Imagine my surprise. Sunday afternoon, I got on a plane to Orlando, FL. When I got on the plane, Lehman Brothers and Merrill Lynch still existed. When I got off the plane, I checked my iPhone and saw that Merrill was now part of Bank of America, and Lehman was going Chapter 11.
Bear Stearns. Lehman Brothers. Merrill Lynch. Fannie Mae. Freddie Mac. AIG.
Ongoing discussion now about Goldman Sachs and JP Morgan. Fundamental problems right now with any business who basically borrows short and then lends long, at high leverage.
Really unbelievable. Truly historic times.
I almost finished reading Conscience of a Liberal, by Paul Krugman, on the plane trip back. When I’m done, I’ll post a book review here. Krugman is a smart economist, but he’s become rabidly political of late. Still, a number of very interesting insights in the book.
One thing I definitely agree with is that the meltdown going on right now will be studied in history textbooks, the way that we studied the Roaring Twenties, the Great Depression, and the New Deal. My guess is that the story will go something like this:
- The End of the Cold War (1982-1992)
- The Twin Bubbles (1993-2006)
- The Great Crash (2007-2008/9)
- The Way Forward (2009+)
It’s interesting to think about, since of course the history hasn’t been written yet. And every day brings new surprises.
Psychohistory 
Hi Adam,
I saw this post through Plaxo. How would one find companies that “basically borrows short and then lends long, at high leverage.” ?
Are there industries or companies that you recommend looking at for this?
It would be interesting to identify the companies or sectors that will be most impacted and get an idea on how things will change. It could also be interesting for investment opportunities.
Hi Joe,
I haven’t really looked for other industries. Fundamentally, a lot of hedge funds and any business which were based on trading (internal desks at investment banks, etc) were based on short term borrowing for liquidity and leverage to generate large returns.
It reminds me of that simple equation from business school:
Return on Equity = Profit/Sales * Sales/Assets * Assets/Equity
Or
ROE = Profit Margin * Asset Turnover * Leverage
The investment banks were all about low margins fundamentally but with large leverage and fast turnover.
(My MBA prof described this as a Board of Directors cheat sheet. With a quick pencil & paper, on a plane flight, you can easily identify potential issues and questions about risks in the business this way.)
I think it’s worth noting that this strategy only doesn’t work in a massive credit crunch like we are seeing now. In all other markets (ie, 95% of the time), this strategy produces outstanding results.
Something to think about for when we pass through this difficult stage (and assuming we don’t over-react with regulation going forward.)
Adam