NEW YORK — New York. -- Add Salomon Brothers to a list of names that appears to expand quarterly, if not monthly: BCCI, Drexel Burnham Lambert, E.F. Hutton, Goldman Sachs, Kidder Peabody, etc. They are all powerful, or once-powerful, financial firms that were rocked by scandal.
Often, they could not survive the tumult. Hutton and Drexel are, essentially, no more. Kidder's management, indeed almost its entire staff, is new. Occasionally ruthless, Wall Street firms routinely withstand rounds of bitter populist criticism. But given even a small erosion in confidence in their own economic solvency, disaster looms.
At the moment, Salomon is threatened. Since August began, the value of its stock has contracted by more than a third -- $1.5 billion in round numbers. It has launched the most prominent head hunting expedition in Wall Street history, yet is having trouble bagging a new full time chief executive for what the average person might consider an impressive job (high seven digit salary, contact with world leaders, personal trainer, unlimited fine cigars, chance to meaningfully change the global economy). Already, the position is said to have been rejected by thehead of one of New York's most prominent law firms as well as by Lewis Bernard, a recently retired (but still young) managing director of Morgan Stanley.
Clients are defecting and routine refinancing of billions of dollars worth of working capital is being questioned by rating agencies. Lack of ability to roll over debt is Wall Street's equivalent of frontier justice. Without money comes death.
All of this in a remarkable reversal from early last month, when Salomon appeared to be riding out the recession with record profits and growing market share. Its successes are almost too long to list -- an Asian division the envy of even Japanese firms, a pre-eminent trading desk, superb (meaning independent and credible) research, an underwriting operation that recently beat out every firm on Wall Street to rescue a disastrous equity offering by Time Warner, and, given the recent circumstances, most remarkable of all -- a reputation that survived the 1980s immune from assorted inside trading scandals and the like.
How could all of this crumple so quickly? One answer, perhaps the most painful for Salomon to bear, is simply stupidity. Salomon's admitted wrong-doings concern actions taken in the U.S. Treasury market to exceed permitted bidding levels -- an arcane and arguably silly rule, but one the firm certainly understood to exist. No firm is allowed to purchase more than 35 percent of the debt offered by the government at the quarterly auctions financing the federal debt.
At times, Salomon by itself and through bogus customers may have controlled more than twice its permitted share. Shock was the initial reaction from regulators. Now they are looking at whether others did the same.
In retrospect, breaking the rules is not as surprising as the firm's failure to realize the gig was up. The first improprieties occurred in February; senior executives were notified in April that regulators were aware of the problem, and yet other improprieties occurred in May.
Any good trader, and those at Salomon are reputed to be the best, should realize when to cut losses. A quick response in April, such as sacking the two traders immediately involved (fired last weekend), or at least admonishing them to follow the rules the next time around, may have spared the firm a lengthy probe and Salomon's top three executives a boot out the door.
Instead, they did nothing -- an oversight, Warren Buffett, the smart and straight Omaha investor temporarily installed as head of the firm, characterized in hindsight as "inexplicable" and "dumb."
Perhaps it was just hubris. Or maybe a blithe hope that the complex business would elude regulators.
After all, many of the inside trading cases of the 1980s have now ended in either mistrials or trivial sentences. In three cases in particular, one concerning the head of arbitrage at Kidder Peabody, another the head of arbitrage at Goldman Sachs, and a third a senior executive at GAF, there was an abundant information that actions took place which certainly violated the spirit of the law, yet sentences were light, or non-existent because standard, unequivocal evidence, like a gun, body, or bloodshed, didn't apply.
But these defendants faced juries of 12 ordinary men, or the equivalent. Salomon faces a far tougher challenge -- a jury of its peers. And this time, unlike in the past, they have reason to be annoyed. Note the difference between Salomon's potential misdeeds and those others. In the mid-1980s conspiracy of inside traders, the victims were often operating companies. Other financial firms, however, were often the beneficiary because inside trading and the like both fed off of and stimulated mergers and acquisitions, a facet of the securities business that can be unusually lucrative.