Crooks and Liars
By ERIC DASH NYT 3/12/10
They were considered the dregs of Lehman Brothers — “bottom of the barrel,” as one banker put it. But as Lehman executives tried to keep the floundering bank afloat in 2008, they used these troubled investments to raise quick cash that helped mask the extent of the firm’s troubles. And they did it with the help of the Federal Reserve Bank of New York.
The newly released report on the collapse of Lehman Brothers — which lays out what it characterizes as “materially misleading” accounting at the bank — also sheds surprising new light on Lehman’s dealings with the New York Fed.
Lehman engaged in a series of transactions with the New York Fed that were similar to the ones that drew criticism from the bankruptcy court examiner who investigated its collapse. The examiner, Anton R. Valukas, drew no conclusions about the transactions with the Fed, and focused instead on deals that were known inside Lehman as “Repo 105.”
But the report by Mr. Valukas nonetheless raises fresh questions about the role of the New York Fed in supporting Lehman during the frantic months leading up to its collapse. It suggests that Lehman executives believed the Fed would be able to help the bank avert disaster and provide it with a business opportunity.
“Bernanke and Co. may have ‘saved the day’ ” a Lehman executive, Geoffrey Feldkamp, wrote in an e-mail message to a colleague in March 2008, according to the report. Neither Ben S. Bernanke, the chairman of the Federal Reserve, nor Treasury officials saved Lehman, of course. But it was that month that the Fed started a special lending program open to Wall Street banks like Lehman that could not borrow directly from it. The Fed also lowered its standards for the kinds of collateral that it would accept against such short-term loans.
Lehman, desperate for financing, seized its chance. It packaged billions of dollars of troubled corporate loans into an investment called Freedom CLO. Then, in a series of transactions, it shifted Freedom back and forth to the New York Fed, in exchange for cash. Those moves helped make Lehman look healthier.
Essentially, Lehman was able to temporarily warehouse illiquid investments that were worrying its investors at the New York Fed in return for cash. The Fed created this facility immediately after the near collapse of Bear Stearns. Some suspect that other banks engaged in similar maneuvers.
“There were a number of tricks designed to make their balance sheet look stronger than it was,” said Janet Tavakoli, a structured finance analyst. “And they weren’t alone.”
A spokesman for the New York Fed said the loan facility was created to help the entire financial system and prevent the problems at one bank from cascading. The collateral accepted from Lehman met the Fed’s standards, he added. A third party valued it, the Fed accepted it and then reduced prices to limit the risk.
In March 2008, Lehman packaged 66 corporate loans to create the $2.8 billion Freedom CLO, which it planned to use exclusively for transactions with the Fed, the examiner’s report found.
The idea, according to a former Lehman trader familiar with Freedom, was to temporarily reduce the size of Lehman’s balance sheet. The Repo 105 transactions, according to the examiner, were created with a similar goal in mind. The deals with the New York Fed let Lehman pledge Freedom — a mix of low-quality assets, plus some cash — in return for all cash from the Fed.
According to the examiner’s report, New York Fed officials were aware that Lehman viewed the lending facility as an opportunity to finance a bundle of loans that it could not offload easily to a rival bank. In August 2008, Lehman tried to pledge Freedom CLO and similar investments as collateral for its trading positions with Citigroup. A Citigroup executive rejected the offer as “junk” that was impossible to value, the report said.