Challenging times to head an investment bank

Reading today's financial news, one article that struck me was http://www.reuters.com/article/marketsNews/idINN2839680920081028?rpc=44. The article was about a negation by Morgan Stanley (MS) of a rumor on its exposure to losses in Citadel Hedge Fund and Volkswagen. Similarly, about 2 - 3 weeks back, MS had to re-issue assurance statements on daily basis that its 21% sale of share in the company stock to Japan's largest bank Mitsubishi UFJ Financial Group was on. This was primarily to counter the rumors on the news boards and wall street that the Japanese bank would back out. The two together brings a thought to my mind on what managements can do in these highly volatile times.

These are undoubtedly challenging times for investment banks and their management. Largely abreast of the latest financial news, I started to see the value and challenge in the role of being a CEO of an investment bank in these un-ordinary times. The scope shift in the role where primary responsibilities shuffle around with market psychology, a dormant constituent in a normal situation moves up in the list; ensure rumors, speculators and suspicions do not play a detrimental role to the health of the company. The CEO and his team have to turn around quickly to the latest news and word on the wall street or main street and ensure the right message - be it negation or assertion, is communicated effectively and widely.

A lack of self-discipline and regulation in most of the banks in their rat race for greed, added to which was a regulation-free environment, has resulted in where we are today. The whole picture is so murky that large or small investors have little or no insight in the state and health of a bank, thus resulting in a lack of confidence in all the major investment banks. This in turn has resulted in an breeding environment for rumors, speculators and suspicion. To gain the confidence back in such an environment is going to be an uphill task for even the greatest of the management.

These are the times where CEO's have to prove their mettle in critically evaluating the situation on a daily basis. To enlist a set of actions, I started to imagine how a CEO in this role would spend his time and below is the list:

- cash reserves: cash is the most dearest asset in today's financial doldrums. Banks need to continuously evaluate if they have enough liquid cash to enable them meet their daily commitments to run the business. This would mean cash-to-debt ratio should be really healthy.

- means and sources to raise cash: contineously keep a tab on potential investors who can pump money into the company when required. Keep this channel open. What assets can be sold off to enable the company raise healthy cash. The analysis is critical here since sometimes the dearest and most profitable assets may have to be let go to raise cash in these time. Surely mortagage based asset would reap nothing for the company.

- government: Keep in touch with the Fed and Treasury on the state of the company and seek additional help as required from the government.

- mergers or sell-offs: Analyze into the forseeable future, if the conditions seem to go for the worse, seek mergers or sell 0ff the company as Meryll Lynch CEO John Thain did promptly. Today he is considered by the educators in management schools as an example of how a CEO can ensure the share holders money in the company is not totally lost, in contrary to the style of Lehman Brothers. There is a thin line between belief in the company and performance of the company.

- a feel of market psychology: the management may have little control over this but it must monitor the news, the word, the feel of the market and ensure any rumors or negative talk is effectively quashed. The management must also be abrest of the latest state of their industry, especially peer companies since the phenomenon of 'peer effect' is contagious and in bad times detrimental.

- evaluate the performance of assets: Continuously seek reports from the lower management on the health of existing asset. These assets need not be performing well or even if making losses is fine as long as their health is not depreciating exponentially. Well, any asset that is returning profits is a dear one. The management must have a record of the best performing and worst performing assets to continuously keep a tab on the profits and losses.

- international markets: evaluate the international operations and how the markets there are reacting to news and ensure all the above are followed too there.

Overall, these are times where every CEO is challenged on how he /she manage situations beyong their control and ensure best possible returns for the share holders of the company. It is these times that a CEO should be evaluated in terms of cost to the company and appropriately compensated. It is not necessary that he / she continues to be a CEO of the company at the end of this tumultous period but more in how much value add his share holders see in the company.
I am sure most of us will be here to see and judge the best of the managements. After all, challenging times are what bring out the best of humans.

I am not a financial expert and at the least not even in the financial industry. So please take all the above with a little more salt.

economic crisis and solution

Some of the folks who were in strong support of government intervention were finally happy to see the $700 billion dollar bill pass in the US Congress on Friday, the 3rd Oct. But paradoxical part of the day was the stock market which was going north went south after the bill was passed. The only reason I could see was there was still bad news flowing in from not only the US but also from Europe and other parts of the world. Although the bill has now been signed by the US president, the question still remains on how the money would be used - who gets the money, which mortgage securities are considered bad and to with what relativity.

Well, my question is, as some of you may have already asked, should the government even buy up these mortgage securities from banks? To add more claritiy, my question is about how the government should intervene rather than should the government intervene. It is long due for regulators to step in and take hold of the situation.

Why should the government intervene? The whole world runs on money. From the time you wake up in the morning - your brush, paste everything runs on money. And the folks who manage all the money have us by the throat. When financial markets freeze,
- business who depend largely on loans to run their daily activities can not obtain any credits or loans,
- employee funds who invest in financial markets can not withdraw any money for their day to day business as some of the schools scrambled to banks on Friday to withdraw money to pay teachers,
- retirement savings are lost,
- even governments themselves, who carry huge deficits on their balance sheets, can not obtain loans as California Governor Mr Schwanazer issued an emergency request to Treasury secretary Paulson stating the state requires $7 billion to meet its demands immediately,
and the viscious cycle just keeps getting worse. For the common man he is going to be affected by all the above.

So how should the government chip in? In trying to understand the role of government in a capitalist economy, I started to analyze where the crux of the problem actually lies. Using the top down approach, all the noise we see and hear is due to banks going belly up and writing off huge losses. The primary reason stated is bad mortgage bets in terms of securities or bonds or credit swap loans etc.. Why are these mortgages bad? The people who have taken these loans to purchase real estate are unable to pay the money for reasons:
- their fixed low interest rates of 2% or so has now become 6%+ i.e approx 3 times. The locked in rate when they acquired the loan was for a fixed time and the time has expired.
- Have been just able to meet their ends while for the past year or so the inflation has added stress to their budgets that has in turn resulted in accumulation of additional credit card loans etc..

So the crux of the problem seems to lie at the lowest level. This is where the government should be concentrating their primary efforts. Biggest assumptions of today are:
- all mortgage loans are bad. There is no or little tracebility in the investment industry since the loans have been packaged and re-packaged by multiple people.

Some of the options, that I believe, could alleviate common man from defaulting on loans are:
- extend the loan time frame. Today if it is a 30 yr loan, extend it to say 40 yrs. The banks atleast get their money back but over a longer time frame. This is not un-common to most of the banks.

Questions arise such as:
- The mortgage loans are packaged as securities by banks and sold or held as collateral. Today the banks are unable to pay up the required amounts to cover these investments and there by defaulting. Defaulting results in the credit swap's (an insurance in financial industry for defauling to pay) coming into play where the insurers have to pay up. So who takes these losses? My answer is the financial companies MUST take these losses since they have hedged their bets on it and obviously relish or pain involved in profits or losses. The government has not role in here. At the same time, most of the loans have not gone bad since people continue to pay but in lesser amounts for a longer period of time.
One big question here is about people who have hedged their bets in real estate purchasing more than one home. I, personally believe these people would invested to reap huge profits from real estate should have been prepared to take on the losses. So who owns these loans. This is where the government intervenes by taking over these loans and ensuring these folks pay up for their bad deeds over a much longer run - either by directly taxing them more than others or by other means.