How Lehman’s Hidden Inner Circle Brought the Bank Down

Senator Spencer Bacchus, the top Republican on the House Financial Services Committee is quite right to write to Lehman bankruptcy examiner Anton J. Valukas and ask to review communications between the Federal Reserve and the Securities and Exchange Commission about Lehman Brothers Holdings Inc, in preparation for an April 20 hearing into the Valukas report. He wants to know what exactly the SEC found out while it was inside Lehman — or more importantly what it missed.

In his letter to Valukas. Bacchus wrote that Lehman “used accounting gimmicks to hide its debt and mask its insolvency…More disturbing, the examiner’s report also describes what appear to be significant failings on the part of officials” at the SEC and the Federal Reserve Bank of New York.

The SEC and FED, after all, were inside Lehman Brothers for the last six months of its life. How did they miss all this?

Sen. Chris Dodd, the Senate banking chair has asked former Lehman chief Dick Fuld to return to testify exactly how Lehman misled so many people. (Fuld’s lawyer has said Fuld had never heard of Repo 105, the accounting tool by which Lehman moved $50 billion of its balance sheets…)

Perhaps some explanation may lie in an email I received today from one of Lehman’s most senior employees — someone who worked there for 17 years. He wrote to me off the record so I am not at liberty to disclose his identity, but he was very senior and widely respected.

He is not the only Lehmanite to have responded to my new book, The Devil’s Casino (Wiley). Many have thanked me for exposing a culture led (and ruined) by a tiny leadership that was egregious, isolated and mendacious. Without exception, Lehman readers have told me I got it absolutely right — and — in particular they have agreed with today’s New York Post’s article which noted that the book maintains that Lehman’s president Joe Gregory was actually the chief villain at the firm, responsible for much of the over-risky leverage, and not so much Dick Fuld. (Incidentally all the e-mailers and callers have agreed that their wives loathed being “married to Lehman” as the book points out in one chapter.)

What my e-mailer of today however points out is something that both Rep. Bacchus and Sen. Dodd may find useful as they follow up on Valukas’s report.

He wrote, “like many former colleagues, I’m astonished at how much we didn’t know about the workings of the inner circle.”

Note the last three words. “The Inner Circle.” This was not the whole Lehman’s executive committee. This was Fuld, Gregory, perhaps in reverse order, and then Gregory’s pet of the month, at one point Erin Callan, at another Mark Walsh. But it was a tiny unit, cut off from the rest of Lehman.

He follows up.

• Dick’s hardly the gorilla. He’s funny, passionate, caring, competitive, and serious about the business. In a way, he almost cared too much about Lehman and its employees.
• Unfortunately, Joe G’s characterization highly-accurate.
• The commercial real estate book alone did not sink Lehman. Enormous and wrong prop bets on European interest rates in mid-2008 (FID chief Andy Morton moved on) and Alt-A MBS in NY also hurt.
• As detailed in Examiner’s Report …real estate exposure went against recommendation of firm’s own research department beginning in 2005. Why? The “growth engine” had to be fed. And internal politics.
• Realize that space did not allow a full consideration of so many other terrific contributors and positive firm attributes. For example, No. 1 U.S. bond house for nearly a quarter century thanks to so many terrific capital market soldiers (sales, trading, research, syndicate) trying to do the right thing for their clients. And starting in 1973, Lehman ran world’s largest debt index franchise that helped bolster its international reputation….
• In the end, Paulson correct. Too many people in same seats for too long. Lehman would have been still standing if Mike Gelband had not been fired in 2007 for telling the truth and if the Lehman’s most competent executive, Bart McDade, had been elevated to president before 2008.

So, here we have Lehman:

“An inner circle” at the top cut off from the rest. It fires people for telling the truth, and fails to promote the most competent executive until too late…. This culture didn’t spring up in its last few months…it festered for years. Whatever the SEC and FED missed in the bank’s final six months, the cabal at the top was already set in its ways and adept at hiding what it was really doing from not just the SEC, Fed and market — but its own senior management. That really is a horrifying culture, and one I am delighted to have exposed.

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