When two of Bear Stearns's highly leveraged hedge funds that reportedly had invested in subprime loans imploded last summer, the firm stepped in with $1.6 billion to pay off the lenders who'd provided the leverage, but left shareholders in those funds with next to nothing. In an eerie echo of that scenario, shareholders in Bear Stearns itself suffered a similar fate during mid-March, as Bear Stearns became the first major firm to fail during this period of market stress. Bear Stearns went from some $12 billion in capital cushion one day to near-bankruptcy the next, according to Securities and Exchange Commission Chairman Christopher Cox in a March 20 letter he sent to the Basel Committee on Banking Supervision, which sets the capital guidelines used by banks.
The Federal Reserve, Treasury, and JPMorgan Chase, concerned that Bear Stearns's collapse could cascade into a financial system catastrophe, stepped up, propping up Bear Stearns on Friday, March 14, and then 60 hours later, on Sunday night, March 16, JPMorgan Chase announced an extraordinary deal under which it would acquire Bear Stearns in a stock swap equal to $2 per Bear Stearns share, with Fed backing of up to $30 billion. One week later, on March 24, a revised deal was announced, sweeter for Bear's shareholders who now are set to receive a stock swap equivalent to about $10 per Bear Stearns share; and with $29 billion in Fed backing.
In the aftermath of the deal, a big question in the advisory community is what will happen with Bear Stearns's correspondent clearing broker/dealers (B/Ds), and registered investment advisors (RIAs) who custody assets at Bear? While it's too soon for JPMorgan Chase to talk about the integration of those Bear Stearns businesses, the big bank has a mammoth global custody operation, part of its JPMorgan Worldwide Securities Services business, with "more than $15 trillion in assets under custody," according to the firm's Web site; but that is different from the RIA custody business. While there is no mention of correspondent clearing on the JPMorgan Web site, the firm has a large agent bank clearing operation, but again, that's different from correspondent clearing, so how Bear Stearns's correspondent clearing and RIA custody operations would be integrated remains to be seen.
Hegemony?
Meanwhile, firms that already have RIA custody and correspondent clearing operations see the Bear Stearns situation, and more broadly, the financial crisis, as an opportunity to gather RIA custody assets or talk with B/Ds that now may want to consider their options. "Clearly, the liquidity crisis is affecting investors and it's affecting the financial services industry dramatically. Fortunately for Pershing and for The Bank of New York Mellon Corporation, we're viewed as a fairly safe harbor in the storm here," says Pershing LLC Chairman and CEO Richard Brueckner. "We are not making big bets in the marketplace–that's not our business–we are only in business to provide service to our customers." Pershing has the biggest correspondent clearing business, serving 1,150 B/Ds, and a large RIA custody business, with nearly $80 billion in RIA assets under custody. But if you add corporate RIA assets from introducing B/Ds, it's closer to $300 billion, Brueckner notes.
What about relationships?
Bernie Clark, senior VP for sales and relationship management at Schwab Institutional, the largest RIA custodian, says of the RIAs that custody at Bear Stearns: "We're seeing a lot of interest and we're seeing movement–almost immediately it began: one, trying to see how quickly they can move their assets, but also, consolidation opportunities if they had already had relationships with us." Bear Stearns, Clark explains, is "about the fifth-largest player in the custodial space…for registered investment advisors; they have about 2.5% of the market, about 100 RIAs and $45 billion in assets," ballparking the numbers with market conditions in mind. Schwab Institutional has "close to $600 billion in assets and about 24% of the marketshare." He credits JPMorgan with "doing a fabulous job at helping to stabilize the markets, and I've read and heard lots of things about their desires around [Bear's] hedge funds, their prime broker business, but it's uncertain to me what they might want to do with this fraction of a fraction of a business that they actually haven't been participating …I think the advisors notice that…and the advisors who were there who were immediately worried about liquidity are also now worried about 'Will the people I worked with still be there?'" Clark adds, "a big part of being a custodial provider is in the servicing of relationships." Clark places the inquiries Schwab is receiving into three categories: the group that has relationships with Schwab and Bear Stearns and may want to consolidate; those who are new to Schwab; and brokers who are thinking of becoming investment advisors–either with their own RIA firm or joining an existing RIA.
