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Saturday, September 13, 2008

"An Epidemic of Capital Destruction" -- NYTimes

“You have to think of this like there is an epidemic going on — an epidemic of capital destruction,” said James L. Melcher, president of the hedge fund Balestra Capital, who has been bearish on the stock market.

Portion below; whole thing here: http://www.nytimes.com/2008/09/14/business/14spiral.html?pagewanted=all

As Lehman Brothers raced to find a buyer on Saturday, federal officials and Wall Street chieftains mapped out options to prevent an abrupt collapse of the crippled bank and arrest the downward spiral threatening other financial companies.

Several possibilities began to emerge as top Wall Street executives met under the guidance the Federal Reserve and Treasury Department. One would involve major banks and securities firms providing a financial backstop to facilitate a sale of Lehman. Another option would involve an agreement among Wall Street players to keep trading with Lehman as the bank seeks an orderly liquidation.

Those briefed on the talks said the situation was still fluid and other options could emerge.

Adding urgency to the discussions were growing concerns that other big financial institutions like the insurance giant American International Group and Merrill Lynch might face a similar crisis and also need billions of dollars in capital to strengthen their businesses.

The spreading troubles were the latest sign that even the government’s extraordinary interventions into private enterprise during the last year have not been enough to halt the unraveling of the financial system.

As the trading week ended, top officials from the Federal Reserve and the Treasury Department called an emergency meeting in Lower Manhattan with the heads of major Wall Street firms to insist that they find a way to rescue Lehman because their own companies might be next. The meetings, which involved top executives from Goldman Sachs, Morgan Stanley, JPMorgan Chase, Citigroup and other financial companies, continued on Saturday.

The group was working on two main contingency plans in case Lehman is unable to strike a deal to sell itself to one of several suitors — Bank of America or two British firms, Barclays and HSBC. Under one possibility being discussed, major financial firms would jointly inject new capital into Lehman, allowing it to spin off its portfolio of troubled securities into a separate company.

Under another option, Lehman would start an orderly liquidation of its assets on Monday. Its major competitors would agree to keep doing business and trading with Lehman as it unwound its business and portfolio.

The Fed’s call for Wall Street institutions to support one of their own comes at a time when many of them are also short on capital. And yet entities that do have cash ready to invest, namely private equity firms, are not at the table.

Regulators do not want those firms, which borrow money to buy companies, controlling major financial institutions that provide the financing for their acquisitions. Many foreign investors, for their part, are reluctant to buy now after having seen earlier investments drop sharply in value.

For months, Lehman and other companies assured investors that they had a handle on troubled assets tied to real estate. But those assets turned out to be worth less than the firms had thought.

As a result, many investors are no longer sure what such financial companies are worth, and they do not want to invest in them until they do. Many hedge fund managers and other traders have profited handsomely from bets that these stocks would fall in value.

Companies that took the biggest risks and used debt aggressively to build their businesses stumbled first, and now healthier companies are coming under pressure. Loans that were considered far better than the subprime mortgages, which kicked off the panic, turned out to be only marginally safer.

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