Anatomy of a panic? The collapse of Morgan Stanley

http://ftalphaville.ft.com/blog/2008/11/25/18667/anatomy-of-a-panic-the-collapse-of-morgan-stanley/

Anatomy of a panic? The collapse of Morgan Stanley

From the WSJ:

It turns out that some of the biggest names on Wall Street — Merrill Lynch & Co., Citigroup Inc., Deutsche Bank and UBS AG — were placing large bets against Morgan Stanley, the records indicate. They did so using complicated financial instruments called credit-default swaps, a form of insurance against losses on loans and bonds…

…during those tumultuous few days in mid-September, the swaps market turned on Morgan Stanley like a financial Frankenstein.

Disclaimer:
No evidence has emerged publicly that any firm trading in Morgan Stanley stock or credit-default swaps did anything wrong. Most of the firms say they purchased the credit-default swaps simply to protect themselves against potential losses on various types of business they were doing with Morgan Stanley.

Indeed it would be madness for Merrill, Citigroup, DB et al to actually be trying to bring down MS as the article suggests, given the systemic risks that kind of collapse would pose.

The picture is much more subtle and insidious than the WSJ and Andrew Cuomo et al make out. Sure there was a panic at MS - and a run on the bank - but it wasn’t caused by some cabal of CDS traders, or puppets whose strings were being pulled from the C-suite floors of rival banks. It was just a perfect example of human behaviour - and a series of fallacies.

Just look what happened after John Mack started lobbying to have short-selling banned, for example:

…hedge-fund managers were up in arms. Some yanked business from Morgan Stanley, moving it to rivals including Credit Suisse, Deutsche Bank and J.P. Morgan. They said the trading represented legitimate protection and speculation.

Hedge-fund veteran Julian Robertson Jr. and James Chanos, a well-known short seller, both longtime Morgan Stanley clients, were both angry. Mr. Chanos says he “hit the roof” when he heard about Mr. Mack’s memo.

After the stock market closed that day, Mr. Chanos decided that his hedge fund, Kynikos Associates, would pull more than $1 billion of its money from a Morgan Stanley account.

“It’s one thing to complain, but another to put out a memo blaming your clients,” says Mr. Chanos, who adds that the development all but ended a more-than-20-year relationship with Morgan Stanley.