The last CEO of the late, great Lehman Brothers, Richard Fuld Jr., talked publicly at some length this week for the first time since the 2008 financial crisis.
Lehman, of course, was the big New York investment firm that tipped over in mid-September 2008, turning anxiety in the financial markets into a complete panic. Fuld was vilified, in the press, in Washington and even by his own peers in the New York financial community.
On Thursday, Fuld gave the keynote remarks at a small investor conference in midtown Manhattan. What sticks out is what he said about risk management, as quoted in the Wall Street Journal: “Regardless of what you heard about Lehman’s risk management, we had 27,000 risk managers because they all had a piece of the firm.”
So after seven years to think about it, Fuld still doesn’t get it.
That many people holding a very small piece of a big public company doesn’t mean they are all there to watch for risks. And that kind of structure of the big Wall Street firms, as publicly held corporations, is one of the factors behind the financial crisis.
In the old days of Wall Street, the firms were organized as partnerships. The partners put their own capital on the line.
What Wall Streeters were good at was allocating that capital, putting their money to work in promising ventures and keeping money away from the most speculative schemes, as the latter would’ve meant foolishly risking their own personal balance sheet.
When companies like Lehman Brothers later went public, what went overboard was the partnership structure, and with it went the incentive to watch what the firm was doing because it was literally your own money.
In looking at the compensation for Fuld for fiscal 2007, the last year before the firm collapsed, most of it was in the form of $35 million in restricted stock units, or RSUs.
It was all upside. Shutting down the underwriting of increasingly risky mortgage securities, exiting lines of business or putting tighter limits on the trading desks were all common sense things that Fuld could have done. But they were not ways to boost the short-term company performance or stock price.
So from the top on down, it wasn’t 27,000 people at Lehman managing risk to their personal fortunes, it was 27,000 people gathered together to push for a little more revenue and a little more trading profit. That’s what leads to bonuses and more incentive stock awards.
So it’s no real surprise that the leverage ratio, the ratio of debt to equity, peaked at Lehman Brothers at about 60. That means it once owed $60 for every one dollar it had in permanent capital.
No partners with their capital on the line would have stomached that kind of risk.
That basic structure of a Wall Street firm, by the way, survived the financial crisis. Lehman Brothers went away but comparable firms like Goldman Sachs got bailed out. Fuld essentially went into exile, but his colleagues at other firms resumed their careers as financial titans and statesmen.
For the survivors like Goldman Sachs, it’s been business as usual ever since.