Wall Street got what it asked for

A return to regulation

Commentary: Its Wild West era over, Wall Street puts down the gun

By David Weidner, MarketWatch

Last Update: 12:01 AM ET Mar 18, 2008

NEW YORK (MarketWatch) — Remember the good old days when Wall Street’s biggest
“problem” was too much regulation?

Those federal watchdogs Wall Street told us were doing everything possible to
drive away business are now nursing an industry in critical condition.

Without the Federal Reserve’s blank check backing the big investment banks, the
financial wheels would be grinding to a halt today, and Bear Stearns Cos. (BSC)
would be the first in a long line of brokerages at bankruptcy court.

Who knows? It still could happen, even with the Fed’s help.

Don’t be fooled into thinking rival firms could withstand a run on the bank any
better than Bear did. All brokers are built on margin, loans and complicated
agreements that require two or more parties.

“This is the new post-regulatory environment,” said Wall Street historian Charles
Geisst. “We allowed the commercial banks into investment banking and vice versa
to a slight extent, and this is what we’re getting.

“It shouldn’t be a surprise to anybody.”

Wall Street brought its collapse upon itself. Sanford Weill’s assault on
Depression-era laws with the merger of Travelers Group and Citicorp in 1998
ushered in a decade in which once-stodgy but safe financial institutions took on
more risk to compete with each other and satisfy investors’ increasingly
outrageous expectations.

Enter gun-slinging hedge funds full of fees and unregulated abandon. Investment
banks built up prime brokerage operations to suit them. Revenue from that
business rose to a combined $10 billion in 2005, but it was also a breeding
ground for insider information and the focus of multiple Securities and Exchange
Commission investigations.

Together, the traders began ramping up their use of complicated financial
instruments including credit default swaps index options, a kind of hedge against
risk. In 2006 alone, volume in CDS index options doubled to $400 billion from the
prior year, according to a Northwestern University study.

Warren Buffett warned us that derivatives and other complicated financial
instruments were “weapons of mass destruction.” After years of a regulatory
policy of appeasement, those weapons have claimed their first significant
casualty.

The damage

If you aren’t sickened or worried by the ease and speed in which the nation’s
fifth-biggest brokerage became worthless, then you aren’t considering the
fallout. Thousands of Bear Stearns employees will lose their jobs. They will fall
back on nest eggs full of Bear stock that has plummeted from $159.36 a share to
$2, in the broker’s deal with J.P. Morgan.

Bear is taking the rest of brokerages with them. Fears about Lehman Brothers
Holdings Inc. (LEH) and Citigroup Inc. (C) are weighing on investors who have
sent shares lower, wiping out the personal fortunes of both top executives and
rank and file employees.

Even before Bear’s fall, compensation consultants predicted a 30% decline in
incentives and a 15% reduction in jobs from the 849,600 employed at its height
last year, according to Johnson Associates Inc. and data from the U.S. Bureau of
Labor Statistics.

That means in 2008 alone more people will lose their jobs than in the industry’s
steepest decline between 2001 and 2003 when 89,000 lost their jobs. Among the few
divisions Johnson expected to do well was prime brokerage — exactly the unit at
the core of Bear’s meltdown.

If schadenfreude is your thing, remember that also means trouble for the rest of
us. Without liquid capital markets there will be no buyers for mortgages and
credit card debt. As Wall Street sorts out its dead, there will be no loans for
Main Street.

A new Wall Street

Bear Stearns is history, but there’s no time for mourning. A new Wall Street will
rise, though it won’t be the one envisioned by John Thain, Mayor Michael
Bloomberg, Sen. Charles Schumer and former Gov. Eliot Spitzer a year ago.

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