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The Tragic Fall of Merrill Lynch
When I was a stock broker in the late 1990's Merrill Lynch was one of a select few of investment firms along with Goldman Sachs, Paine Webber, Morgan Stanley, and a few others that made up the gold standard of investment firms. Today, their existence was put to a merciful end when Bank of America agreed to buy it out.
Bank of America on Monday began adding another slice to its growing financialservices empire, buying Merrill Lynch in a $50 billion deal that would create a bank offering everything from fixed-income trading to credit card lending.
It will rival Citigroup Inc., the biggest U.S. bank in terms of assets.
Bank of America Corp. said early Monday it would acquire Merrill Lynch in an all-stock transaction worth about $50 billion that should lift the uncertainty shrouding Merrill since the start of the credit crisis over a year ago.
A few weeks ago, we knew trouble was brewing when Merrill dumped billions worth of mortgages at an obscenely low price.
Merrill has agreed to sell $30.6 billion of its repackaged debt, known as collateralized debt obligations — generally suspect and subprime mortgages — for 22 cents on the dollar. Private equity fund Lone Star Funds is the buyer.
So, how did this once financial giant suffer such a monumental fall? The story of Merrill Lynch's downfall is embedded in one of the worst acquisition strategies in the history of mergers and acquisitions. In September of 2006, Merrill Lynch bought up First Franklin..
Merrill Lynch (NYSE: MER) today announced an agreement to acquire the First
Franklin mortgage origination franchise and related servicing platform from National City Corporation (NYSE: NCC). Under terms of the agreement, Merrill Lynch will pay a $1.3 billion purchase price for San Jose, Calif.-based First Franklin Financial Corporation, and affiliated business units National City Home Loan Services, Inc., and NationPoint.
First Franklin is one of the nation's leading originators of non-prime residential mortgage loans through a wholesale network. Lake Forest, Calif.-based NationPoint is engaged in online direct-to-consumer mortgage lending. First Franklin and NationPoint together originated more than $29 billion in loans in 2005. Home Loan Services, headquartered in Pittsburgh, together with Merrill Lynch's existing Beaverton, Ore.-based Wilshire Credit Corporation servicing platform, will have a total servicing portfolio of approximately $70 billion.
"These leading mortgage origination and servicing franchises will add scale to our platform and create meaningful synergies with our securitization and trading operations," said Dow Kim, president of Merrill Lynch's Global Markets & Investment Banking Group. "This transaction accelerates our vertical integration in mortgages, complementing the three other acquisitions we have made in this area and enhancing our ability to drive growth and returns. We look forward to working with the experienced teams at these companies to serve their clients and leverage our broad range of mortgage products and services."
What sounded like a good idea, and clearly from this story it did, turned out to be an unmitigated disaster. First Franklin was one of the giants of the sub prime industry. At the time, sub prime was still in period of boom. At about the same time, Merrill Lynch also took exposure in UK sub prime mortgage company Freedom Mortgage. In fact, Merrill Lynch made acquisitions in no less than four different four sub prime companies. Suddenly, sub prime, which the company had limited if any exposure to for nearly one hundred years, became their huge bet. It took no more than six months for the sub prime industry to tank. Merrill Lynch, which paid top dollar for First Franklin et al, was now suddenly stuck with billions worth of loans that weren't performing. (in other words people weren't paying them back)
Suddenly, these multi billion dollar acquisition became an albatross around the necks of Merrill Lynch. Suddenly, this multi billion dollar financial services company became at the mercy of a business that it made a full court press into not but a year earlier. In fact, the solvency of the entire company became threatened almost exclusively because it held onto billions of non performing loans. These loans were put on their books courtesy of their acquisition of First Franklin, Freedom, and others within the last couple years. It was this very pack mentality that ultimately cost Merrill Lynch. The rest of the financial services market appeared to be making money hand over fist in sub prime mortgages. The powers that be at Merrill Lynch wanted a piece. Suddenly, they were in a business in which they had no expertise, and the acquisitions that they made only a couple years earlier, ultimately lead to its downfall.
What's a recession? How will US slowdown hit India
he fear of a recession looms over the United States. And as the cliche goes, whenever the US sneezes, the world catches a cold. This is evident from the way the Indian markets crashed taking a cue from a probable recession in the US and a global economic slowdown.
Weakening of the American economy is bad news, not just for India, but for the rest of the world too.
So what is a recession?
A recession is a decline in a country's gross domestic product (GDP) growth for two or more consecutive quarters of a year. A recession is also preceded by several quarters of slowing down.
What causes it?
An economy which grows over a period of time tends to slow down the growth as a part of the normal economic cycle. An economy typically expands for 6-10 years and tends to go into a recession for about six months to 2 years.
A recession normally takes place when consumers lose confidence in the growth of the economy and spend less.
This leads to a decreased demand for goods and services, which in turn leads to a decrease in production, lay-offs and a sharp rise in unemployment.
Investors spend less as they fear stocks values will fall and thus stock markets fall on negative sentiment.
Stock markets & recession
The economy and the stock market are closely related. The stock markets reflect the buoyancy of the economy. In the US, a recession is yet to be declared by the Bureau of Economic Analysis, but investors are a worried lot. The Indian stock markets also crashed due to a slowdown in the US economy.
The Sensex crashed by nearly 13 per cent in just two trading sessions in January. The markets bounced back after the US Fed cut interest rates. However, stock prices are now at a low ebb in India with little cheer coming to investors.
Current crisis in the US
The defaults on sub-prime mortgages (homeloan defaults) have led to a major crisis in the US. Sub-prime is a high risk debt offered to people with poor credit worthiness or unstable incomes. Major banks have landed in trouble after people could not pay back loans (See: Subprime pain: Who lost how much)
The housing market soared on the back of easy availability of loans. The realty sector boomed but could not sustain the momentum for long, and it collapsed under the gargantuan weight of crippling loan defaults. Foreclosures spread like wildfire putting the US economy on shaky ground. This, coupled with rising oil prices at $100 a barrel, slowed down the growth of the economy.
How to fight recession
Tax cuts are the first step that a government fighting recessionary trends or a full-fledged recession proposes to do. In the current case, the Bush government has proposed a $150-billion bailout package in tax cuts.
The government also hikes its spending to create more jobs and boost the manufacturing and services sectors and to prop up the economy. The government also takes steps to help the private sector come out of the crisis.
Past recessions
The US economy has suffered 10 recessions since the end of World War II. The Great Depression in the United was an economic slowdown, from 1930 to 1939. It was a decade of high unemployment, low profits, low prices of goods, and high poverty.
The trade market was brought to a standstill, which consequently affected the world markets in the 1930s. Industries that suffered the most included agriculture, mining, and logging.
In 1937, the American economy unexpectedly fell, lasting through most of 1938. Production declined sharply, as did profits and employment. Unemployment jumped from 14.3 per cent in 1937 to 19.0 per cent in 1938.
The US saw a recession during 1982-83 due to a tight monetary policy to control inflation and sharp correction to overproduction of the previous decade. This was followed by Black Monday in October 1987, when a stock market collapse saw the Dow Jones Industrial Average plunge by 22.6 per cent affecting the lives of millions of Americans.
The early 1990s saw a collapse of junk bonds and a financial crisis.
The US saw one of its biggest recessions in 2001, ending ten years of growth, the longest expansion on record.
From March to November 2001, employment dropped by almost 1.7 million. In the 1990-91 recession, the GDP fell 1.5 per cent from its peak in the second quarter of 1990. The 2001 recession saw a 0.6 per cent decline from the peak in the fourth quarter of 2000.
The dot-com burst hit the US economy and many developing countries as well. The economy also suffered after the 9/11 attacks. In 2001, investors' wealth dwindled as technology stock prices crashed.
Impact of a US recession on India
A slowdown in the US economy is bad news for India.
Indian companies have major outsourcing deals from the US. India's exports to the US have also grown substantially over the years. The India economy is likely to lose between 1 to 2 percentage points in GDP growth in the next fiscal year. Indian companies with big tickets deals in the US would see their profit margins shrinking.
The worries for exporters will grow as rupee strengthens further against the dollar. But experts note that the long-term prospects for India are stable. A weak dollar could bring more foreign money to Indian markets. Oil may get cheaper brining down inflation. A recession could bring down oil prices to $70.
Between January 2001 and December 2002, the Dow Jones Industrial Average went down by 22.7 per cent, while the Sensex fell by 14.6 per cent. If the fall from the record highs reached is taken, the DJIA was down 30 per cent in December 2002 from the highs it hit in January 2000. In contrast, the Sensex was down 45 per cent.
The whole of Asia would be hit by a recession as it depends on the US economy. Asia is yet to totally decouple itself (or be independent) from the rest of the world, say experts.
Will US recession hit india
by Guest on Feb 26, 2009 04:04 PM Permalink | Hide replies
The world economic slowdown which had its epicenter in the developed economies has now found its way into the developing econoimies also,which didnt have any substantial exposure to the toxic assets(CDO) which triggered the entire crises.I had strongly beleived that india would be immune to this economic meltdown as our banks werent exposed to the sub prime mortgage assets and moreover there was the vibrant domestic market which would compensate for the declining global demand.But now as we see the decoupling theory failing ,our growth rates revised downwards,industrial growth rates dropping,investor and consumer confidence at their abyssmal levels, credit becoming costlier and hoards of monetary and fiscal measures initiated by the government that india also has to share its bit of the pain. The Davos world summit that brought about no results except that the developing countries emphasisng that the recession is a common problem for the world economies and has to be resolved together and the countries should desist friom taking any protectionist policies .This would mean even the developing ecionomies would have to pay the price for the irresposible deed done by the financial wizards,political wonks and the lack of due deligence by the regulatory authorities and the credit rating agencies .This crises has exposed the weak underbelly of the us gaints which were considered invincible.That leaves back a lesson to be learnt by the world that capitalism isnt all that great.
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