Andrew Sorkin - Too Big to Fail - The Inside Story of How Wall Street and Washington Fought to Save the FinancialSystem--and Themselves

Among those who tried to sound the alarm was Michael Gelband, who had been Lehman’s head of fixed-income trading for two years and had known Gregory for two decades. In late 2006, in a discussion with Fuld about his bonus, Gelband remarked that the good times were about to hit a rough patch, for which the firm was not well positioned. “We’re going to have to change a lot of things,” he warned. Fuld, looking unhappy, said little in reply.

The fixed-income guys had been spending a lot of time talking about the train wreck that awaited the U.S. economy. In February 2007, Larry McCarthy, Lehman’s top distressed-debt trader, had delivered a presentation to his group in which he laid out a dire scenario. “There will be a domino effect,” he said. “And the very next domino to fall sideways will be the commercial banks, who will swiftly become scared and start deleveraging, causing consumer borrowing to contract, which will push out the credit spreads. The present situation, where no one thinks there is any risk whatsoever, in anything, cannot possibly last.”

McCarthy went on to conclude that “many people today believe that globalization has somehow killed off the natural business cycles of the past. They’re wrong. Globalization did not change anything, and the current risks in the Lehman balance sheet put us in a dangerous situation. Because they’re too high, and we’re too vulnerable. We don’t have the firepower to withstand a serious turnaround.”

Around that same time, Gregory invited Gelband to lunch “ just to talk.” The two men had never seen eye-to-eye, and Gelband suspected another agenda. They met in the executive dining room on the thirty-second floor, and after chatting for a while, the conversation took a hard shift.

“You know,” Gregory said firmly, “we’ve got to do things a little differently around here. You have to be more aggressive.”

“Aggressive?” Gelband asked.

“Toward risk. You’re holding back, and we’re missing deals.”

To Gelband’s thinking, Lehman had in fact been pushing through a number of deals that didn’t make much sense. They were piling up too much leverage, taking on too much risk, and getting into businesses in which they lacked expertise. At times there appeared to be no strategy whatsoever guiding the firm. Why had Lehman paid nearly $100 million for Grange Securities, an insignificant Australian brokerage? Earlier there had been discussions about becoming a player in commodities. Had there been a sound reason for acquiring Eagle Energy, a marketer of natural gas and electricity started by Charles Watson, other than the fact that Watson had been a longtime Lehman client, as well as an old pal of Skip McGee? Meanwhile, the firm seemed willing to finance buyouts indiscriminately; loans to private-equity firms were piling up on the books. Some would get securitized and sold, but the pipeline was clogging up.

None of that seemed to bother Gregory; the deals that did concern him were the ones that Lehman had failed to get a piece of, like the blockbuster $5.4 billion acquisition of Stuyvesant Town and Peter Cooper Village, a sprawling complex of more than 11,200 apartments on the East Side of Manhattan. Lehman had joined forces with Stephen Ross’s Related Companies, the developer of the Time Warner Center, to bid on the project, but lost out to Tishman Speyer and Larry Fink’s BlackRock Realty Advisors. Adding insult to injury was the fact that Lehman considered Tishman, which it had helped buy the MetLife Building for $1.7 billion in 2005, one of its closest clients.

Because the real estate division technically reported to fixed income, Gregory held Gelband responsible for the missed opportunity on Stuyvesant Town. “We’re going to need to make some changes,” he said, implying that Gelband should let a couple of heads roll on his staff.

The following day, Gelband took the elevator up to see Gregory, who was in a meeting. Gelband barged in and said, “Joe, you said you wanted to make some changes? Well, the change is me.”

“What are you talking about?” Gregory asked.

“Me. I’m done. I’m leaving the firm.”

“I am very disappointed” was Dick Fuld’s characterization of his personal reaction to Lehman’s second-quarter earnings in a report released at 6:30 a.m., Monday, June 9. The loss was $2.8 billion, or $5.12 a share. A conference call was scheduled at 10:00 a.m. to discuss the result, but by then the blood sport was already well under way on CNBC.

“Dick Fuld is Lehman. Lehman is Dick Fuld,” said George Ball of Sanders Morris Harris Group. “You’ve got a management that wears the corporate logo on its heart… . It’s got to hurt enormously.”

Fuld and Gregory were watching the coverage in Fuld’s office when David Einhorn of Greenlight Capital appeared on the screen.

“Are you saying ‘I told you so’ this morning?” the CNBC interviewer asked him.

“Well, it does seem that a lot of the things I’ve raised over the last while seem to have been borne out by today’s news,” he said, apparently trying to sound as humble as possible, under the circumstances.

Einhorn discussed his concerns about the extent of SunCal and Archstone’s write-downs, and why they hadn’t come sooner, and then delivered a strongly worded admonition: “It’s time to dispense with the ad-hominem attacks and get down to an analysis of what’s really going on with this business.”

That afternoon, Charlie Gasparino, a tenacious reporter on CNBC, began hectoring Kerrie Cohen, Lehman’s spokesperson, to confirm a tip he had received that Gregory and Callan were about to be fired. Off the record, Cohen dismissed his tip as a useless rumor.

But Gasparino, still skeptical, pressed her to go to her boss, Freidheim. “I’ve got it that Joe and Erin are leaving the firm,” he said. “Unless you go on record, I’m going with it.”

When Gasparino threatens to go on the air with market-moving information—a reporting tactic for extracting information from sources—most executives, however much they might resent it, try to comply. Freidheim didn’t think any personnel changes were imminent, but before he officially denied it, he marched into Fuld’s office.

“I’m going to have to use my name,” Freidheim told Fuld, making it clear that his own credibility was on the line. “I have to know if you’re even thinking about it.”

“No,” Fuld replied, “it’s not under consideration.”

“Well, I’m going to have to talk to Joe,” Freidheim said, “ because I need to know he’s not thinking about it, either. I’m not using my name unless I know it can’t happen.”

“Absolutely not,” Gregory stated when Freidheim put the question to him. “You can tell Gasparino you talked to me, and the answer is no.”

Keeping the lid on Gasparino was a relatively easy task compared to that of containing the pressure building within the firm. Bankers and traders were alternately restless, nervous, and angry.

Late that afternoon, Skip McGee forwarded an e-mail to Fuld from Benoît D’Angelin, once his longtime counterpart—the former co-head of investment banking—in Lehman’s London office; he had left the firm to start a hedge fund. McGee was clearly trying to send Fuld a not-so-subtle hint.

Many, many bankers have been calling me in the last few days. The mood has become truly awful … and for the first time I am really worried that all the hard work we have put in over the last 6-7 years could unravel very quickly. In my view two things need to happen very quickly.