Turning and turning in the widening gyre
The falcon cannot hear the falconer;
Things fall apart; the centre cannot hold;
Mere anarchy is loosed upon the world,
The blood-dimmed tide is loosed, and everywhere
The ceremony of innocence is drowned;
The best lack all conviction, while the worst
Are full of passionate intensity.
— William Butler Yeats, The Second Coming
I just returned from Singapore from where I watched the anguished efforts to rescue AIG and Lehman Brothers. As the aircraft doors opened at Newark Airport a couple of hours ago, my PDA caught the news that all of Lehman’s suitors had fled and that Merrill Lynch had agreed to be acquired by Bank of America. Coming hard on the heels of the U.S. government takeovers of Fannie Mae and Freddie Mac, these news items are consistent with a full-blown financial panic, or bank run. But this panic is different in important ways from the Panic of 1907 that Sean Carr and I described in our book. Today’s panic shows no lines of anxious depositors outside sketchy banks (except for IndyMac and Northern Rock). No, the panic is more clearly reflected in the behavior of large institutional investors who trade with the banks and provide the short-term financing—the lifeblood—by which financial institutions do business. The price of credit insurance has spiked upward (again); the spread of LIBOR over Treasurys has risen (again). And volatility of share prices (the VIX index) is mounting (again). Today’s crisis dwarfs any previous crisis in financial history in terms of the sheer scale of value at risk, the speed by which news and funds move around the world, and the vast complexity of the system today—these factors make it extremely difficult for decision-makers to know what is going on and for leaders to take action.
In my writing on panics and disastrous mergers, I have described the mechanics of these events as a self-reinforcing vicious cycle. The poem by William Butler Yeats presents a vivid image of such a cycle: things spin out of control, producing a massive breakdown. The field of systems engineering teaches us that the way to halt a vicious cycle is to intervene, somehow, in the reinforcement process. Panics draw reinforcing energy from the drumbeat of bad news and generally, from the lack of transparency about how bad things really are. One approach would be to shed some very bright daylight on the value of the institutions’ portfolios.
But the very notion of intervention to stop a vicious cycle requires an even more important quality: leadership. The key line in Yeats’ vivid imagery is “the best lack all conviction.” From what I read, I would judge that Henry Paulson, Ben Bernanke, and Timothy Geithner have plenty of conviction. We should hope that leaders in the private sector financial community have plenty of conviction as well.
One marker of the bottom of a panic is the collapse, sale, or rescue of major financial institutions—players who were previously judged to be too big to become troubled. The events of the past few weeks would be consistent with the nadir of the panic. If true, then the large question is the speed and length of the recovery. Still, this is no environment in which to take wild-guy risks.
If you are an MBA student looking for a job, marry your on-grounds recruiting efforts with plenty of off-grounds missionary-type recruiting work. And remember that this is no time to be super-choosy about work. If the recovery proves to be slow, you will benefit from holding on to the bird in the hand.
If you are an investor, remember the words of Sir John Templeton, an iconic value investor: “The time to start buying is when blood runs in the street.” When conditions look worst, you will find the most attractive value investment opportunities. Form your own opinion about security values and act on it.
Perhaps later today we will learn the fate of Lehman Brothers. Generally, this coming week may prove to be decisive. Let’s hope that the falcon starts to return to the falconer.
Posted by Robert Bruner at 09/15/2008 01:35:56 AM