Early on the morning of Thursday, March 13, 2008, Robert K. Steel, Undersecretary of the Treasury for Domestic Finance, had breakfast with H. Rodgin Cohen, the senior partner of Sullivan & Cromwell, the Wall Street law firm. The gregarious Steel '73 asked Cohen how things were going. "He said, 'I'm great, but I'm kind of pooped,' " Steel recalls. "I was up late, and there are a lot of challenges at Bear Stearns."
That, of course, was an understatement. Cohen, Bear's lead outside counsel, had spent the better part of the night before on the phone from his home in Irvington, New York, with the top management at Bear Stearns, including CEO Alan Schwartz '72, helping them grapple with their rising fear that Bear, then the world's fifth-largest securities firm, might not be able to stay in business much longer. The market was rapidly losing confidence in the firm. Its stock had closed at $61.58 that day, down from its all-time high of $172.69 a share in January 2007. Its hedge-fund clients were withdrawing their cash balances, and, worse, Bear's overnight lenders, on whom the firm had become largely dependent—for up to as much as $75 billion a day—were balking at continuing to provide that funding. Without it, Bear Stearns simply would not have the cash to operate and to meet its obligations. In other words, Bear would be bankrupt.
As the night wore on and concerns about Bear's viability mounted, Cohen convinced Schwartz that the situation was so dire that Timothy Geithner, then the president of the New York Federal Reserve Bank, should be informed. Although Geithner was not technically Wall Street's regulator—that job belonged to the head of the Securities and Exchange Commission—he was based in New York and was very familiar with the liquidity issues facing the securities industry. Plus, just six days earlier, he had announced a new $200 billion short-term lending program for banks and securities firms that was meant "to address heightened liquidity pressures" and set to begin March 27.
With Schwartz's consent, at around 11 p.m., Cohen called Geithner and urged him to take remedial action as quickly as possible by speeding up the start of the new Fed loan program and opening the Fed "discount window" to securities firms, an action that would have allowed Bear Stearns and other firms to borrow money directly, at low interest rates, from the Fed for the first time since the 1930s. "I think I've been around long enough to sense a very serious problem, and this seems like one," Cohen recalls telling him.
"If it's this serious, Alan should pick up the phone and call me first thing in the morning," Geithner replied.
The next morning, while Cohen ate breakfast with Steel, Schwartz was on the phone with Geithner. "There's a chance we can work through this," Steel says Cohen told him. "But this is pretty unattractive."
Steel began to worry that the failure of a securities firm the size and complexity of Bear Stearns might pose a systemic risk that could potentially undermine the confidence needed to ensure the smooth running of the international financial system. After breakfast, as he and Cohen walked down one of the grand corridors of the Treasury building, near his office, his secretary stuck her head out and told him that Alan Schwartz was on the phone. As the designated liaison between Wall Street and the Treasury, Steel regularly received calls from top executives on Wall Street, but in light of what Cohen had told him at breakfast, he raced to take it.
Schwartz told him that he would have a better idea about the severity of Bear Stearns' growing liquidity problem that afternoon, Steel recalls, but said he was "hopeful" he could "stem this" and "cauterize" the initial bleeding. Schwartz recalls the conversation as a "heads up that if things took a turn for the worse, we needed to figure out what the backup plan was."
After the call, Steel ducked into the office of the Secretary of the Treasury, Henry Paulson, and told him about the potentially dangerous situation unfolding at Bear Stearns. "We're not going to know a lot more for a few hours, but let's get some people to start to think about various issues and ways to deal with this," Steel said.
This, in foreshortened detail, is how two Duke graduates of the same vintage—Steel, from Durham, and Schwartz, from Brooklyn—pulled the curtain back on a financial crisis that approaches the severity of the Great Depression. More than a few Duke alumni have played central roles in this drama—among them not only Steel, chair of Duke's board of trustees from 2005 to 2009, and Schwartz, a current Duke trustee, but also Steven D. Black '74, Schwartz's fraternity brother, a former member of the Trinity board of visitors, and co-head of global investment banking at JPMorganChase; John Mack '68, chair and CEO of Morgan Stanley and a current Duke trustee; Michael Alix '83, head of risk management at Bear Stearns, who now works at the New York Federal Reserve Bank; and John Koskinen '61, acting CEO and chair of the board of Freddie Mac and a Duke trustee emeritus. Their statistically outsized presence is, and will continue to be, delicious fodder for social scientists and historians. (That none of these central figures is female is a reflection of the extent to which Wall Street remains a male-dominated enclave.)
What follows is a snapshot of what these alumni faced as the financial crisis unfolded—the first draft of a history still being written.
According to Schwartz, the Duke connections may have made this difficult situation slightly easier. "What it creates when you have a relationship is the opportunity to at least know that you can talk to each other and trust that you're being as honest as you can be," he says. "With the Duke guys, you've known them your whole career, and there's just a deeper reservoir that you're tapping into."
Thursday afternoon, March 13, 2008, back on the front lines of the emerging crisis, Steel, Paulson, and Geithner had to figure out whether or not to try to save Bear Stearns. "You really had just a few days to decide," Steel says. "The first decision was whether this was challenging enough to push it into the weekend"—that is, find a way to keep Bear afloat until the closing bell on Friday, in order to buy some time. The solution was radical and unprecedented: putting government money "back to back" at JPMorganChase. What it meant was that the Fed would lend money to JPMorgan, which would in turn lend it to Bear Stearns. By law at that time, the Fed could not lend money directly to Bear, a securities firm, but it could lend to JPMorgan, a commercial bank. Given the Treasury's prevailing bias that no one securities firm was systemically important, this was a harder decision than it now seems in hindsight.
"None of us liked it," Steel says. "You had to ask yourself 'What's the best of the series of least appealing alternatives?' If you keep looking for an attractive alternative, you're not going to find one." Through a series of discussions among Paulson, Geithner, and Ben S. Bernanke, the chair of the Federal Reserve Board, the government quickly decided that Bear Stearns had to be saved for the good of the system. "Humpty Dumpty falling was not an attractive outcome, given the market conditions that day," Steel says.
That was when the call went out to James L. "Jamie" Dimon, the CEO of JPMorganChase (and, coincidentally, the father of Julia Dimon '07). Dimon was celebrating his fifty-second birthday at Avra Estiatorio, a midtown Manhattan Greek restaurant, when Schwartz called and urged him to take a serious look at helping Bear Stearns out of its predicament.
Dimon, in turn, called Steve Black, who was enjoying a vacation in Anguilla after months of keeping one step ahead of the financial crisis that had started a year earlier with the meltdown of two heavily leveraged Bear Stearns hedge funds. Black was having dinner with his wife at a restaurant on the island. Dimon told him to get back to New York by the next morning.
By March 2008, Dimon, Black, and other top executives at JPMorganChase were plenty familiar with Bear Stearns. Dimon had tried unsuccessfully to buy the firm in 2001, when he was CEO of BankOne, a Chicago-based commercial bank.
After Dimon's call, Black kicked his army into high gear. "That's not to say that when all the stuff started happening on Thursday our first thought was, 'Gee, great. We're going to get to buy Bear Stearns,' " he says. "It was, 'Can we help Bear Stearns and the Fed find a mechanism to keep them open for business so that they don't blow up, which is going to cause everybody a lot of pain?' " This was a hotly discussed topic among JPMorgan senior executives and board members. "We spent a lot of time and energy debating whether the transaction was the right thing to do for our shareholders—as opposed to whether it was the right thing for the Bear Stearns shareholders or the financial system," says Black.
"We also spent a lot of time debating that if we thought it was the right thing to do, how we could do it and make sure that we protected our company. Because it wasn't going to do anybody good—us, them, our shareholders, or the financial system—if all we did was jeopardize JPMorgan because of buying Bear Stearns."
It was a taxing, around-the-clock exercise. "It was a pain in the ass," Black says. "There was a lot of work to do in a short period of time, and being wrong had some pretty significant implications. On the other hand, you get into deal mode, and the adrenaline starts flowing, and there is an excitement to it."
In the end, of course, with the Fed's help —to the tune of $29 billion—JPMorgan agreed to buy Bear Stearns for $10 per share (up from $2 per share originally). All Bear's creditors were made whole, and JPMorgan assumed some $370 billion of Bear's assets, along with its headquarters and other buildings, an energy-trading business, and a host of talented people (many of whom are no longer at JPMorgan). "When I look back now, I feel better than I did then," Schwartz says. "It felt like somebody had come and set fire to our house, and I felt terrible.
"But then, six months later, a tsunami came through town and blew away all the other houses, and I don't see how, frankly, we would have survived that tsunami. With Lehman going under, with Merrill about to go under, and with Morgan Stanley and Goldman an inch away, I don't see how Bear Stearns was a big enough franchise to survive that kind of storm. The reality is that going through that in March probably, on balance, Bear Stearns people did better than they would have if we'd survived until September."
Mike Alix, who spent twelve years at Bear Stearns and was the firm's senior risk officer at the time of its collapse, was one of many senior professionals at the firm who did not get invited to the JPMorgan party. In November 2008, Geithner hired Alix to be a senior vice president in the New York Fed's bank-supervision group. Alix had worked closely with Geithner on a number of initiatives, including an effort to figure out how the different risks individual financial institutions were taking might destabilize the system as a whole. "I was actively thinking about how the dominoes might fall from a system perspective," Alix says. "The experience of late 2007 and 2008 was all about seeing some of those worst fears unfold.
"The loss of liquidity, the contraction of credit, and all those things that some senior people from the industry and the official sector had collectively fretted about were far worse than we had expected. It was obviously of concern to me because of the institution I was with, but it was also an abject lesson about financial-system damage that I hoped I would not experience so directly."
Unlike many critics of Wall Street, Alix does not focus on, among other things, the greed of bankers and the reliance on short-term financing for causing the near-collapse of the system. "I try to encourage people to resist the temptation to say that there are things that individual institutions could have done or regulators could have done that, if applied, you can say for sure would have avoided what happened," he says. "Some of the seemingly obvious fixes might just have shifted the problems elsewhere.
"Because in my view, economic cycles are part of capitalism, and you need the capacity to adapt to downturns in the market. But you never will know exactly what the right tools are, or the right approaches are, to avoid the worst of it while you're in it. You have to sort of experience it and learn from it."
As a semblance of normality returned to the markets during the early summer of 2008, Bob Steel began to think about what he would do once President Bush's second term ended. That's when he heard that Ken Thompson, the CEO of Wachovia, had been fired. On that same Sunday night, Steel's fellow Duke trustee, Lanty Smith LL.B. '67, called him at home in Greenwich, Connecticut. Smith, a longtime member of the Wachovia board of directors, had been named interim CEO of Wachovia and was leading the search for a permanent replacement.
At first, Steel told Smith he had no interest and was committed to staying at the Treasury until the new President was inaugurated. He gave Smith the name of five other people he thought could do the job.
One day near the end of June, Steel wandered into Paulson's office around quitting time—"just kind of goofing off," Steel recalls—and mentioned to Paulson that Wachovia had approached him about becoming its new CEO. Steel did not want his boss to hear the news from someone else. He told Paulson he was not interested. Then, he recalls, Paulson surprised him by saying, "Listen, maybe you should think about it."
At first, Steel says, he thought Paulson was firing him. But then Paulson told him, "Things are quieting down here. As soon as the election occurs, we're going to be pretty irrelevant. Maybe it's something you should think about."
After a few more discussions with Paulson, Steel called Smith, told him he was interested, and quietly resigned from the Treasury. On July 9, Wachovia named Steel its new CEO, with Smith remaining as chair of the board.
That same day, Wachovia predicted it would lose "up to $2.8 billion" when it announced its second-quarter 2008 earnings on July 22. Within a week, the stock hit a seventeen-year low, which was bad news for Steel, who had just bought $16 million of Wachovia shares. On July 22, Steel announced that Wachovia's actual loss was $8.86 billion. The bank, reeling from Thompson's ill-timed, $25.5 billion acquisition of mortgage-lender Golden West Financial in 2006, slashed its dividend and cut 6,350 jobs. The stock jumped 27 percent the day Steel announced the restructuring and another 10 percent the following day.
Steel was riding yet another roller coaster, and the bumpy ride would continue into the fall. "I tell people it was a three-act play," he says. "Act I, I show up, and basically we cut the dividend, shrink the balance sheet, and reduce head count, and that generates over the next twelve to eighteen months, $5 to $6 billion of capital. And actually that seemed okay, and the market responded, and people were kind of processing that.
"Act II is the world gets a lot more dangerous for financial-services companies, and the weak swimmers are swimming into the current as opposed to with the current or in a neutral situation. We're a weak swimmer, no question." The final act for Wachovia would come soon enough.
Meanwhile, during the first week of September 2008, John Koskinen was enjoying his retirement from four years as head of the U.S. Soccer Foundation when, on Tuesday, he got an unexpected call from Hank Paulson's office asking him if he would be interested in "helping" the administration with "a local company"—Freddie Mac, the giant mortgage lender, which was in serious financial difficulties. Paulson was about to force Freddie, along with Fannie Mae, into receivership.
Koskinen, a former deputy mayor of Washington, deputy director of the Office of Management and Budget under President Clinton, and president of the Palmieri Co., a corporate turnaround specialist, said he was willing to consider it. On Wednesday, he met with Ken Wilson, Paulson's former partner at Goldman Sachs, who had recently joined the Treasury Department. On Thursday, Koskinen met with Paulson. "I'm a fairly visible Democrat," he told Paulson, "in case you think that's a problem." According to Koskinen, Paulson replied, "No, no, that may actually help."
Paulson offered Koskinen the job as Freddie's chair. "I agreed that I would be the chairman of the board, restructure and recruit a new set of people to oversee the operation," he says about his initial role. "That seemed like an interesting challenge." Koskinen's only condition in taking the position was that the Treasury also hire an experienced CEO. That turned out to be David Moffett, a former CFO and vice chairman of U.S. Bancorp. Koskinen and Moffett got along well and set about managing Freddie through the receivership process, which began on September 7. Koskinen began restructuring the Freddie board of directors, including finding new board members.
A week later, he says, "the world fell apart."
Like the rest of Wall Street, Morgan Stanley CEO John Mack's first inkling of the depth of the financial troubles at Lehman Brothers—where Bart McDade '81 was president (he's not talking to the media these days and did not return a call for this story)—was when Geithner invited him and all the other top Wall Street CEOs down to the offices of the New York Federal Reserve Bank on Friday evening, September 12, 2008. Mack had had a brief role in the Bear Stearns drama in March 2008, when Gary Parr, the Lazard banker advising Bear, called and asked him whether Morgan Stanley would have an interest in Bear's hedge-fund brokerage business—at the deeply discounted price of $1. Mack sent a team over to examine the business during the famous March weekend, but decided to pass.
By mid-September, the dynamics had changed. Merrill Lynch and Lehman looked very vulnerable to imminent collapse. As is now common knowledge, Merrill sold itself to Bank of America on the evening of Sunday, September 14, and Lehman filed for bankruptcy in the early morning hours of September 15. Morgan Stanley briefly considered a deal for Merrill that weekend but John Thain, Merrill's CEO, wanted Mack to move fast. Shrewdly, Mack didn't fall for the bait.
"He wanted me to announce something that day, which I just wouldn't do," Mack says. "I said to him, 'John, you think I'm crazy? I'm not going to do that.' " Mack says that after he shared with Thain the news that Morgan Stanley had built up a liquidity reserve of $160 billion and was still vulnerable, Thain decided he had to sell Merrill since Merrill's cash cushion was far less.
Still, Mack knew Morgan Stanley could be next to fail. "Merrill Lynch disappears, and then there's a run on Morgan Stanley," Mack recalls thinking. "So, we go into a combination of finding more equity capital, de-leveraging our balance sheets, and being prepared to run our business. It was a period of tremendous change in a very short period of time, and everyone was on their back heels—I don't care who it was. And if by chance Morgan Stanley had gone out of business, as Lloyd [Blankfein, CEO of Goldman Sachs] said to me, 'I'm next. I'm thirty seconds behind. You've got to hold on.' "
To raise the badly needed capital, Mack had initiated discussions with Mitsubishi UFJ Financial Group, a large Japanese commercial bank, about investing as much as $9.9 billion into Morgan Stanley in return for a 21 percent stake in the firm. While these negotiations were under way—and far from certain to be consummated—the markets continued to deteriorate in the wake of the Lehman collapse and the sale of Merrill Lynch. On October 10, Morgan Stanley's stock hit an intraday low of $6.51. According to sources outside Morgan Stanley, Hank Paulson called Mack and insisted that he initiate discussions with Dimon about selling the company to JPMorgan.
"The regulators really wanted me to get out of the business," Mack says. "They wanted to have fewer problems. But we didn't think it was the right thing to do, and we were confident that Mitsubishi would come in."
In an extraordinary act of courage and defiance, Mack told Paulson he would not sell Morgan Stanley. "My view was that as long as I could stay in business, I was going to stay in business," Mack says. "Because you never know, things do change—as they did."
The day after Lehman filed for bankruptcy and AIG was rescued—to the tune of $85 billion of taxpayer money—Lanty Smith, the Wachovia chair, called a Wachovia board meeting so CEO Bob Steel could tell them how he intended to have Wachovia grapple with the rapidly deteriorating financial situation. Steel says he laid out six strategic options, ranging from "staying the course" to finding a new outside investor for "$10 to $15 billion" of capital to selling the company. "We're going to look at all six," Steel told board members. "I'm not going to be left with trying to pull on strings at the last minute. I think we should be evaluating all six lanes. I didn't want to end up in a corner with no way out." While stating a preference for remaining independent, the Wachovia board authorized Steel to pursue them simultaneously.
Steel had a conversation with Mack about a possible merger of Wachovia and Morgan Stanley. Confidentiality agreements were signed, but that effort soon fizzled. Then, Vikrim Pandit, the CEO of Citigroup, called and e-mailed Steel, beginning a furious two weeks of negotiations among Steel, his financial advisers, and a wide range of financial institutions and government regulators around the globe about whether to make an investment in Wachovia, to buy pieces of its business, to buy the whole company, or to put the company into receivership. Both Goldman Sachs and Morgan Stanley had become bank holding companies on September 21. The government forced Washington Mutual into the arms of JPMorganChase about the same time. Congress voted down the first version of Paulson's Troubled Asset Relief Program on September 30, 2008. Wachovia was teetering on the edge.
At about 4 in the morning on September 29, Sheila Bair, the chair of the Federal Deposit Insurance Corporation, informed Steel that the FDIC had decided that Citigroup would acquire Wachovia's banking operations and that Steel should rapidly negotiate a deal with Pandit. The idea was for the government to provide billions of dollars of assistance to Citigroup, which was also ailing, so it could acquire the banking business of Wachovia, while the firm's brokerage businesses would become independent. The deal, as proposed, was plenty complicated. In the end, Citigroup and Wachovia reached only an "agreement-in-principle," well short of a legally binding merger agreement.
At 7:15 p.m. on October 2, Bair called Steel and told him he would be hearing from Richard Kovacevich, the CEO of Wells Fargo, about a deal that was superior to the Citigroup proposal and that would not require government assistance. Kovacevich had looked at Wachovia in the previous weeks and had passed. Now, it seemed, he was back. Since Bair had first told Steel to do a deal with Citigroup and now was telling him to do a superior deal with Wells, Steel listened carefully. "Her enthusiasm was pretty clear," he says.
Steel left New York, where he had been meeting with the Citigroup executives, and headed back to Charlotte, where Wachovia is based. When he landed in North Carolina, his cell phone rang. It was Kovacevich. "'Bob, our board met today, and we decided that we'd like to make a proposal for all of Wachovia with no government assistance for $7 in Wells Fargo stock,' " Steel recalls he said. " 'I'm pushing send, as we speak, on a copy of the merger agreement. It's been signed by me and approved by our board, and this is the merger document that you guys gave us last week.'" Wells had not changed a word in the document.
Steel quickly convened a board meeting to consider the offer but knew "it was a hairy situation." Wachovia had a handshake deal with Citigroup—the agreement in principle—but the Wells offer was financially superior to the Citigroup proposal. "You can see pretty quickly that I'm going to be sued by somebody," says Steel now. "I'm either going to be sued for violating the exclusivity agreement [with Citigroup], or I'm going to be sued by the shareholders for not showing them a better deal. I don't think that's a very hard call. And so we accepted the merger agreement. I signed it and sent it back at about 2:30 that morning."
Steel also called Bair at home at 3:30 a.m. and told her the Wachovia board had voted to accept the Wells offer. She suggested that they together call Pandit at Citigroup later that morning. Steel didn't want to wait. "We're calling him right now," he told Bair. "I'm not going to have Vikram wake up and read in the paper about this. I've known him for twenty-five years, and he's a first-class guy, and so we should call him right now. And you should be on the phone, too, since you're the person who introduced me to Vikram, and now you've introduced me to Wells Fargo."
Together Steel and Bair called Pandit's cell phone. It was 3:45 a.m. Steel recalls telling Pandit, "There's been a pretty important development I need to fill you in on. If you want to get up and wash your face or something, go ahead, but this is a for-real call." Steel then told Pandit about the Wells offer and the Wachovia board's acceptance of it. According to the proxy statement sent to shareholders about the Wells-Wachovia deal, Pandit told Bair and Steel he believed that Wachovia was in breach of the exclusivity covenants of the Citigroup letter of intent and appealed to Bair to consider "the effect of this development on systemic issues" unrelated to Wachovia.
"He was pretty disappointed—which is an understatement," Steel says. On January 1, Wells completed the acquisition of Wachovia. Steel is now on the Wells board of directors. He remains entrenched in litigation with Citigroup, which sued him and Wachovia on October 6 over the collapse of the deal.
John Koskinen was making his way in his new job at Freddie Mac, despite the difficulties inherent in finding new board members for a company in receivership: Very few people want to serve on the board of a company controlled in nearly every way by the government. Even so, he was succeeding, when he was faced with a series of even more unexpected and dire twists and turns.
On March 2, 2009, David Moffett, his CEO, resigned unexpectedly. Then, on April 22, David Kellerman, the forty-one-year-old acting CFO of Freddie, committed suicide. "Obviously, it's been a complicated time around here," Koskinen says. "I'm beginning to feel like a one-armed paperhanger. I am now the CEO, COO, and CFO—a situation I hope to change in the near future." (The Wall Street Journal reported in late June that Charles Haldeman Jr., the chair of Putnam Investments, would succeed Koskinen.)
"It's been a stressful time," Koskinen adds. "Everybody says—and I think it's appropriate—that people who become unemployed wherever they are have major stress in their lives. But it's not as if there's a free pass for people who manage to have their jobs but find they're in the middle of these cauldrons."
While Koskinen hopes to be out of a job soon and back in retirement mode, Steel hopes to resurface somewhere important. Having left Wachovia after the Wells merger, he now spends his time as the head of Grigg Street Capital, a small firm in Greenwich, Connecticut, and as the chair of the Aspen Institute. He and a group of other investors considered buying Cowen, the investment bank, and taking it private. Another investor ultimately bought it. And his name has been bandied about as a possible successor to Ken Lewis, the CEO of Bank of America (also based in Charlotte), should Lewis retire or be removed. Steel denies being in the running for the job or that a change is imminent.
Mike Alix is enjoying himself at the New York Fed. Both Dimon and Black remain senior executives at JPMorgan. And John Mack still runs Morgan Stanley. (Although he observes that it is "healthy" to get "fresh blood to run a company," he says, "I've got a lot of energy, so I'm prepared to do this for a long time.")
As for Alan Schwartz, some eighteen months after the demise of Bear Stearns, he has resurfaced as executive chair of Guggenheim Partners, a private investment firm that manages the money of New York's Guggenheim family. Schwartz is working with his existing clients, mentoring younger employees, and helping other executives at Guggenheim on overall business strategy. Asked this past June by The Wall Street Journal whether he would have done anything differently at Bear Stearns when the company was on the precipice, he said, "No, I'm at peace with that. It's time to move on."
Editor's Note: John Mack announced in September 2009 that he will step down as CEO of Morgan Stanley at the end of the year.
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