left with a situation where the government is being forced to take over or aid in the take over of one ailing company after another slowly making it one of the most state owned economies in the western world. And in places where state ownership is required like health care and social service they are still conspicuous by absence.

I am surprised that its the US govt which has had to bail out these institutions. Whenever any Industry goes through a cyclical downturn, there is general market consolidation, with the number of players decreasing through mergers and acquisitions. It happened in the Steel Industry a few years. I suppose one can say it happened in the US too, with JPMC and Bear Stearns. But i guess, beyond a point, those relatively bigger banks could no longer take on board the risk of carrying on their shoulders, all the toxic assets the failed bank had collected.

The idea behind a credit market is age old and here to stay. We do it in our day to life everyday. We will easily loan out a few hundred bucks to someone whom we feel has the capacity and will to return it but not to people who have a poor reputation with money. The problem is that so many complex and esoteric derivatives have evolved in the financial market that pricing credit and derivatives is an extremely difficult task. Quantitative finance' date=' derivatives etc. are still a relatively young field. The very fundamental of all this, the Black-Scholes model is only 35 years old and financial instrument pricing remains a very uncertain area even today.[/quote'] Good point. I think people will come to terms with the dynamics of the Industry much better from here on.

[Ram]

Update just in; The US govt has decided to give a $80 bn loan to AIG, in a bid to save it.

[fineleg]

Quoting:

the Fed has opened a Pandora's box with its bailout, essentially saying that it is possible for the U.S. government to rescue companies whose executives made bad decisions. The so-called moral hazard issue has been on investors' minds recently, with Washington showing an inconsistent approach. Lehman Brothers Holdings (nyse: LEH - news - people ) was allowed to fall into bankruptcy protection, but the Treasury bailed out the former government agencies Fannie Mae (nyse: FNM - news - people ) and Freddie Mac (nyse: FRE - news - people ), and the Fed itself participated in the March rescue of Bear Stearns. AIG previously found a protector in the State of New York, which agreed to bend rules and allow AIG to borrow $20.0 billion from its operating subsidiaries. That could enable it to obtain some sort of credit facility or additional capital. It will be used to help maintain the company's credit rating. It may also be used as collateral. New York's governor gave AIG until Wednesday to secure an injection of capital or a credit facility. If it fails to do that, the agreement to let it borrow from its operating subsidiaries is off the table. The Fed, apparently unable to convince private-sector companies to provide the cash, did the deal itself. That raises the question of whether the financial-services industry really felt that AIG's demise would have been catastrophic. The only alternative explanation would be that Wall Street won a game of chicken with the Fed, forcing it to rescue a private-sector company and setting a precedent that likely will be difficult to live down.

[Lurker]

My worry is that global slowdown may take a heavy toll on the Indian tech sector Industry. And its the tech workers who are right now propelling the Real estate and Auto Industry forward. It will be interesting to see the coming quarterly results of Infosys, TCS etc. I definitely expect slightly lower profits, compared to previous years.

It wont be my worry at all. You must very well be aware of my dislike of the Real Estate and Auto Market in India. The former has reached a point where only a fraction of the populace can afford housing. Land mafia, tainted real estate developers and corrupt politician combo has pushed the price sky rocketing. The only people who can afford these prices are people in tech sector. And it is just unfair and unfortunate. The day you have Doctors, Engineer unable to buy a house but a person in Call center able to do so(nothing against call centers) you have your social model upside down. Same with Auto manufacturers. These days every house has a car, sometimes two, even when they do not need it. This in a country which doesnt produce a fraction of its oil, doesnt have proper roads and infrastructure. You can safely bet I wont cringe if these sectors fall down in line. Lastly I would also be happy if the Tech giants used this experience to learn some experience. So long as IT giants are in Service sector they are always be dependent on these kind of environments. Any time Obama says Stop Outsourcing TCS stocks will fall. Anytime GE pulls back a project Wipro shall see its market cap go down. Anytime Merryll Lynch fails Satyam goes in comman. What kind of business model are we following here?? xxx

[Lurker]

Update just in; The US govt has decided to give a $80 bn loan to AIG, in a bid to save it.

Moral of the story - There is no such thing as pure Capitalism (Sriram I couldnt help but remember a discussion we had once on this...hehehehe....just kidding of course)

[fineleg]

Land mafia, tainted real estate developers and corrupt politician combo has pushed the price sky rocketing. xxx

Lurks, IMO, the blame is to be placed on the above corrupt entities. Seems like along with blaming the above entities you are extending it to the Tech Industry folks, they did nothing wrong specifically.

[Lurker]

Lurks, IMO, the blame is to be placed on the above corrupt entities. Seems like along with blaming the above entities you are extending it to the Tech Industry folks, they did nothing wrong specifically.

It would be hard to quantify who did the most damage. Land mafia and corrupt politicians are the ones who get the lion share of the blame, quite rightly so if I may add. However there is no criticism for anyone else. Lets take brokers for example. Have their efforts pushed the price? Well Yes. Lets take the home owners for example. Have their greed ensured the rent is going up 10-15% everywhere? Yep. Now who comprises the home owners if not common man? I am not going to put a large portion of blame on Tech people but I am not going to rule them out either. A colleague of mine is currently in great fear because he has 2 houses in Mumbai right now, both on rent. And is wondering wht happens if house market collapses in India. And what happens if he loses his job in USA in this market? Now I am quite unsure if I should feel sympathy for him or not. xxx

[The Outsider]

I think this is a big lesson that a totally de-regulated market is not the option. I am sure that in the next couple of years, we will see Investment banks all over the world exiting risky Business areas and focus on their core competence even more.

Core competence? The core competence of investment banks is/was borrowing short and lending long. The current crisis shows that it's not a viable model if certain players have access to cash to cover their debts through commercial banks and a government support for them. I think the era of investment banks, in the entity they existed till now, is finished.

I am surprised that its the US govt which has had to bail out these institutions. Whenever any Industry goes through a cyclical downturn, there is general market consolidation, with the number of players decreasing through mergers and acquisitions. It happened in the Steel Industry a few years. I suppose one can say it happened in the US too, with JPMC and Bear Stearns. But i guess, beyond a point, those relatively bigger banks could no longer take on board the risk of carrying on their shoulders, all the toxic assets the failed bank had collected.

Where are the buyers? The so called buyers are already under the cosh. JP Morgan bought Bear Sterns after the Fed bought off the toxic assets, Bank of America's stocks have been hammered after their Merrill Lynch purchase. And now we are entering really tricky territory.....Morgan Stanley and Goldman Sachs are not illiquid companies by any stretch of imagination but at the same time it's clear that they won't be able to survive on their own. Who is going to shore up enough cash to purchase them? One of the major reasons for Lehman's fall was that Dick did not accept any offers over the last six months thinking the company was sound. Bank of America is ruled out as a buyer after purchasing Merrill Lynch, so is JP Morgan after purchasing Bear Sterns at Fed subsidies. Citi was able to save itself only because it bent Fed rules to transfer funds from it's commercial arm to the investment arm. Wachovia is in talks with Morgan Stanley for a possible merger, but I doubt it will materialize and there is some Chinese bank wanting to buy off Morgan Stanley but the Feds might not allow it (I don't know too much about this but there are some clauses which give the Fed the power to override a takeover from a foreign bank).

Good point. I think people will come to terms with the dynamics of the Industry much better from here on.

It will, undoubtedly. The problem is greed. If a model works over a couple of months then everyone jumps on to it without proper study and research. It's not academia where every proposed model, even if successful initially goes through infinite tests before it's propounded and used as a theory.

[Dhondy]

This is unprecedented- the perfect storm. Won't happen again in our lifetime. Three month yields on US treasury bills down to zero for the first time ever. The bailouts are likely to cost 2.5% of the US GDP. US government debt still holding on to its AAA status....just. Massive job losses in the offing in the UK, recession looming. You can't open the papers and miss out on wailing and teeth gnashing. It took Lloyds TSB to save Gordon Brown's job...for now. I have always looked upon the financial industry as a sort of "soft skill", vulnerable to this kind of implosion and struggled to understand why top ranking science grads would leave for such pastures, giving up a life of diligence, method and innovation. Any comments from those who have made the transition? Off the east coast of US, petro-engineers now summon a starting salary of $105 K. While it still doesn't come close to the £160 K that the average Lehman employee was taking home in London, the former is probably a job for life- the latter is just a dream turned to ashes.

[Ram]

I have always looked upon the financial industry as a sort of "soft skill", vulnerable to this kind of implosion and struggled to understand why top ranking science grads would leave for such pastures, giving up a life of diligence, method and innovation. Any comments from those who have made the transition?

Well, I am one who has made that transition and I dont regret that, one bit at all. My under-graduate and graduate education were all in Engg, but I knew I was never cut out to be an 'Engineer'. Rather, I felt my individual strengths could be better leveraged, if I went into the financial Industry. More specifically, a career in finance seems more enticing, not just for its remuneration, but purely because of the nature of the Industry. There is so much happening, so much churning, new developments everyday, innovative products every week. Of course, the risks are higher, but hey, as Infosys CEO Nandan Nilekeni once said in an interview 'Higher the risk, higher the reward. We had taken a huge risk back in the 80s to start Infosys. If I had wanted, I could have gone and sold roasted groundnuts on the beach and life could have seemed much more peaceful. But, we took the risk and here we are'. Also, in many of us, there is now a realization that in this current global scenario, there is no absolute concept of 'Job security'. There is no job that comes into this world with your name written on it. You just have to make the best of whatever you have, at that moment.

[Ram]

Massive job losses in the offing in the UK, recession looming. You can't open the papers and miss out on wailing and teeth gnashing. It took Lloyds TSB to save Gordon Brown's job...for now.

Because U.K in general is a touch more conservative with its fiscal policies, compared to its comrade across the Atlantic, just like how it will take it a bit longer for it to get 'into' recession, it will take longer for it to get 'out' of recession. We may see the US economy rebounding as early as the 3rd quarter of next year. Am not so sure about the same with the UK.

[Ram]

On a related note, spare a thought for some of the long time employees of companies like Lehman Brothers. I am sure some of them must have worked in it for 2,3 decades. They would have spent many a sleepless night, on the floor, working hard so that a product launch deadline could be met, or an acquisition could be made. They would have literally spilt their sweat and blood for that company, building its legacy brick by brick. And now suddenly, on one fine morning, its all gone. It must have been a massive psychological blow for them. I think the whole financial Industry is answerable to people like these, who gave their all for their company, only to see it sink because of bad policies.

[kumble_rocks]

On a related note, spare a thought for some of the long time employees of companies like Lehman Brothers. I am sure some of them must have worked in it for 2,3 decades. They would have spent many a sleepless night, on the floor, working hard so that a product launch deadline could be met, or an acquisition could be made. They would have literally spilt their sweat and blood for that company, building its legacy brick by brick. And now suddenly, on one fine morning, its all gone. It must have been a massive psychological blow for them. I think the whole financial Industry is answerable to people like these, who gave their all for their company, only to see it sink because of bad policies.

After Enron debacle , most have learnt to diversify on their 401 k .It was double whammy in the case of Enron employees, they not only lost their jobs , but their entire retirement savings since they had heavily vested in Enron stocks. I am sure the employees from these fallen financial companies were wise enough to diversify on their retirement plans . After all many of them deal with finance !

[Lurker]

I have always looked upon the financial industry as a sort of "soft skill", vulnerable to this kind of implosion and struggled to understand why top ranking science grads would leave for such pastures, giving up a life of diligence, method and innovation. Any comments from those who have made the transition?

Cant beat them join them. Simple. The trend is even observed in India and not only for IT based folks. My elder brother, who is a Doctor, as also a couple of his colleagues are now BSE certified brokers. When highly qualified Doctors have to do that it is a sign of dangerous times. Unfortunately few of us realize that. xxx

[The Outsider]

Morgan Stanley and Goldman Sachs keep on going down and down and have lost more than 55% and 35% of their market capital in the last 5 days. They are down today as well after they whinged to the Feds to put restrictions on naked short selling citing it as a reason for their stocks doing poorly. I could only chuckle at the hypocrisy given the billions they have made by naked shorts in their history. But it seems even the Feds restrictions are not helping them at this point. Wachovia and some Chinese bank seem to be in advanced talks to merge/buy Morgan Stanley.

[Ram]

What a sell-out! This is so similar to what happened to the Airline Industry after 9/11. The Industry never really recovered after that. It could happen to the Wall Street biggies too. And this crisis may continue till the housing correction happens and real-estate values are more aligned with national incomes. I read somewhere that in 1980, the average price of a home in the US was 2.2 times the average national income. In 1990, it rose more and in around 2005, it was 3.5 times the average national income.

[Lurker]

And now Washington Mutual is having heart attacks. I am unable to transfer funds online to a different (bank) account :((. Called in Heldesk and apparently it is a "technical" glitch they are working on. Full drama in progress.

[fineleg]

What is the course of action you folks are taking in this market? Rough market is an understatement.