JP Morgan/Chase announced today that they will buy out Bear Stearns (an 85 year old investment bank that is one of the cores (and core holdings of several mutual funds) in the financial sector) for $2 a share--along with the Federal Reserve/Central Bank extending loans to help out (see here).
Bear Stearns--worth $150+ per share or $20 billion not too long ago--is now worth only $236.2 million--or 1% of what it was worth before.
Bear Stearns--like many other investment banks--were over-leveraged (with leverage ratio as high as 30+ to 1). Given the firm's lack of diversity in business lines (along with their heavy tie to subprime mortgage related CDOs), panic withdraws from clients (hedge funds and others) easily triggered an irreversible and devastating liquidity crisis that literally crippled Bear Stearns overnight.
The sad part (and irony) of all of this is that amidst all the open rumors, Bear's President and CEO--Alan Schwartz--kept saying everything was fine and maintained the firm's supposed $80 book value--even during the conference call last Friday when he finally acknowledged the liquidity problem. A credibility issue thus arises: who can we trust?
Bear Stearns' troubles could very well be a prelude to troubles for other similar investment banks (such as Lehman Brothers: although Lehman has a bit more liquidity especially after the Fed's injection of newly available funds). Who will be next? With several investment banks reporting next week and investors' confidence (and trust) fast eroding--only time will tell...
