Global markets plummeted on Monday after investment bank Lehman Brothers filed for bankruptcy protection, rival Merrill Lynch agreed to be taken over and the Federal Reserve threw a life line to the battered financial industry.
As a deepening crisis took new, bigger victims, The U.S. Federal Reserve said for the first time it would accept stocks in exchange for cash loans and 10 of the world's top banks agreed to establish a $70 billion emergency fund, with any one of them able to tap up to a third of that.
On a black Sunday for Wall Street, frantic attempts to find a rescuer for Lehman failed, and troubled insurer American International Group asked the Fed for a lifeline, according to news reports.
The events signal a seismic shift in Wall Street's power structure with big name investment banks biting the dust and major banks like Bank of America and JPMorgan Chase becoming the survivors.
"It's a return to pure capitalism, the survival of the fittest — the government can't and won't bail everybody out," said Justin Urquhart Stewart, investment director at 7 Investment Management in London.
"Investors will now retreat to the trustworthy banks, though that's not a phrase that trips off the tongue easily nowadays."
Bank of America agreed to buy Merrill Lynch in an all-stock deal worth $50 billion, seeking a bargain as the world's largest retail brokerage sought refuge from fears it could be the next victim.
"It's just shockingly fast how it happened," an employee for Merrill in Asia said. "It's hard to believe there will be no more Merrill Lynch," he said of his firm, known as The Thundering Herd.
Asian and European stock markets tumbled as the worries about Lehman counterparty risk and further financial market turmoil sent investors scurrying for safe havens such as gold.
The FTSEurofirst 300 index of leading European shares fell 5 percent, led by falling bank stocks such as UBS, down 10 percent.
Shares in U.S. banks trading in Frankfurt tumbled, with Lehman plunging 80 percent and Morgan Stanley, Citigroup and others all in retreat. Frankfurt-listed shares in AIG fell almost 30 percent.
Merrill's shares offered a rare bright spot and its Frankfurt-based shares jumped 36 percent. Bank of America said it had agreed to buy Merrill in an all-share deal for the equivalent of $50 billion, or $29 a share, almost $12 a share above Friday's closing price.
Lehman said it filed for Chapter 11 bankruptcy protection and was attempting to sell assets, becoming Wall Street's highest-profile bankruptcy since junk bond specialist Drexel Burnham Lambert succumbed in 1990. Lehman's European arm appointed administrators, who said they would wind down the business in as orderly a manner as possible.
Lehman's petition followed three days of talks between bank CEOs and regulators at the Fed's fortress-like Manhattan building.
"This shows the U.S. government is saying 'enough' after saving other institutions and that they see Lehman as a private affair. I think today and tomorrow there will be a panic on the markets," said Marie-Pierre Pillon, head of equity and credit research at Groupama Asset Management in Paris.
S&P500 share futures fell more than 3 percent, signaling U.S. stocks will open sharply lower, and the dollar tumbled.
The euro jumped to as high as $1.4479, up 1.7 percent from Friday, while U.S. Treasury yields dropped to five-month lows on concern about the stability of the U.S. financial system and as investors increased bets the Fed will cut interest rates.
SHAKE-UP
With Lehman and Merrill out of the picture, three of the top five U.S. investment banks have effectively departed the scene inside six months. Bear Stearns was acquired in a fire sale by JPMorgan in March.
Britain's Barclays emerged as a front-runner to buy Lehman late on Sunday after Bank of America pulled back, but it was deterred by the U.S. government's unwillingness to provide a financial backstop to potential losses.
Lehman collapsed under the weight of toxic assets, mainly related to real estate, that are now worth only a fraction of their original prices.
In its bankruptcy filing, Lehman said Citigroup, Bank of New York Mellon, Japan's Aozora Bank and Mizuho Financial Group were among its top unsecured creditors.
The cost of insuring banks against default jumped and one credit analyst said without the positive Merrill takeover news the market could have seen "one of the most brutal days on record."
LINE IN SAND
Lehman employees streaming into its European headquarters in London's Canary Wharf financial district were met by television cameras, a swarm of reporters and a beefed-up security team.
"I guess times are tough and we've got to face the music … Everyone is worried about their job, it's inevitable," said one banker entering the building, adding a company-wide meeting had been set for Monday morning.
Other employees said staff were clearing desks, packing personal belongings and saying farewells to colleagues.
Scores of Lehman employees began showing up at dawn at the company's New York headquarters, many dressed in casual clothes. Most were carrying duffel bags and suitcases, as if they were planning to pack up and leave.
The New York Times also reported that AIG, once the world's largest insurer, had made an approach to the Federal Reserve seeking $40 billion in short-term financing.
Authorities sought to prop up market confidence with announcements late on Sunday. The Fed said it would accept equities as collateral for emergency loans, and laid out a series of steps to calm markets and brace for Lehman's collapse.
In addition to broadening the collateral it will accept from investment banks for direct Fed loans, it said it would increase the amount of Treasury securities it auctions on a regular basis under one of its lending programs.
One of the catalysts for this weekend's events was the stance of U.S. Treasury Secretary Henry Paulson, who opposed using government money to resolve the Lehman crisis after a week earlier bailing out mortgage lenders Freddie Mac and Fannie Mae, wary of accusation of encouraging excessive risk-taking by bailing out the bank.
