Question

Why was JP Morgan Chase in a strong position to buy Bear Stearns and why did the government rely on JP Morgan Chase to do this?

Answer 1

In 2008, Bear Stearns, the 85-year-old investment bank, narrowly avoids bankruptcy by its sale to J.P. Morgan Chase and Co. at the shockingly low value of $2 per share.

With a stock exchange capitalization of $20 billion in early 2007, Bear Stearns gave the impression to be riding high. however its increasing involvement within the hedge-fund business, notably with risky mortgage-backed securities, sealed the manner for it to become one among the earliest casualties of the subprime mortgage crisis that diode to the nice Recession.
In the early to mid-2000s, as home costs within the u. s. rose, lenders began giving mortgages to borrowers whose poor credit would otherwise have prohibited them from getting a mortgage.

With the housing market booming, Bear Stearns and alternative investment banks became heavily concerned in marketing complicated securities supported these subprime mortgages, with very little regard for a way risky they'd prove to be.

After peaking in mid-2006, housing costs began to say no quickly, and plenty of of those subprime borrowers began defaulting on their mortgages. Mortgage originators started feeling the consequences of the crisis first: New Century money, that specialised in subprime mortgages, declared Chapter eleven bankruptcy in Gregorian calendar month 2007.

In June, Bear Stearns was forced to pay some $3.2 billion to bail out the finest Structured-Credit ways Fund, thatspecialised in risky investments like collateralized debt obligations (CDOs) and mortgage-backed securities (MBSs).

The following month, the firm discovered that the finest fund and another connected hedge fund had lost nearly all of their worth thanks to the steep decline within the subprime mortgage market.

For the fourth quarter of 2007, Bear recorded a loss for the primary time in some eighty years, and chief operating officer James Cayne was forced to step down; Alan Schwartz replaced him in Jan 2008.

Barely 2 months later, the collapse of Bear Stearns flat fleetly over the course of a number of days. It began on weekday, March 11, once the Federal Reserve System proclaimed a $50 billion disposal facility to assisttroubled money establishments. that very same day, the rating agency Moody’s downgraded several of Bear’s mortgage-backed securities to B and C levels (or “junk bonds”).

Unlike an everyday bank, which may use money from depositors to fund its operations, associate investment bank like Bear Stearns typically relied on short (even overnight) funding deals called repurchase agreements, or “repos.”

In this sort of deal, Bear offered bundles of securities {to associateother|to a different} firm or an capitalist (such as a hedge fund) in exchange for money, that it'd then use to finance its operations for a quick amount of your time.

Relying on repos—which all Wall Street investment banks did to some degree—meant that any loss of confidence in an exceedingly firm’s name could lead on investors to drag crucial funding at any time, golf shot the firm’s future in immediate risk.

Taken along, Moody’s downgrade and also the Fed’s associatenouncement (which was seen as an anticipation of Bear’s failure) destroyed investors’ confidence within the firm, leading them to drag out their investments and refuse to enter into from now on repo agreements.

By weekday evening, March 13, Bear had but $3 billion reachable, not enough to open its doors for business the subsequent day.

Schwartz called on J.P. Morgan Chase, which managed the firm’s cash, to ask for an emergency loan, and told the Federal Reserve chairman, Timothy Geithner, that his firm would go bankrupt if the loan didn’t come through.

The Fed agreed to provide an emergency loan, through J.P. Morgan, of an unspecified amount to keep Bear afloat. But soon after the New York Stock Exchange opened on Friday, March 14, Bear’s stock price began plummeting.

By Saturday, J.P. Morgan Chase concluded that Bear Stearns was worth only $236 million. Desperately seeking a solution that would stop Bear’s failure from spreading to other over-leveraged banks (such as Merrill Lynch, Lehman Brothers and Citigroup) the Federal Reserve called its first emergency weekend meeting in 30 years.

On Sunday evening, March 16, Bear’s board of directors agreed to sell the firm to J.P. Morgan Chase for $2 per share—a 93 percent discount from Bear’s closing stock price on Friday. (Subsequent negotiations pushed the final price up to $10 per share.) The Fed lent J.P. Morgan Chase up to $30 billion to make the purchase.