Frank Capra would have loved the ongoing demise of Wall Street as we know it. How could he not? He correctly presaged it 62 years ago in It’s a Wonderful Life. Except in the 2008 sequel, not only does the Bailey Bros. Building & Loan survive, but it vanquishes Potter’s sorry, bloated operation, and the evil banker’s empire gets dismantled and sent to the eponymous field! This time around, George Bailey gets played not by Jimmy Stewart but by another quiet, unassuming individual, Ron Hermance. He’s the CEO of the homegrown Hudson City Bancorp, a modern-day replica of the Bailey Bros. Building & Loan. Never heard of Hermance or Hudson City? Under the avuncular and down-to-earth Hermance, this once-tiny Paramus, New Jersey, savings bank is now the largest savings and loan in the country. Who gets cast as the vicious, scheming Mr. Potter? We’ve got tons of candidates vying for that role these days, but only Richard Fuld, of the bankrupt Lehman Brothers, can truly fill Lionel Barrymore’s wingtips, given his arrogance and greed. How fitting is it that the day Lehman Brothers ceased to trade, because of Fuld’s inability to grasp how truly rotten Lehman had become, Hudson City hit its 52-week high? The cause of Lehman’s death? A mortgage portfolio of deadbeat loans that may prove to be worth even less than Fuld and his minions eventually acknowledged.
Hudson City’s secret is that, just like good old George Bailey in the movie, Hermance never saw the world outside his hometown, never went to exotic places like Santa Barbara, South Beach, or Europe. So unlike Fuld, or the executives at the defunct Bear Stearns, the merged Merrill Lynch, and even the now-seized American International Group, Hermance never lent money, gave mortgages, or promised to pay off on guarantees to anyone outside of his bailiwick. In other words, unlike those other guys, Hermance actually knew his borrowers and has been paid back on virtually every loan he has ever made. Hudson City’s default rate is virtually nonexistent compared with that of every one of these fallen behemoths. That’s how good the firm’s lending standards are. His model couldn’t have been more the opposite of the Potter-like plan, which, at its core, meant crafting mortgage-backed securities together from billions of dollars in residential loans of dubious quality that vastly overstated the value of the property underneath them and had no hope of ever being repaid unless housing continued to appreciate. No wonder Hudson City’s thriving while Potter’s field is filled with the graves of those who worked at Bear, Lehman, and Merrill.
The ascendancy of Hudson City, and the destruction or succumbing of so many of the once seemingly invincible investment banks or insurers, is no coincidence. There’s a fundamental change going on, and Hudson City’s riding it while almost everyone on Wall Street is being swamped by it. The change involves risk and the need to avoid taking it; it involves funding and the need to have a steady source, through sticky deposits, not hot slimy hedge funds; and it involves simplicity, not complexity. A mortal can actually understand how Hudson City makes its money; nobody can possibly even fathom all of the ways that Lehman or Bear or Merrill or AIG found to lose money.
How did we get to the point where some dinky local savings and loan is now the darling of high finance, and the old, storied banks are falling by the wayside, with even the best of the surviving lot—Morgan Stanley, Goldman Sachs and JPMorgan—struggling with weak profitability and layoffs? Is this the end of the old Wall Street, or simply another bust in the Street’s endless up-and-down cycle? Is it possible that something once as profitable as a modern investment bank may not even work as a business by this time next year? Has Wall Street finally fulfilled Marx’s long-held assumption about capitalism, that it would eventually collapse upon itself? Finally, are we, after these bailouts, nationalizations, and confiscations, in a perverse twist on an old Nixon riposte, all communists now?
Before we answer that, we have to ask ourselves how we got here. The unraveling started with brokers searching for new income streams after the post-dot-com collapse of equities. With the Federal Reserve taking interest rates down to 1 percent to jump-start the economy after 9/11, these firms’ clients were desperate for bonds that could give them a higher return than risk-free Treasury bonds. With low short-term rates available to tease borrowers, as well as what seemed to be endless home-price appreciation and a glut of global cash seeking a home, the brokers decided to package all sorts of arcane mortgages into bonds and sell them to institutions and hedge funds around the world. The whole scheme rested on the underlying value of those homes, which would never decline again—right?