Bear Stearns collapses 40% after Fed/JPMChase support deal

[Francesca R]

Yikes! Now what? A rescue operation has had the effect of sounding the panic bell.

NEW YORK, March 14 (Reuters) - JPMorgan Chase & Co and the Federal Reserve Bank of New York on Friday agreed to provide emergency financing to Bear Stearns, after the investment bank said its cash position had deteriorated sharply.

Bear Stearns shares fell nearly 40 percent after the news of the financing, the latest in the Fed's efforts to soothe financial markets that are increasingly fearful.

"Our liquidity position in the last 24 hours had significantly deteriorated. We took this important step to restore confidence in us in the marketplace, strengthen our liquidity and allow us to continue normal operations," said Bear Stearns Chief Executive Alan Schwartz. "Bear Stearns has been the subject of a multitude of market rumors regarding our liquidity. We have tried to confront and dispel these rumors and parse fact from fiction." Bear Stearns, the fifth-largest U.S. investment bank, has more exposure to the U.S. bond markets than its competitors, and has a large mortgage-backed securities business.

 

[boloboffin]

JPMorgan is buying Bear Stearns at $2 a share.

http://news.bbc.co.uk/2/hi/business/7299938.stm

$236 million, all told. Yes, that's an "m".

Hold onto your butts. Tomorrow's going to be interesting.

 

[a_unique_person]

Safe as houses.

 

[Francesca R]

Bear Stearns' book value could be negative. By buying the bank for almost nothing, JPM Chase is guaranteeing Bear's trading obligations so it if it sitting on net losses then JPM could have "overpaid", because the losses simply transfer to JPM. The precise value of any investment bank's trading book is not well known at present because of the extreme difficulty in valuing many fixed income securities. I don't see how JPM would have been able to have a very detailed picture over the weekend, although I assume it now knows a lot more than the rest of us do.

The run on Bear Stearns last week appears to have been the investment bank equivalent of the run on Northern Rock last September: even quicker. If JPM Chase could not have been persuaded to buy it then I suspect we would have been treated to the spectacle of the US government nationalising a Wall Street trading shop. This would have been a state bailout of Bear Stearns' creditors (though not its equity holders). As it is, the extension of Fed liquidity and collateral acceptance in term lending does amount to some measure of government support of trading counterparties.

 

[IllegalArgument]

Good point Francesca, it will be interesting to see what BS's actual losses total.

If I hear anything about Star Wars named hidden accounts.... it's going to get ugly for JMP Chase.

 

[Francesca R]

I made a thread several months ago about limited liability . . . among other things one of the thoughts therein was that limited liability was incompatible with social situations where losses cannot be limited and risk cannot be unloaded, and that it encouraged excessive risk taking. I wasn't particularly thinking about bank failures here, in which the major problem may be bank executives acting contrary to shareholders' interests (rather than shareholders' interests being opposite to society's).

But one thing has struck me here: Bear Stearns' liability in respect of its obligations to other parties would have ended at the point at which its net worth was zero. But JPM Chase "buying" Bear Stearns for "free" is effectively extending the liability by transferring it from (financially spent) Bear stock to still-solvent JPM stock. Technically this allows Bear Stearns' market value to trade below zero, because it is no longer a separate entity. Of course everyone hopes it will come back above zero. But without the ability to trade below, there could be no hope of that. There would also be very different and massively negative system externalities

I note that the government (by implication society) and the private financial sector all appear to prefer it this way, in preference to Bear Stearns going broke and defaulting.