Fri 30 Nov 2007
Everyone catch the Eph in the lead story in the Wall Street Journal today on Citadel’s investment in E*Trade?
On Monday, Nov. 12, Kenneth Griffin was boarding a plane to New York when he received an urgent call from Joe Russell, a lieutenant at Mr. Griffin’s big hedge fund, Citadel Investment Group. Shares of online broker E*Trade Financial Corp. were plunging in value, and Citadel, a holder of E*Trade shares and debt, was losing money rapidly.
“We need to focus on this fast,” said Mr. Russell, Citadel’s head of credit investments, relaying word that an analyst report suggesting possible bankruptcy had sent shares of E*Trade reeling.
“Let’s go,” Mr. Griffin shot back, as he authorized a plan to begin buying up millions of shares of E*Trade.
Heroic hedge fund manager bestrides the world of finance, righting wrongs and buying distressed assets.
By late October, E*Trade had hired advisory firm BlackRock Inc. to assess the damage to its mortgage portfolio, according to a person familiar with the matter. And on Nov. 1, E*Trade’s Mr. Caplan made a key call: to J.P. Morgan Chase & Co. banker James B. Lee, also a bank vice chairman. “We need you to take a hard look at our options,” Mr. Caplan said, according to people familiar with the matter. By this time, Mr. Caplan had already retained longtime banker Jane Wheeler at Evercore Partners to work on a rescue plan.
That would be Jimmy Lee ‘75, leading Eph banker of his generation. (Previous Lee posts here and here.) Who do you think these mysterious “people familiar” are and what is their motive for talking to the Wall Street Journal?
About a week later, on Nov. 9., Mr. Lee and a team of bankers flew to E*Trade’s Arlington, Va., offices to lay out the options. Two potential bidding groups were at the top of list. One was Citadel, and the other was the duo of brokerage firm TD Ameritrade Holding Corp. and private-equity fund J.C. Flowers & Co.
Also that day, E*Trade’s top executives huddled to assess their rapidly deteriorating mortgage portfolio. “We honestly can’t predict with any certainty where this is going anymore and we just shouldn’t even try to peg the bottom anymore,” a weary Mr. Caplan said to the executives. The firm then issued another profit warning and dismissed a top trading executive and members of his team.
Experienced finance people are wondering at this point about who is advising whom and how they are getting paid. Is Jimmy Lee getting paid by E*Trade? Whether or not a deal goes through? Does he need to split the fee with Jane Wheeler who is, fairly obviously, not a source for the story? Not being a banker, I am confused. Comments welcome from our Ephs in finance.
By the middle of November, the crisis was starting to wear on Mr. Caplan. The E*Trade executive, who lives on a sleepy tree-lined road in Bethesda, Md., took up temporary residence in New York on Nov. 9 and was working round the clock.
“I just really want this company to survive,” Mr. Caplan confided to J.P. Morgan’s Mr. Lee early last week. Mr. Lee, people familiar with the matter say, encouraged him to stay the course, telling Mr. Caplan, “You are doing the right thing.”
And, if you don’t do a deal, I don’t get paid! Or is that a cynical interpretation? Did JP Morgan get paid for this transaction? By Citadel?
But the best part is how a private conversation between Kaplan and Lee makes it onto the front page of the Wall Street Journal. You think Kaplan “confided” in Lee within earshot of anyone else? I’ll take the other side of that. I bet that only Kaplan and Lee know what was said, that one of them told their flunkies, those unnamed “people familiar,” to go talk to the Journal reporters. Was it Lee or Kaplan and, even more interestingly, why leak it?
Left as an exercise for the reader.
2007-11-30 18:14:15
I wouldn’t get too worked up about whether Jimmy Lee is getting paid this time around. At the highest levels–as in many professions–Wall Street is defined by relationships. You call Jimmy Lee up because he knows people, can make calls, and lines up money fast. If I remember correctly, the Forbes article on Jimmy Lee several years back quoted someone (I think from GE) saying, “Jimmy Lee’s the only one I know who can put his hands on billions of dollars overnight,” or something along those lines. If he doesn’t get the commission this time, he probably will sometime in the future.
(By the way, it’s an odd feeling to walk by an airport newsstand and see a classmate’s picture on the cover of one of the magazines. At this point it’s happened to me twice: Forbes and Newsweek, two different classmates.)
But to get back to the subject. That’s certainly true with another Williams alum. Stories I’ve read about Herb Allen ‘62 say he’s powerful on Wall Street because he’s an absolutely straight shooter. If he thinks he can’t help, he says, “I can’t help.” Needless to say, after he’s proven that the commission isn’t everything to him, he gets called in again and again–and at some point finds a deal where he can help and where he can make some money.
2007-12-01 12:36:36
E-Trade’s mortgage portfolio was valued at $29.3 billion on Sept. 30, and the company owns $12.4 billion in mortgage-backed securities. But the company has posted $197 million in pretax write-downs for its securities portfolio and is holding aside $237.8 million in loan-loss provisions.
It struggled as a result of a large stake in complex bonds tied to the American housing market.
Securities and Exchange Commission had begun an inquiry into its investments and that it would have to write down its stake in collateralized debt obligations and other debt instruments which caused a setback in confidence and trust.
The company has $29 billion in customer deposits. About half the deposits are over the $100,000 threshold covered by federal deposit insurance. Customers are more likely to withdraw cash not covered by government. This is not easy on financial institutions where shareholders and customers are restless.
Like many other financial companies, ETrade built a significant mortgage business during the housing boom, making loans to its customers, packaging them into securities and investing in the bonds backed by mortgages. The company’s approach was similar to the model followed by many investment banks.
“ETrade has been forced again to reconsider its investments because credit ratings agencies like Standard & Poor’s and Moody’s Investor Services have downgraded tens of billions in mortgage securities in recent months. Mortgage specialists expect more downgrades because more homeowners are likely to default on loans as house prices fall and it becomes harder to refinance loans.
“Sean Egan, managing director of Egan-Jones Ratings, an independent credit rating firm, said it was hard to envision ETrade taking a write-down as small as $1 billion. The company recently said it held $16.6 billion in mortgage-backed securities for sale at the end of September, up from $13.9 billion in December. It also held $32.4 billion in loans receivables, up from $26.4 billion.
“The name ETrade is a misnomer in the sense that their mortgage business is now dwarfing their securities business,” Egan said. (http://www.iht.com/articles/2007/11/13/business/etrade.php)
Liquidity and credit crisis is spreading: subprime, nearprime, and prime mortgages, commercial real estate, consumer loans, securitized products, derivatives markets, leveraged loans, LBO market, SIV’s and conduits, CDO’s and CLO’s; CMO’s, and others.
Liquidity injections and rate cuts by central banks point to insolvency and illiquidity. Are US households going to be able to prevent default with home price drops and a rising cost in credit?
Reduced market discipline where mortgage brokers, mortgage originators, investment banks, credit rating agencies were making money out of fees and transferring the credit risk to someone else is not appreciative of the fundamentalism that has creeped into our free market system.
Easy liquidity and credit boom led to massive re-leveraging where assets were leveraged to unprecedented levels.
Implementation of FASB 157 for such illiquid assets will only increase losses, worsening liquidity and credit leading to falling assets, net worth and consumer and corporate spending.
Contracts designed to protect investors against default and used to speculate on credit quality has led to this insanity of incompetence trading for the cupidity of our financial brain trust.
2007-12-01 14:35:07
Jimmy Lee is an absolute baller and, from personal experience, a great guy who is truly passionate about and dedicated to Williams College.
2008-02-22 09:22:16
[...] may not realize that Lee has a variety of motivations to be quoted in this article. (See also my last exercise in spotting-the-source in a Lee business arrangement.) Besides saying nice things about a friend [...]