Sydney, Sep 15, 2008 (ABN Newswire) - Dramatic news from Wall Street this morning.

Not only is Lehman Bros looking as though its heading for failure, but broker and bank, Merrill Lynch is reported to be in merger talks with Bank of America, which was said to have been a possible suitor for Lehman.

And the huge American Insurance Group is reported to be ready to reveal plans for a $US20 billion worth of equity injections and asset sales to try and preserve its future.

One, perhaps two of AIG's reported new partners were first mentioned as sniffing around Lehman Bros, which now looks to be unwanted.

Bank of America and Barclays, the big UK bank, had been among the leading candidates to acquire all or parts of Lehman. 



The Wall Street Journal reported that Bank of America had entered into merger talks with Merrills and Barclays had earlier confirmed that it was quitting the talks with Lehman.

Having started talks, Merrill Lynch has to complete otherwise it will head down the same route as Lehman.

All this seems to suggest that the chances are now looking slim that regulators and bankers can reach agreement for a solution to the crisis at Lehman Brothers. Now plans are being made for its possible liquidation.

The talks started Friday and were continuing Sunday, US time with an announcement due by early Monday morning, before trading opens in Asia.

Holidays in China, Japan and South Korea give the US authorities more time, but a key industry body has told its members to prepare for the possible liquidation of Lehman Bros by 1.59 pm today, our time (11.59 pm Sunday, new York time).

The International Swaps and Derivatives Association said in a statement issued in New York a few hours ago:

"ISDA confirms a netting trading session will take place between 2 pm and 4 pm New York time for OTC derivatives. Product classes involved are credit, equity, rates, FX and commodity derivatives. The purpose of this session is to reduce risk associated with a potential Lehman Brothers Holding Inc. bankruptcy filing. Trades are contingent on a bankruptcy filing at or before 11:59 pm New York time, Sunday, September 14, 2008. If there is no filing, the trades cease to exist."



A rare Sunday trading session started this morning and went for four hours to 8am, our time, to allow Lehman deals to be provisionally unwound. That was the most dramatic manifestation of the crisis enveloping that investment bank.

This came at the end of another round of talks that failed to produce a solution.

The talks had all the hallmarks of high drama and crisis management: continuing over the weekend with high-priced bankers, advisers, lawyers and others meeting at the New York Fed offices to try and thrash out a solution.

Reports say the US Government is maintaining the hardline that unlike Bear Stearns and mortgage lenders Freddie Mac and Fannie Mae, no government cash or guarantee will be involved in any bailout of Lehman.

That saw UK bank, Barclays withdraw at 2 am this morning, our time, citing that lack of any government guarantees as the reason.

Some of the suggested buyers have wanted government assistance, financial or implicit, in any deal to buy all or part of Lehman, much in the same way as Bear Stearns was rescued with the Fed providing a $US30 billion line of credit to JPMorgan.

But, led by US Treasury Secretary Henry Paulson the government is adamant that taxpayer funds will not be used this time and has reportedly held that view since talks started Friday.

Bloomberg, Reuters and the New York Times all reported that the US Federal Reserve Bank of New York held emergency talks with officials of major Wall Street firms Friday night to try and drive home the urgency and necessity of getting a deal done to rescue Lehman by the opening of business today in Asia.

The meeting was called after the talks on Friday between Lehman executives, potential buyers and government officials struggled to get a deal in place.

Reuters said that attending were government officials including New York Fed President Timothy Geithner, Treasury Secretary Henry Paulson and Securities and Exchange Commission Chairman Christopher Cox.

The Wall Street Journal said that Wall Street executives in attendance included Morgan Stanley CEO John Mack, Merrill Lynch CEO John Thain, JPMorgan Chase CEO Jamie Dimon, Goldman Sachs CEO Lloyd Blankfein, Citigroup CEO Vikram Pandit and representatives from the Royal Bank of Scotland and Bank of New York Mellon Corp, among others, while the New York Times said that Bank of America Corp was represented.

With the withdrawal of Barclays, it seems there are no other possible saviors..

The talks ended Saturday without an announcement, but Reuters said the final outcome could include spinning-off Lehman's poor assets into a "bad bank", in which rival banks would acquire stakes, or even allowing it to file for bankruptcy.

Paulson and the Fed seem to have drawn the proverbial line in the sand by insisting this will not be a government bailout: the financial sector has to organise the rescue of Lehman and drive it.

There seems to be a growing reluctance to bailing out yet another Wall Street investment bank, especially one that helped get us to the present state by its unbridled development and marketing of subprime related debt.

Investors say that if nothing is done by Monday, global financial markets will be nervous until trading starts in Europe.

Australia doesn't really matter in the scheme of things.

Reuters reported that the US Securities and Exchange Commission and the Fed have held conference calls with Lehman's counterparties in major markets to discuss the implications of various scenarios for the firm.

Friday saw Merrill Lynch shares tumble 12% on Friday, while those of insurer American International Group Inc fell 31% and shares of Washington Mutual, the largest US savings and loan, have dropped 80% this year.

All three companies are regarded as prime candidates for 'next cab off the rank' once Lehman is sorted.

This is so serious the likes of Goldman Sachs, JPMorgan, Merrill Lynch could be next, or could find they are hurt by a huge loss of confidence. That seems to be why Merrill Lynch is looking for a merger.

There're question marks over the auction of a majority stake in Lehman's investment management business, which closed on Friday. Bids were received, but the bailout will probably supersede that, unless the private equity groups said to be interested, are involved in the final outcome.



The huge American Insurance Group is expected to soon announce the raising of between $US10 billion to $US20 billion in equity from private equity groups, Kohlberg Kravis Roberts, TPG, and JC Flowers, as part of an emergency plan to bolster its battered balance sheet and prevent it following Lehman Bros down the tubes.

The announcement could come sometime today, according to media reports in London and New York. 

JC Flowers was reported to be one of the groups interested in Lehman Bros on Friday, but seems now to have switched its affections.

The Financial Times reported that AIG, which has been crippled by losses of $US18.5 billion from selling credit default swaps linked to subprime housing loan bonds, aims to restructure debts and sell $US20 billion in assets to the buyout groups.

 

Those CDS securities are a form of credit insurance and AIG seems not to have understood the damage they could do to its business if the underlying securities or their issuers went bust, as billions of dollars worth of them have done in the credit crunch.

 


AIG has already raised $US20 billion in new capital this year after shocking the market with the losses on the credit securities.

 

The FT said AIG is also considering selling its reinsurance business to lower risk and raise fresh capital. As well a consumer finance, financial products business and some leasing operations could also be sold in the dramatic deal.



AIG's significant exposure to the real estate and credit default swaps (CDS) market has seen ratings agencies to threaten to cut its credit ratings, a move that could require the insurer to raise billions of dollars in extra collateral and new capital.



The company's share price dropped more than 30% on Friday on growing concerns that it could imitate the slow collapse of Lehman Bros. 



 

AIR publishes a weekly magazine. Subscriptions are free at http://www.aireview.com.au

About Australasian Investment Review

Australasian Investment Review (AIR) is a free daily news service with a weekly online magazine covering global financial markets with a focus on Australia, New Zealand and Asia.

Each morning (Sydney time) AIR's team of experienced journalists present you with a concise digest of expert opinions and analysis on trends and backgrounds that matter in these markets. AIR is available free of charge.

 



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