Fuld, no doubt cautioned by what happened between Peterson and Glucksman, took eight years to appoint a No. 2. Finally, in 2004, Fuld elevated Gregory to president—among other qualifications, he made a point that he didn’t want Fuld’s job.
Fuld and Gregory divided the executive duties. Fuld was the face of the firm. He flew around world on a brutal schedule, meeting CEOs and clients—over the years, he’d become a more comfortable speaker. Gregory was the inside man, running the firm day-to-day. “Dick had to okay them,” one former executive explained, “but Joe made all the decisions.”
Gregory was not a detail-oriented manager. He believed that culture drove the bottom line and his job was to keep a team-oriented culture on track. “If you got the people and the culture right, they would run the firm day-to-day in a great way,” one former executive said, explaining Gregory’s view. “He was Mr. Instinct,” another executive said. Gregory viewed that as a strength. “Trusting your instincts, trusting your judgment, believing in yourself … and making decisions on the back of that trust is a remarkably powerful thing,” he told one group. Sometimes, that instinct meant that Lehman would “decide that we should be doing the exact opposite of what the analysis said,” as one analyst put it.
At the top of the organization, Fuld instilled his pugilistic, paranoid view of the world: It’s us against them. “Every day is a battle,” he told his managing directors. “You’ve got to kill the enemy. They tried to kill us.” Lehman, as he saw it, was always in danger, never getting respect even as it became the country’s fourth largest investment bank. “We’re going to keep showing people not to underestimate us,” he said. And the troops, as Fuld called them, bought in. Turnover was low. “There was a special feeling to the place,” says one former executive-committee member. “One of the great parts of the firm is that people put their hearts into it.”
The Street needed a head, one of the bankers said. “I have one bad quarter. This is how you respond?” Fuld shot back.
Fuld continued to reward employees in Lehman stock, as much as 50 percent of compensation, and as before many couldn’t access the full benefit for as long as five years. Few protested as long as the stock continued to climb, and it climbed an average of 25 percent a year for fourteen years.
To push the stock price, Lehman had to continually increase revenues. How to do that wasn’t a big mystery. “In the late nineties, Goldman Sachs had made a ton of principal investments which paid off four years later,” says one former Lehman executive. “It drove Lehman higher-ups to think we weren’t being aggressive enough. We had to keep up.”
Leverage was the way to supercharge revenues. At one point, it was said that Lehman had borrowed $32 for every $1 in its coffers. (Compare that to home buying. Usually a buyer must put down 20 percent of the total price. Lehman, in effect, made a down payment of about 3 percent.) By comparison, at Merrill Lynch and Goldman Sachs, the ratio was roughly 25 to one. For all of the firms, a small dip in the value of collateral could prove calamitous.
Lehman quickly put its capital to work in real estate and soon was a dominant force in the subprime-mortgage market, which catered to borrowers with shaky financial backgrounds. An even more significant engine of profit for the firm was commercial real estate. “Mark Walsh [head of commercial real estate] financed a lot of the firm for a number of years,” says one person who was above him. Later, Walsh was criticized for doing deals past the market’s top. The Archstone-Smith deal was usually named. But in October 2007, when he led the group that snagged Archstone, a high-end apartment owner, for $22 billion, it was the year’s trophy deal. “A pretty good deal for the buyer,” says one analyst. It was also the largest real-estate deal Lehman had ever done, and approved by the executive committee.
By the end of 2006, some at Lehman had begun to think that real estate was nearing the end of its run. Mike Gelband, who was responsible for commercial and residential real estate, had by then turned decidedly bearish.
“The world is changing,” Gelband told Fuld during his 2006 bonus review, according to a person familiar with Gelband’s thinking. “We have to rethink our business model.”
But given the importance of real estate to Lehman’s bottom line, that wasn’t what Fuld wanted to hear. Fuld had seen his share of cyclical downturns. “We’ve been through this before and always come out stronger,” was his attitude. “You’re too conservative,” Fuld told Gelband.
“We’ve been lifted by the rising tide,” Gelband insisted.