Case Study on BEAR STEARNS
Copyright by the Toronto Leadership Centre. This case was prepared exclusively for a class discussion at a Banking, Insurance or Securities session offered by the Toronto Centre. Information has been summarized and should not be regarded as complete or accurate in every detail. The text should be considered as class exercise material and in no way be used to reach conclusions about the nature or behaviour of any of the persons or institutions mentioned.. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form without the permission of the Toronto Leadership Centre for Financial Sector Supervision. Sources: This document is based on information that was in the public domain at the times mentioned or which became public after the resolution of the issues. It does not include information confidential to the financial institution involved.
TABLE OF CONTENTS
1. INTRODUCTION a. Overview b Key Issues c Learning Objectives 3 4 4 4
d Core Principles 2. CASE NARRATIVE a The Company
5 5 7 8 9
b The culture c The Problem
d The Regulators e The Last Week
BEAR STEARNS INTRODUCTION Overview
Bear Stearns was a large investment bank, securities trader, and brokerage firm operating globally with headquarters in New York. The firm had been in operation for 85 years when its outsized position in subprime mortgages raised questions from investors, clients, and counterparties about the bank’s balance sheet and the quality of its assets. A failed hedge fund sponsored by a subsidiary of the bank in 2007 had brought unwanted questions about subprime loans in general in an increasingly wary market. Bear Stearns had a reputation as an aggressive trading bank willing to take risks. The firm was proud of its reputation as a company run by employees with a “blue collar” background. Fortune magazine listed the firm as one the most admired securities firms in 2005 through 2007 in its annual survey of most admired from companies. Bear Stearns was one of the most highly leveraged firms on Wall Street. Throughout its history it was both innovative and creative which, at times, caused it to take some risky positions. The firm’s management was known to focus on immediate opportunistic returns with little long term strategic planning. The Gramm Leach Bliley Bill (GLB) enacted in 1999 allowed Financial Holding Companies to engage in banking, securities, and insurance. Previously, the 1933 Glass-Steagall Act had prohibited banking and securities business in the same company. Under GLB the Federal Reserve was given authority to supervise financial holding companies but under the law had to rely primarily on functional supervisors to carry out front line oversight. The law was silent on the supervision of investment bank holding companies like Bear Stearns. In order to satisfy requirements of the European Community, where Bear Stearns had a number of major offices, the firm needed to have a consolidated supervisor. To satisfy this requirement the Securities and Exchange Commission (SEC) put in place in 2004 a voluntary program called the Consolidated Supervised Entities (CSE) program. Bear Stearns was supervised as part of this voluntary program. In the end the program was noted to have a number of serious deficiencies and has since been terminated. In other words there was little serious coordinated supervision over the holding company - Bear Stearns Companies Inc. - since investment banks are supervised by the State of New York, the SEC, and various Self-Regulatory Organizations. Bear Stearns had pioneered the securitization of subprime mortgages but despite the growing evidence of weaknesses in this market the bank increased its exposure in 2006 and 2007 to gain market share. The collapse of the company in March 2008 and its eventual sale to...