BizAnalyst Network

Why the Fed Helped JPMorgan Buy Bear Stearns
[full article]


The federal government's financial assistance in JPMorgan Chase & Co.'s purchase of a crumbling Bear Stearns Cos. raises many questions for investors and the public at large - not least, whether it amounts to a taxpayer-funded bailout of an investment bank.
Here are some basic questions and answers about the $263.2 million acquisition, which was negotiated over the weekend with help from the Federal Reserve and Treasury Department:

Q. What exactly is the government contributing?
A. To protect JPMorgan from the greatest risks on Bear Stearns' books, the Federal Reserve agreed to guarantee up to $30 billion of Bear's most troubled assets - primarily mortgage securities that have plummeted in value and have become tough to sell.

Q: Why would the Fed do that?
A: Experts say the risks of inaction were far greater. With investors backing away from anything linked to the U.S. mortgage market, the Fed aims to prevent the value of those investments from plunging even further, which could cause widespread fallout among big banks. "The problem is that unless the major financial (companies) are kept solvent, the economy will suffer (so much) that everybody's livelihood will be affected," said Peter Walliston, a senior fellow at the American Enterprise Institute.

Q. Does this mean my tax dollars are being used to bail out Wall Street?
A. Not exactly. The Fed has vast resources on its own, thanks to its ability to sell Treasury securities that investors consider extremely safe. Still, some fear the mortgage crisis that engulfed Bear Stearns will soon spread to other companies and ultimately test the Fed's resources, especially after the central bank last week said it would lend up to $200 billion in exchange for mortgage investments.

Q. Might taxpayers ultimately be on the hook?
A. Potentially. The Federal Reserve's actions could augur much broader government action to stabilize the mortgage market. Calls are growing in Congress for government-funded efforts to help borrowers refinance out of troubled loans.

Q. Didn't the Bear Stearns CEO say his company was fine on Wednesday?
A. Yes. Alan Schwartz said on CNBC that Bear was not having any trouble funding its business. He may have been correct - at the time. But confidence matters at least as much as reality, and his statement wasn't enough to reassure investors.

Q. So what happened between Wednesday and Friday?
A. There appears to have been a classic bank run: Jittery clients sought to take their money out of Bear Stearns, but Bear said Friday it did not have enough money on hand to meet all payments. When word of that got out, more clients demanded their money.

Q. How could Bear not have enough money? Doesn't it have $33 billion in assets?
A. Yes, but those assets are not all "liquid" - which means they aren't easily convertible to cash that can be paid to investors.

Q. What about the Bear Stearns shares I own?
A. Bad news: They are worth at least 95 percent less than they were at the start of January.

[full article]