The Weekend That Changed Wall Street

doing their due diligence, taking apart Lehman’s books, and they would continue, sleepless, throughout the weekend.
“It was clear to us that this was a fantastic franchise,” Diamond recalled to me. “The scope of its business was impressive and many were operating very well.” But the drawbacks were just as striking, and they all boiled down to one reality: Lehman had no liquidity.
Now Diamond was feeling the stress. He was not a poker player, and this was a beads-of-sweat-inducing moment. “It was stressful. It was emotional,” he told me later. “We realized we were playing for big stakes. So, on one hand, we knew that if Lehman went into bankruptcy, there would be huge implications in the market. On the other hand, we wanted to look at whether or not there was a transaction that made sense for Barclays, as well as for the markets.”
The problem: Hank Paulson’s insistence that there would be no federal backstop, no bailout, no sweet Bear-style deal. Bob Diamond wanted Lehman. But could it happen? Would his own regulator, Britain’s Financial Services Authority, allow a sale?
John Thain had been riding high for some time. His career was on a fast track. He was savvy and cerebral, with a square jaw and a bland demeanor, and a résumé that was rock solid. Thain had been president and co-chief operating officer at Goldman Sachs before becoming CEO of the New York Stock Exchange. He had held the top job at Merrill Lynch for only nine months. When he was brought in to replace the retiring chief executive, Stan O’Neal, everyone on Wall Street had been surprised. The scuttlebutt was that Thain would be tapped to replace Chuck Prince at Citigroup and that Larry Fink of BlackRock would take over Merrill. But I was told that Fink would not entertain the idea unless he was allowed to review Merrill’s balance sheet and accounting, a reasonable request that the board denied. So Thain was the choice. He was hired to strengthen a rudderless company, as he told me in November 2007 when he started his new job. “The board is looking for leadership,” he said. “The board is looking for strategy and direction. The board is looking to unify the company.”
From the outset Thain was aggressive in his efforts to strengthen Merrill. His first task was to get rid of the bad assets on Merrill’s books. He brought in highly paid, talented executives—many of them former colleagues from Goldman Sachs. Among them was a top examiner whom he paid $40 million to clean up the books. Hearing about the exorbitant number, I asked Thain, “Is it true? How do you justify bringing this guy over and paying him so much?” Thain defended the idea. “That’s right,” he said. “I’m going to pay him. He’s a talented guy, and I am going to pay top dollar to ensure this never happens again.” It was a huge payday for the examiner, who wound up staying three months.
Now, sitting at the Fed, Thain listened carefully to what was being said. For Thain and his colleagues it was glaringly apparent that much more was at stake than just the future of Lehman Brothers. This was a massive wake-up call, a thump on the head to all the Wall Street firms. It was no longer about one firm failing—be it Bear Stearns or Lehman—it was about the tangled interconnectivity. The major Wall Street firms were like climbers roped together on an icy slope. Earlier that day, Merrill’s board of directors had a conference call with Thain expressing concerns that the short-sellers would be coming after Merrill next. No one was immune. “I’d better figure out how to protect Merrill,” he thought, “or we could be next.” Although Thain had assured his board that Merrill was no Lehman, he could envision a similar downward spiral occurring, especially if the short-sellers set their sights on his firm, creating a run on the bank.
Paulson and Geithner were pushing the top firms to share the burden. Politically, Paulson didn’t think he could save another Wall Street firm. There was too much pressure, especially from Republicans in Washington, to not bail out anybody else. He wanted the rescue, if there were to be one, to come from Lehman’s counterparts.
“We have to figure out what needs to be done here,” Paulson told them. He outlined the options, including potential mergers. Lloyd Blankfein, CEO of Goldman Sachs, thought things were moving a little too fast. “All right,” he said, preparing to leave, “let me think about this and I’ll get back to you. I have to speak to my board.”
“Yeah, you can think about it,” Paulson replied, pointing in the direction of meeting rooms down the hall. “Take a room. We’re going to fix it this weekend. You’re not going anywhere. If you need to talk to your boards and bosses, you’ll have privacy. But we’re doing it this weekend, before the Asian markets open Sunday night.”
Morgan Stanley’s John Mack sat gloomily at the table, feeling that the March sale of Bear Stearns had been a dress rehearsal for the big show that was now happening before him. He had spoken to Dick Fuld on several occasions in recent months, trying to figure out if there were things that could be done—assets that could be purchased, even a merger. But nothing was clicking. “You had this sense,” he told me later, “that we were all tracked for some change, especially Lehman. What that meeting brought to the forefront was the reality of it and the impact of it. I don’t think we fully understood until then how bad it really was. The question was, how did you contain this contagion? Could you build a buffer that stopped with Lehman?”
Mack contemplated the possibility that the markets really could melt down. He didn’t feel scared, but the determination was growing in him, and he could see it in others around the table. They had to fix this problem.
Robert Wolf, chairman and