Mack nodded and asked his assistant to phone Vikram Pandit’s office. The two men knew each other well—Pandit, then at Morgan Stanley, had been given a big promotion by Mack in 2000—but had never been particularly close.
“Steve tells me you want to do a deal,” Mack said when Pandit got on the line. “It’s tough out there,” Mack continued. “We’re looking at our options.”
“Well, we’d like to be helpful,” Pandit said, “and this could be the time to do something.”
But before he got too far he said, “I’ll come back to you. I need to talk to my board.”
The black and orange screen flickered as Hank Paulson skimmed the updates about the Reserve Primary Fund on his Bloomberg terminal. With $62.6 billion in assets, the fund was a major player, and as a result of its troubles, doubt, he could see right in front of him, was starting to spread throughout the rest of the field.
“We’ve got an emergency,” Ken Wilson said, coming into Paulson’s office and ticking off a list of panicked CEOs who had begun phoning him that morning at 6:30: Larry Fink of BlackRock, Bob Kelly of Bank of New York Mellon, Rick Waddell of Northern Trust, and Jim Cracchiolo at Ameriprise.
“They’re telling me people are clamoring for redemptions. Hundreds of billions of dollars where people want out!” Wilson said. “People are concerned about anyone who has any exposure to Lehman paper.”
Paulson fidgeted nervously. The Lehman-induced panic was spreading like a plague, the black death of Wall Street. The money market industry needed to be shored up. Wilson also told him that he was hearing that Morgan Stanley was coming under pressure from hedge funds seeking redemptions as well. And if Morgan Stanley were to go, Goldman, the firm where both had spent their entire careers, would likely be next in line.
“Another day, another crisis,” Paulson said with a nervous laugh that betrayed an uneasy sense that he was truly beginning to panic himself.
Paulson’s instinctive response had been serial deal making—the private sector’s solution to systemic problems. Firms consolidated, covered one another’s weaknesses.
But this situation didn’t feel normal, in that respect; behind every problem lurked another problem. He may have been praised for not bailing out Lehman, but he could see now that the unintended consequences had been devastating. The confidence that had supported the financial system had been upended. No one knew the rules of engagement anymore. “They pretended they were drawing a line in the sand with Lehman Brothers, but now two days later they’re doing another bailout,” Nouriel Roubini, a professor at New York University’s Stern School of Business, complained that morning.
And now he could understand it: commercial paper and money markets—that was his bread and butter, Goldman’s specialty. The crisis was hitting close to home.
Across town, Kevin Warsh, a thirty-eight-year-old governor at the Federal Reserve, whose office was a few doors down from Bernanke’s, was having his own worries.
He was just finishing up a conference call with Bernanke and central bankers in Europe and Asia in which they explained what they had just done with AIG. Jean-Claude Trichet, the president of the European Central Bank, had been furious with them for their decision to “let Lehman fail” and was lobbying Bernanke to go to Congress to implement a large government bailout for the entire industry, to restore confidence.
But Warsh was nervous about a different issue: Morgan Stanley, where he had worked as an M&A banker before leaving seven years earlier to become special assistant to the president for economic policy. He could tell that his former firm was quickly losing confidence in the marketplace. To him, there was an obvious solution to its problems: Morgan Stanley needed to buy a large bank with deposits. His top choice? Wachovia, a commercial bank with a large deposit base that itself was struggling. Wachovia’s 2006 acquisition of Golden West, the California-based mortgage originator, was turning into a catastrophe, saddling the bank with a giant pile of bad debt that was beginning to reveal itself.
Given that no one at Treasury was allowed to talk to Bob Steel now that he had become CEO of Wachovia, worrying about that firm had become Warsh’s responsibility. And he increasingly had more to worry about: as a former deal maker himself, he knew that Wachovia, too, needed a partner desperately and he just might have to play the role of matchmaker. There is no way the bank will make it on its own, he thought.
But like Paulson with Goldman, Warsh had his own conflict-of-interest problem with Morgan Stanley, so he sought out Scott Alvarez, the Fed’s general counsel, and requested a letter clearing him to make contact with his former employer, based on an “overwhelming public interest.”
Warsh contacted Steel and instructed him to call Mack in twenty minutes, which left him enough time to give Mack a heads-up.
Warsh then called Geithner and asked, “Do you want me to call John? Or do you want to call John?”
They decided to call him together.
Despite its terminal illness, Lehman Brothers was bustling with activity. Legions of sleep-deprived, depressed traders, lawyers, and other employees were still working the phones and doing what they had to do before closing up the shop. Fresh in their minds was the memo that Dick Fuld had sent out the previous night: “The past several months have been extraordinarily challenging, culminating in our bankruptcy filing,” he wrote. “This has been very painful on all of you, both personally and financially. For this, I feel horrible.” To some angry employees, it was an extraordinary understatement that called to mind Emperor Hirohito’s famous surrender broadcast on August 15, 1945, when he told a stunned nation that “the war situation has developed not necessarily to Japan’s advantage.”
But later that day, Bart McDade, Skip McGee, and Mark Shafir, working off of four hours’ sleep in three days, were able to announce a welcome bit of good news: Though it was far too late to save the entire firm, Lehman had an agreement to sell its U.S. operations for $1.75 billion. The buyer was Barclays, Lehman’s onetime would-be savior, which ended up getting the part it wanted without having to acquire the whole firm. The deal would allow at least some of Lehman’s ten thousand employees in the United States to keep their jobs.
As McDade, McGee, and Shafir walked the floors, some employees stood up to applaud.
Mack knew what Bob Steel was calling about, and he was happy to speak with him. Both men were graduates of Duke and members of the university board, and not long after Steel had taken over at Wachovia, Mack had gone down to see him in Charlotte, to pitch Morgan Stanley as an adviser. No business had come out of the meeting—the bank had Goldman to help them sort through the Golden West quagmire—but the men realized they spoke the same language and agreed to stay in touch.
“Very interesting times,” Steel now said. “I imagine you’ve already heard from Kevin. He told me he thought we should connect.”
Steel went on, intentionally keeping the discussion vague until he gauged Mack’s intentions. “There might be an opportunity for us. We’re thinking about a lot of things. I think this could be the right time to talk. But we’d need to move fast.”
“I could see something,” Mack replied, intrigued but noncommittal. “What’s your timing?”
“We’re moving in real time,” Steel said.
Considering the meltdown in the markets, Mack thought it was at least worth talking. For Steel, a Morgan Stanley deal happened to be both commercially and personally attractive. All the tumult within the firm had left Mack without a clear successor. While he may not have wanted Mack’s job immediately, their mutual friend Roy Bostock, a Morgan Stanley board member, had privately hinted to Steel that a deal between Morgan Stanley and Wachovia could present an elegant solution to Morgan’s succession problems down the road. This could be Steel’s big opportunity to finally run a top Wall Street firm.