The extraordinary collapse of 158-year-old investment bank Lehman Brothers shocked the financial world. Its dramatic demise hastened panic on international markets and no doubt contributed towards what would become known as the global credit crunch of 2008. Its route was sub-prime mortgage lending, and at the head of Lehman Brothers was Dick Fuld.
Richard Fuld, or Dick as he preferred to be known, was born in New York in 1946. He graduated from the University of Colorado in 1969. He had plans of becoming a test pilot or an aeronautical engineer, but this ambition was not helped by a fight with a commanding officer, and it was not to be. It was not for nothing that Fuld would later gain the nickname ‘the gorilla’.
Instead, Fuld got a job at Lehman Brothers. He never left. Fuld started out as a commercial paper trader, but he took night classes at New York University’s Stern School of Business, and in 1973 attained an MBA. He was destined for greater things.
Founded in 1850 in Montgomery, Alabama, Lehman Brothers started out as a cotton trading business. In the beginning, it was just German-Jewish immigrant brothers Emanuel, Mayer and Herbert (or Henry) Lehman. The brothers established the New York Cotton Exchange, and before long Lehman Brothers was financing the growth of railroads as Americans pushed west, and funded legendary American businesses such as Sears, Roebuck and Woolworth’s. The Lehman family became part of the New York aristocracy, with Herbert becoming the 45th governor of New York and later a US senator. Herbert’s cousin Robert ran the firm from 1925 until his death in 1969 – the year Fuld started.
Lehman Brothers’ more recent history is slightly more convoluted. In 1977 it merged with Kuhn, Loeb & Co to form Lehman Brothers, Kuhn, Loeb Inc, becoming the country’s fourth-largest investment bank. But infighting was rife and the company suffered. The business was sold to Shearson, an American Express-backed company, in 1984, for US$360 million. The situation did not last, though, with Lehman Brothers being spun out of American Express in 1994. The business went public, trading as Lehman Brothers Holdings. At its helm was the head of the fixed income division, Dick Fuld. The year before Fuld took over, Lehman Brothers made a loss of US$102 million. By 1994 it had 9,000 employees and US$75 million in earnings.
It is the sort of widely acclaimed track record of success that makes people believe they can do no wrong. The more it continues, the more unquestioning people become of the leader, whose position becomes impregnable. Other executives, transfixed by the leader, become more concerned about details than the bigger picture. The CEO’s personal whims start to take on increased importance, and people take their eyes off the ball.
Between 1994 and 2007, Lehman Brothers’ market capitalization grew from US$2 billion to US$45 billion. Its share price went from US$5 to US$86, creating an average annual return for shareholders of 24.6 per cent. It grew to more than 28,000 employees, with more than 60 offices in over 28 countries. The one man behind this incredible growth was Dick Fuld. One reason for it was that by 2006, Lehman Brothers was the number one underwriter of securities backed by sub-prime mortgages. This sub-prime lending was the riskiest of the lot.
Between the years 1993 and 2007, Fuld reportedly received nearly half a billion dollars in total compensation. In 2007 alone, he earned a total of US$22 million, including a base salary of US$750,000, a cash bonus of US$4,250,000, and stock grants of US$16 million. Fuld was chairman of the board of directors and CEO. He was king.
In addition to his roles within Lehman Brothers, Fuld was in demand elsewhere. He served on the board of directors of the Federal Reserve Bank of New York, and was a member of the International Business Council of the World Economic Forum and the Business Council. He served on the Board of Trustees of Middlebury College and New York-Presbyterian Hospital. And in addition to all this, he was on the board of directors of the Robin Hood Foundation, ‘a charitable organization which attempts to alleviate problems caused by poverty in New York City’. Fellow directors included Harvey Weinstein, Marie-Josee Kravis, Lloyd Blankfein of Goldman Sachs and actress Gwyneth Paltrow.
This is not merely a veneer of respectability, it is part of the driver and motivation for success. As Tom Wolfe illustrates in The Bonfire of the Vanities, this social and community recognition is of paramount importance to the egotistical entrepreneur – although never more important than the money itself. Plus, let us not forget the impact of Fuld’s good work.
The Lehman Brothers staff were not doing too badly either. The staff received a disproportionately high percentage of their pay in Lehman stock and options. When the firm went public, employees owned 4 per cent of the firm, worth US$60 million. By 2006, they owned around 30 per cent, equivalent to US$11 billion, at least on paper. That meant a lot of people suffered financial and emotional pain when things went wrong.
The media hype was that Lehman was one big happy family, with all staff sharing in the success of the others. Yet in the hard-nosed world of investment banking this is rarely the case, and it was not the case with Lehman Brothers. In the quest for greater profits, more risks were taken and little heed was given to those brave enough to advise caution. In fact caution was not a word often heard at Lehman Brothers. The unbridled greed would lead to dramatic consequences.
It is odd that film director Oliver Stone, in his film Wall Street, and the likes of Tom Wolfe in his books, were so much quicker to recognize the problems associated with this behaviour than senior economists and government regulators. The bankers themselves were in too deep, oblivious, selfish and arrogant. The City of London and Wall Street characterized themselves as the engines of growth – stressing that the rest of the population should be thankful, not questioning. While things were good, few did question. While governments were on the receiving end of tax payments (at least, those taxes the banks paid, since they worked hard to avoid paying as much as possible), it is easy to see why few questions were being asked.
By 2007, Lehman Brothers was the largest trader of stocks on the London Stock Exchange and had a role in a fifth of all corporate takeovers. In 2003, it purchased asset management business Neuberger Berman for US$3 billion. The next year, it bought California-based BNC Mortgage, a company that specialized in making sub-prime loans. Lehman also bought Aurora Loan Services, another lender that specialized in loans made to borrowers without full documentation. In the first half of 2007, Aurora was originating more than US$3 billion a month of such loans.
So why was Lehman buying these firms? Lehman’s trick was to repackage mortgage loans into bonds. Lehman reported record earnings in 2005, 2006 and 2007. Lehman’s shareholders reaped a 17-fold increase from 1994 to its peak in February 2007. But the whole lot was built on quicksand: dodgy mortgages that could never and would never be repaid.
Before the credit crunch occurred, though, Lehman Brothers bore witness to an altogether more devastating event in the form of the 9/11 attacks on New York. While it did not suffer as badly as bond trading firm Cantor Fitzgerald, with its shocking 658 fatalities, the Lehman Brother offices were directly adjacent to the World Trade Center towers, with all the horrors that must have presented. Lehman’s headquarters suffered massive damage and its lobby was used as a morgue. For Lehman Brothers, though, work went on, and by Wednesday 12 September, the firm was open for business. The company even managed to post near-record results for the month.
But Lehman Brothers’ ability to survive what was thrown at it, an admirable quality in terrible times, would not last much longer, and seven years later it would be gone. A company that as of February 2008 was worth something like US$42 billion, with total assets of US$639 billion, would soon be worth nothing. Fuld tried to hold off the inevitable with bold statements of intent and typically confrontational rebuttals to questioning journalists, but it was hopeless.
On 15 September 2008, Lehman Brothers Holdings filed for Chapter 11 bankruptcy protection. Its bankruptcy filing listed debts of US$613 billion, and named banks from Tokyo, Hong Kong, New York, Singapore, Taipei and elsewhere as unsecured creditors owed hundreds of millions of dollars.
On 6 October 2008, Fuld was requested to testify before the US House Committee on Oversight and Government Reform on Capitol Hill. It wanted to know what went wrong. Fuld was unapologetic. While admitting he felt ‘horrible about what happened’, he set about apportioning blame. ‘Ultimately what happened to Lehman Brothers was caused by a lack of confidence,’ he said. ‘The second issue I want to discuss is naked short selling, which I believe contributed to both the collapse of Bear Stearns and Lehman Brothers.… The final issue I will address is the changed landscape of our financial system and regulatory regime’. He added, ‘Not that anyone on this committee cares about this but I wake up every single night wondering what I could have done differently’. That said, Fuld reckoned his decisions were ‘prudent and appropriate’ given the information he had at the time. In other words, it was not his fault.
To many on Wall Street, not least because of his long tenure at the company, Fuld was Lehman Brothers personified. Without him, it would not have become a global giant, they said. Admirers described him as ‘an unbelievable competitor’. While some media puff pieces claimed he was ‘obstinate, determined and accountable’, others called him ‘aggressive, confrontational, blunt’.
While the case against Dick Fuld is clear, of course he was not the only person at fault. There were other factors that came into play above and beyond the toxic assets. It is worth mentioning Hank Paulson, the 74th US Treasury Secretary and a long-time adversary of Fuld. The two were competitors for more than 20 years while Paulson was a managing partner at Goldman Sachs. Could Paulson, as Treasury Secretary, have stepped in to save Lehman Brothers and Fuld? For whatever reasons, he chose not to. Others implicated in the fall of Lehman Brothers include the 75th US Treasury Secretary Timothy Geithner. The former president of the Federal Reserve Bank of New York, Geithner was initially vociferous in supporting the government’s refusal to bail out the firm, according to people involved in various meetings at the time.
Since Geithner became the Treasury Secretary, the Obama administration has attempted to put some distance between him and Paulson, saying that Geithner did indeed press to save the firm from bankruptcy, but that he was a ‘lone voice on the subject’ and was ‘overruled’ by Paulson and Ben Bernanke, the Federal Reserve chairman, on this issue. Andrew Ross Sorkin, writing in the New York Times on 25 November 2008, said, ‘Many executives suggest it may be a bit of revisionist history.’
In Ken Auletta’s 1987 book Greed and Glory on Wall Street, Dick Fuld is described as ‘someone who spent so much time in front of his green screen or making rat-tat-tat decisions that he was no longer human’. Fuld was big on references to warfare, seeing Lehman Brothers somehow as ‘being at war’ with the competition. ‘Every day is a battle,’ he said, adding that staff should always ‘think about the firm, do the right thing, protect your client, protect the firm, be in it, be a good team member’.
As if to back this up, Fuld ended the practice of casual dress at Lehman Brothers. ‘If you dress sloppy, you think sloppy,’ he said, and he was particularly pleased one time when a journalist remarked that he could spot Lehman Brothers employees by their attire. The women dressed conservatively and the men almost exclusively in white or blue shirts and ties. The employees were the troops, in their uniforms, and Fuld was the leader.
The most fascinating insight into Fuld comes from Andrew Gowers, a former editor of the London Financial Times, who in June 2006 joined Lehman Brothers in London as head of corporate communications. In a remarkable account of the final days of Lehman Brothers, published in the Sunday Times on 14 December 2008, Gowers cast a light on the culture of Lehman Brothers and the psyche of its boss. ‘To say he was surrounded with a cult of personality would be an understatement,’ said Gowers. He called Fuld ‘almost unbearably intense’, and said he inspired great loyalty and fear. ‘Those closest to him slaved like courtiers to a medieval monarch,’ Gowers said, ‘second-guessing his moods and predilections, fretting over minute details of his schedule down to the flower arrangements and insulating him from trouble – from almost anything he might not want to hear.’ How does a CEO run a business only hearing the good news?
This culture would be Fuld’s undoing. It meant that no one would, or could, challenge him. And while this might not have mattered in the 55 quarters of unbroken profit, Gowers said it bred ‘a fatal complacency’.
Fuld was aware that trouble was brewing back in January 2007. During a press briefing in the Swiss mountain resort of Davos during the World Economic Forum, he told assembled newspaper editors ‘this could be the year when the markets crack’. If only he had taken his own advice. He mentioned potential trouble in the US housing market, the problem of the excesses of leveraged finance and the danger of spiralling oil prices – and the explosive combination of all three. He told the editors that as a result of these potential problems, Lehman Brothers had become more cautious and ‘taken a bit of money off the table’. But Gowers says this talk was completely at odds with the reality of how Lehman Brothers was being run. ‘In truth Fuld had become insulated from the day-to-day realities of the firm and had increasingly delegated operational authority to his number two, a long-standing associate named Joe Gregory,’ he said.
The problem with this strategy, said Gowers, was that Gregory was not a detail man or a risk manager. In fact, he added, Gregory was actively urging divisional managers to place even more aggressive bets in surging asset markets such as the mortgage business and commercial real estate. In one Lehman-led deal in June 2007, it bid US$15 billion for America’s biggest apartment company – a deal signed off by the entire executive committee and subsequently described as ‘the worst investment Lehman ever made’.
Yet again, we see a failing firm making a last-gasp deal. This US$15 billion failure was to be the worst deal ever – but is that what they really wanted? No, they simply had no other options – the Titanic was heading for the iceberg, so they pushed up the engines to full throttle.
Gowers characterized the corporate governance structure as:
almost pre-programmed to fail: an overmighty CEO, a top lieutenant eager to please and hungry for risk, an executive team not noted for healthy debate and a power struggle between two key players. Furthermore, the board of directors was packed with non-executives of a certain age and woefully lacking in banking expertise.
It was to prove a toxic combination. The man in the middle was Dick Fuld.
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