It’s now official: the week of September 15, 2008 was a really bad week to work in Morgan Stanley’s prime brokerage. And the next week wasn’t so hot either. Various internal documents released with the FCIC report provide a fairly detailed picture of Morgan Stanley’s liquidity position during the crisis, and it’s not pretty. Prime brokers like Morgan Stanley relied heavily on customer cash held in prime brokerage accounts (known as “free credits”) to fund themselves. So when hedge funds all pulled their cash from Morgan Stanley’s prime brokerage after Lehman failed, that had a direct effect on Morgan Stanley’s liquidity pool.
On one day alone (Wednesday, September 17th), Morgan Stanley’s prime brokerage lost $36.6 billion in free credits. That’s $36.6 billion instantly gone from the firm’s liquidity pool. To add insult to injury, that same day, prime brokerage customers also withdrew $12.3 billion of excess margin, which dealers also count toward their liquidity pool. For the week, Morgan Stanley’s prime brokerage lost an amazing $86.5 billion in liquidity. And the next week, they suffered an additional $43.3 billion of outflows, for a two-week total of $129.8 billion. That’s a hell of a fortnight!
Overall, Morgan Stanley’s liquidity pool was falling by tens of billions per day — the firm was basically imploding. Without the government bailout, it’s pretty clear that they wouldn’t have lasted another week.
Unfortunately, I had to pull the stats on Morgan Stanley’s liquidity pool from the internal documents posted on the FCIC’s website, because the FCIC absolutely mangled the liquidity pool numbers in the actual report. They constantly confuse the parent company’s liquidity pool with the firm’s overall liquid assets, which are two completely different measures. They include several dramatic statements like, “Morgan Stanley’s liquidity pool had dropped from $130 billion to $55 billion in one week,” which isn’t even close to right. In fact, they seem to have simply pulled that $130 billion number out of thin air, as it’s not in any of the underlying documents. At one point, they say that “By the end of September, Morgan Stanley’s liquidity pool would be $55 billion,” and then cite to an email written on September 19th. (And the email was talking about parent company liquidity anyway!) Basically, it’s clear from the report that the FCIC didn’t understand anything about liquidity management — which, given the prominent role liquidity management played in the financial crisis, is pretty sad.