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Bear Stearns, founded in 1923, was the first of the top 5 fallen investment banks. By the end of May, Bear Sterns’ end was complete. JP Morgan Chase bought Bear Stearns at $10 a share, in stark contrast to its 52-week high of $133.20 a share. Then September came. And Wall Street and the world watched as, in just a few days, the remaining investment banks slipped into the top five and the investment banking system was declared broken.
Fundamentals of investment banking
The largest investment banks are big players in tertiary finance, helping large corporations and the government to raise money through such means as dealing in securities in both the stock and bond markets, as well as by providing professional advice on the more complex aspects of tertiary finance. Among these are things like acquisitions and mergers. Investment banks also deal with the trading of a variety of financial investment instruments, including derivatives and commodities.
This type of bank is also involved in mutual funds, hedge funds, and pension funds, and is one of the main ways the average consumer gets a feel for what’s going on in the world of high finance. The dramatic decline of the remaining major investment banks affected retirement plans and investments not only in the United States, but also around the world.
High funding that brought them down
In an article titled “Too Smart in Half,” published on September 22, 2008, by Forbes.com, Princeton University Chemistry Bank Chair Economics Professor and writer Burton J. It happened. While the catalyst for the current crisis was the collapse of mortgage lending and the bursting of the housing bubble, its roots lie in what Malkiel calls the breaking of bonds between lenders and borrowers.
What it refers to is the shift from the banking era in which a loan or mortgage was made by a bank or lender and was in the possession of that bank or lender. Of course, given their hold on debt and the risks associated with it, banks and other lenders have been fairly cautious about the quality of their loans and have weighed the possibility of repayment or default by the borrower carefully, against commonsense criteria. Banks and lenders have moved away from this model, toward what Malkiel calls the “create-distribute” model.
Rather than holding mortgages and loans, “mortgage originators (including non-bank institutions) will only hold loans until they are bundled into a complex pool of mortgage-backed securities, divided into different tranches or tranches that have different priorities in right to receive payments.” of primary mortgages,” with the same model also applied to other types of lending, such as credit card debt and auto loans.
As these debt-backed assets were sold and traded in the investment world, they became increasingly leveraged, with debt-to-equity ratios often reaching 30 to 1. This manipulation and dealing often took place in a shady and unregulated system that came to be called shadow banking. . As the degree of leverage increased, so did the risks.
With all the money to be made in the shadow banking system, lenders are becoming less selective about who they lend to, as they no longer own the loans or the risk, but chop them up and slice them up, repackage them and sell them at a profit. Crazy terms become commonplace, no money, no documents required, and the like. Expensive exotic loans became commonplace, and lenders marched deep into the sub-prime market to get more loans to make.
Finally, the system nearly came to a halt as home prices fell and loan defaults and foreclosures increased, as lenders were offering short-term loans to other lenders out of fear of making loans to such increasingly leveraged and illiquid entities. Declining confidence can be seen in the drop in share prices as the last major investment banks are mired in shaky debt and investors fearful.
September saw Lehman Brothers fail, Merrill Lynch opt for a takeover collapse, and Goldman Sachs and Morgan Stanley drop to bank holding company status, with potential buyouts looming on the horizon. Some of these investment banks are nearly a century old, others are longer, like the 158-year-old Lehman Brothers. It is an utterly upsetting end for these historical giants of finance, wrecked by a system of great financial profligacy and shady dealings, a system that, when it collapses, could end up dragging the entire world economy down.
