Bailout What the Rescue of Bear Stearns and the Credit Crisis Mean for Your Investments John M. Waggoner John Wiley & Sons, Inc. ffirs.indd iiiffirs.indd iii 8/1/08 11:44:55 AM8/1/08 11:44:55 AM ffirs.indd iiffirs.indd ii 8/1/08 11:44:55 AM8/1/08 11:44:55 AM Bailout ffirs.indd iffirs.indd i 8/1/08 11:44:54 AM8/1/08 11:44:54 AM ffirs.indd iiffirs.indd ii 8/1/08 11:44:55 AM8/1/08 11:44:55 AM Bailout What the Rescue of Bear Stearns and the Credit Crisis Mean for Your Investments John M. Waggoner John Wiley & Sons, Inc. ffirs.indd iiiffirs.indd iii 8/1/08 11:44:55 AM8/1/08 11:44:55 AM Copyright © 2008 by John M. Waggoner. All rights reserved. Published by John Wiley & Sons, Inc., Hoboken, New Jersey. Published simultaneously in Canada. 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HG4521.W155 2008 332.6—dc22 2008032175 Printed in the United States of America 10 9 8 7 6 5 4 3 2 1 ffirs.indd ivffirs.indd iv 8/1/08 11:44:55 AM8/1/08 11:44:55 AM In memory of my parents, Miles Waggoner and Dorothy Mundinger, and with love for my children, Nate and Hope Waggoner ffirs.indd vffirs.indd v 8/1/08 11:44:56 AM8/1/08 11:44:56 AM ffirs.indd viffirs.indd vi 8/1/08 11:44:56 AM8/1/08 11:44:56 AM vii Contents Acknowledgments ix Chapter 1 What Just Happened Here? 1 Chapter 2 How Did It All Begin? 11 Chapter 3 Silly Season 35 Chapter 4 Matters Become More Serious 57 Chapter 5 Where Do We Go from Here? 81 Chapter 6 What’s the Worst That Could Happen? 105 Chapter 7 Fighting Depression 129 Chapter 8 Creeping Infl ation 151 Appendix 171 Notes 181 About the Author 187 Index 189 ftoc.indd viiftoc.indd vii 8/1/08 11:45:14 AM8/1/08 11:45:14 AM ftoc.indd viiiftoc.indd viii 8/1/08 11:45:15 AM8/1/08 11:45:15 AM [...]... the rank and file) But big companies fail all the time and, to be honest, they leave little mark of their passage, except for the holes they leave in the lives (and retirement accounts) of their workers When Bear Stearns collapsed, however, it nearly crippled the short-term money market, the lifeblood of modern finance Bank lending ground to a halt Municipal financing, which pays for roads, schools, and. .. 3.00% 2.00% 1.00% 0.00% Standard & Poor’s 500 Figure 1.2 Lehman Brothers Longterm Gov’t Stocks vs Bonds, 10 years 5 c01.indd 5 8/1/08 11:35:23 AM bailout great reckoning in a small room the sale of itself for the firesale price of $2 a share to JPMorgan Chase Bear Lessons The question, then, becomes what does the bear market in bonds and the demise of Bear Stearns mean for your investments? We can start... thank Debra Englander, my editor, and Kelly O’Connor, Wiley’s development editor, for their support and great patience When you work in a newsroom, anything you do is often the result of your interactions with your fellow reporters and editors Sandra Block, Christine Dugas, and Cathy Chu are friends of the best kind: They can tell you when your ideas are good and when they’re bad, and in either case, you... supply, the Fed buys government bonds from its primary dealers and credits the primary dealer with the purchase price The Fed doesn’t pull that cash out of a wall safe It simply creates the cash, in the form of an electronic book entry Viola! The money supply is now larger The dealers now have more money on their books than they need, so they lend the excess out to other banks But the amount they lend... do to otherwise sober citizens But the real bubble the one that took down Bear Stearns wasn’t in the real estate market It was in the debt market We think of bonds as a kind of investment for Old Money, the folks who would visit the bank vault every few months, clip a few coupons, and redeem them for walking-around money In fact, the bond bulls had run on Wall Street for a very, very long time The bull... schools, and other daily essentials, evaporated The company’s fall changed the way the government regulates Wall Street, and it shook the faith of investors to the core and justifiably so The Herd on the Street How did it happen? Periods of intoxication generally begin with sobriety, and it is the nature of manias that they start out perfectly sane So we are going to detail, in the next chapter, the relatively... Somewhere along the way, the people at Bear Stearns and much of the rest of Wall Street—felt that there was nothing to be surprised about As an investor, you can make intelligent guesses about what the future will be like But there will always be surprises For that reason, you need to cast your net far and wide to protect—as best you can—against the unexpected There will be days when your small insurance... AM What Just Happened Here? the company had accepted it By the end of trading on March 17, 2008, Bear Stock was trading at $4.81 a share The $2 price tag was just too low for Wall Street to believe and rightly so, as it turned out “JP Morgan Bags Wounded Bear Bargain-basement $235 million for Reeling Giant,” read the March 17 headline of the New York Post.1 JPMorgan Chase bought all of Bear Stearns for. .. lower, the Fed increases the amount of money in circulation And money, to some extent, isn’t much different from fish When six ships laden with scrod hit the docks, the price of fish falls When there is a lot of money in the system, the price of money—interest rates—drops, too When the Fed lowers interest rates, it is like having an entire fleet of money-bearing ships arrive at port To increase the money... record-setting year for the real estate industry: Almost everything clicked: Annual records were set in the numbers and dollar volume of resales of existing houses, sales of new homes and the dollar volume of new home mortgages made by residential lenders Mortgage interest rates hit 40-year lows and, more important, stayed there for the entire year Appreciation rates in the values of existing homes moderated, . sale of itself for the fi re - sale price of $2 a share to JPMorgan Chase. Bear Lessons The question, then, becomes what does the bear market in bonds and the demise of Bear Stearns mean for. iiffirs.indd ii 8/1/08 11:44:55 AM8/1/08 11:44:55 AM Bailout What the Rescue of Bear Stearns and the Credit Crisis Mean for Your Investments John M. Waggoner John Wiley & Sons, Inc. ffirs.indd iiiffirs.indd. of Bear Stearns and the credit crisis mean for your investments / John M. Waggoner. p. cm. Includes bibliographical references and index. ISBN 97 8-0 -4 7 0-4 012 5-5 (cloth) 1. Investments. 2.