A $50 million margin call? I'll short Wall Street.

Chapter 16 Bear Stearns

February 8, 2008, 3 PM.

383 Madison Avenue, Manhattan.

Bear Stearns headquarters building, 42 floors.

Wall Street should have been deserted on Saturday afternoon.

But at this moment, Bear Stearns CEO Alan Schwartz's office was full of people.

Schwartz is 61 years old, with gray hair and wears frameless glasses.

He had worked at Bear Stearns for 32 years and had just taken over the position from former CEO James Caan three months ago.

He originally thought he would lead Bear Stearns through the aftermath of the subprime crisis in this position and then retire in glory five years later.

But now, he feels that he has taken over not a giant ship, but a powder keg that could explode at any moment.

There were eight people sitting in the office.

CFO Sam Molinaro, 54, holds a thick stack of financial statements in his hand.

Chief Risk Officer Michael Alex, 49, has real-time risk exposure data flashing across his laptop.

There are also several senior vice presidents and board members.

Everyone looked rather pale.

Say it again.

Schwartz took off his glasses and pinched the bridge of his nose.

"What exactly did Rabobank say?"

CFO Molinaro cleared his throat:

"Late Friday night, at 4 a.m. Saturday European time, the head of global finance at Rabobank called me."

He said that based on adjustments to its internal risk management policies, Rabobank decided not to renew its short-term repurchase agreement with us. The agreement involves $5 million, secured by AAA-rated mortgage-backed securities.

"The wording was very polite, emphasizing that this was not targeting Bear Stearns, but rather part of their overall tightening of credit exposure."

Schwartz frowned. "Do you believe it?"

Molinaro paused for a second:

"I don't completely believe it."

Why?

"Because the timing was too perfect."

Molinaro said,

"Moody's just downgraded the rating outlook for some of our MBS, and negative news about subprime mortgages is increasing in the market. It's hard to call it a coincidence that Rabobank is suddenly withdrawing at this time."

"More importantly..."

He paused.

"Rabobank is the only AAA-rated bank globally. Their risk management standards are the benchmark for the entire industry. If they set this precedent, other European banks are likely to follow suit."

A brief silence fell over the office.

Schwartz looked at the Chief Risk Officer:

"Michael, how's our liquidity situation?"

Alex brought up an Excel spreadsheet and projected it onto the screen on the wall:

"As of yesterday's market close, our liquidity reserves stood at $182 billion."

"Of these, $118 billion is in cash and cash equivalents, and $64 billion is in readily convertible U.S. Treasury bonds and high-grade corporate bonds."

"Our short-term debt exposure—that is, financing that needs to be repaid or renewed within the next thirty days—totals $237 billion."

Schwartz stared at the numbers:

"So, there's a shortfall of 55 billion?"

"Theoretically, yes."

Alex said,

"But this is based on the extreme assumption that none of the short-term funding rounds will be renewed. In reality, our repo renewal rate has been above 95% for the past few years."

"Even if Rabobank doesn't renew, we have dozens of other counterparties."

"and,"

He switched to another form.

"We still have the Federal Reserve's discount window as a last resort for liquidity. If a bank run really occurs, the Fed will not stand idly by."

Schwartz nodded, but his brow remained furrowed.

The problem is, the market doesn't look at these details.

He leaned back in his chair.

"The market only looks at signals. Rabobank's withdrawal of investment is a very bad signal."

"Therefore, we need to issue an announcement before the market opens on Monday."

Molinaro said,

"We clearly told the market that we have ample liquidity and a healthy financial position. We nipped those rumors in the bud."

How to write an announcement?

Schwarz asked.

"Three points to emphasize."

Molinaro counted on his fingers.

"First, our liquidity reserves exceed US$180 billion, far higher than the industry average;

Second, our capital adequacy ratio meets regulatory requirements, with a core tier 1 capital ratio as high as 10.5%;

Third, Rabobank's decision is an isolated incident and does not represent the market's overall confidence in us.

"Speak firmly, but don't be overly defensive."

Schwartz pondered for a moment.

"Okay. Draft a version and send it to the board for review. Aim for a final draft by Sunday night and release it an hour before the market opens on Monday."

"clear."

Molinaro wrote it down in his notebook.

Schwartz looked at the others:

Are there any other questions?

"There is one."

A vice president in charge of institutional sales raised his hand.

"Yesterday afternoon, I received several calls from European clients asking about our views on subprime exposure. Their tone was generally cautious."

"I suspect that it's not just Labo Bank that received some... intelligence."

Schwartz's eyes narrowed: "What kind of intelligence?"

"I'm not sure. But a client mentioned the term 'underlying asset default rate.'"

The vice president said,

"The data we disclose is risk-adjusted, but if someone obtains the raw data..."

He didn't continue speaking.

But everyone understood what he meant.

Another silence fell over the office.

Schwartz took a deep breath:

"Strengthen communication with key counterparties, especially European institutional investors. Let them know that our financial situation is very healthy and that those so-called 'insider data' are fabricated by malicious short sellers."

"clear."

"besides,"

Schwartz looked around.

"This matter should not be publicized for now. It's enough for the board and senior management to know. I don't want to cause internal panic before the market opens on Monday."

Everyone nodded.

End of the meeting.

People left one after another.

Schwartz sat alone in his office, looking out at the gray sky.

Madison Avenue was deserted.

Only a few taxis occasionally drove by in the distance, leaving blurry streaks of light and shadow.

He picked up the landline on the table and dialed a number.

It rang three times before the other end answered.

"Feed?"

It was an old voice, tinged with obvious weariness.

"Jimmy, it's me."

Schwartz said.

Jimmy Kane, the former CEO of Bear Stearns, stepped down three months ago, but remains one of the company's largest individual shareholders.

"Allen."

Kane's voice sounded a little hoarse.

"I've heard about it. The Labo Bank thing."

What do you think?

Schwarz asked.

There was a long silence on the other end of the phone.

This isn't the first time.

Kane finally said,

"In the summer of 2007, when two of our hedge funds went bankrupt, several European banks withdrew their investments. But we weathered the storm."

"We'll pull through this time too."

"But that time we didn't face a market-wide crisis of confidence."

Schwartz sighed.

"Jimmy, there are more and more rumors circulating. They say our CDO holdings are all junk, that our leverage ratio is alarmingly high, and that we could collapse at any moment."

"That's all nonsense."

Kane's voice was deep and firm.

"Allen, listen to me. Bear Stearns has been in this industry for 85 years. We've weathered the 1987 stock market crash, the 1998 LTCM crisis, and the 2001 dot-com bubble burst."

"Every time, someone said we were finished. But every time, we survived."

"Because our foundation is solid."

Schwartz did not speak.

"Issue your announcement."

Kane said,

"Let the market know we have $180 billion in liquidity. Shut up those panicking fools."

"Then, just get through this month."

Schwartz nodded:

"good."

He hung up the phone.

The office returned to silence.

He walked to the window and looked out at the city.