What a week in the financial markets! I recently returned from a trip through New England’s scenic vistas. Tourists were plentiful and cheery. Most enjoyed blissful ignorance of the credit crisis – and how the government’s response to it will ultimately impact their lives.
And few got the memo from Wall Street strategists that they are supposed to stop driving because oil is over $100 per barrel. Americans love their mobility, and they will pay a premium to keep it. I expect the resilience of energy demand to surprise many.
I checked the markets at the end of each day as the list of bear market casualties grew: Fannie, Freddie, Lehman, Washington Mutual, and now, AIG. It’s amazing how well the financial stocks we’re selling short in Strategic Short Report are holding up, since they’re all loaded with leveraged exposure to credit risk. But I’m confident our patience will be rewarded in the coming quarters.
My week off allowed plenty of time to think about the future of this credit crisis from a much broader perspective. Driving though Vermont’s scenic Green Mountains and New Hampshire’s White Mountains, we had plenty of time to listen to audio books.
One in particular – David McCullough’s excellent book 1776 – offered perspective on how far the U.S. has strayed from its founding principles. 1776 is a historical narrative of the American Revolution, with a focus on the early military engagements between General George Washington’s Colonial Army and the powerful, yet overconfident British Army.
Two themes from the book seem to parallel recent financial market events:
First, in one scene, British soldiers express their surprise at what motivated the colonists to revolt. Most Americans enjoyed a high standard of living, and nearly all were better off than British regulars. Why did they risk life and limb in a fight against British rule, when they had such material wealth and a decent amount of sovereignty? With historical perspective, we can appreciate even more just how much freedom most colonists enjoyed; taxes in particular were a pittance compared to today’s U.S. tax burden.
Despite their many sins – most notably slavery – the colonists had amazing sense of sacrifice and honor. Their willingness to fight for freedom from government abuses stands in stark contrast to the attitudes of most modern Americans. Now, politics focuses on wealth redistribution, rather than harness the American entrepreneurial spirit and human capital to compete effectively in the global economy. It’s gotten so bad that most Americans hardly seem to care when the federal government virtually takes over the mortgage industry – and most don’t even understand how we got into this mess in the first place.
Will my one-year old son Ben apply directly to the federal government, a.k.a. “Frannie,” for a mortgage when he grows up? Will politicians now directly manage the mortgage industry? After this week, it’s far more likely to happen. We are watching the slow creep of socialism. That holds enormous long-term consequences for financial markets.
The second interesting point I drew from 1776 concerns leadership. George Washington didn’t posses the brightest mind, or the best oration skills, but he quickly learned how to lead through success and failure while maintaining great humility.
After a stinging defeat at the Battle of Long Island, Washington engineered a brilliant overnight retreat that salvaged the awkward, inexperienced Continental Army. Rather than gamble his army on a low- probability recovery of lost ground, he swallowed his pride, and retreated to fight another day.
Washington’s humility in retreat stands in stark contrast to the type of leadership we’ve seen in the boardrooms and executive suites on Wall Street. In nearly every big financial blowup of the past year, executives have failed to make tough choices that might have salvaged shareholder value, and instead gambled on a miraculous future turnaround.
Think about how much better off Lehman Brothers would be if its management hadn’t put off the process of reporting losses, dumping impaired assets, and raising new capital. Would its stock be $4 today? Probably not.
While all of those decisions would have been painful at the time, they could have salvaged much more shareholder wealth – just as a successful retreat preserves an army’s ability to fight another day.
The speed of Lehman Brothers’ deterioration is shocking even to its skeptics. Despite my already low opinion of Lehman management, expressed several times in this space, I’m amazed at its failure to structure a deal or asset sale to salvage a respectable amount of shareholder value. Lehman even had the advantage of immunity to a “bank run,” thanks to the Federal Reserve’s lending facilities. Bear Stearns wished it could have used the same; it was finished as soon as creditors lost faith in its solvency. Lehman shareholders and its 25,000 employees deserved better.
These are tumultuous times – times that show us all the importance of good leadership. The importance of management leadership skills is never greater than it is in a crisis.
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