Morgan Stanley's shares fell 24 percent that day, and then- Chief Executive Officer John Mack sent a memo to the firm's 46,000 employees saying "there is no rational basis for the movements in our stock."
"We're in the midst of a market controlled by fear and rumors, and short-sellers are driving our stock down," Mack, 66, wrote, adding that "we have talked to" Henry Paulson, U.S. Treasury secretary at the time, and then-SEC Chairman Christopher Cox about the issue. He reiterated that the firm had $179 billion of liquidity as of Aug. 31. He didn't mention that the figure had since dwindled to $117.7 billion, even as the firm drew an additional $38.5 billion from the Fed.
Chanos Withdrawal
Jim Chanos, president and founder of New York-based hedge fund Kynikos Associates LP, which specializes in short selling, decided to pull $1 billion out of Morgan Stanley because he was angry that Mack had put out a memo demonizing short sellers, a person with knowledge of the matter said.
Chanos, 53, has since returned to Morgan Stanley as a prime-brokerage client, partly because the firm in September 2009 announced that Mack would give up his daily operational role as CEO, while remaining chairman, the person said.
On Sept. 19, 2008, Citigroup representatives told Fed staffers that "Goldman and Credit Suisse are actively pursuing Morgan's prime business clients," according to an internal report that afternoon. The flows from Morgan Stanley and Goldman Sachs were coming in so quickly that Citigroup barely had time to vet the new clients, the report said.
Counterparty Risk
Within a week of Lehman's bankruptcy, Morgan Stanley had lost $84.8 billion of prime-brokerage free credits, according to a Morgan Stanley treasurer's report released by the crisis commission. The next week, $43.3 billion more flowed out.
By Sept. 29, the bank was borrowing $61.3 billion from the PDCF through units in the U.S. and London and getting $36 billion from the Term Securities Lending Facility. The TSLF allowed broker-dealers to swap mortgage bonds for liquid Treasuries that could then be sold or pledged for cash close to their face value. Morgan Stanley also received $10 billion from the Fed's single-tranche open-market operations, another emergency-lending program for broker-dealers.
The firm, which routinely demands collateral from hedge funds to guard against default, faced a bigger risk when clients suddenly began worrying the bank might not survive.
"This was a world turned on its head," said Bernstein's Hintz. "Who would have guessed that hedge funds would have worried about the counterparty risk of Morgan Stanley? Morgan Stanley worried about the counterparty risks to hedge funds, not the other way around."
Mitsubishi Stake