One on One with Stephen Crawford
Given the anniversary of the financial crisis and Basel III are in the news this week, I decided to open up my Rolodex and speak with one of my great go-to financial experts.
Stephen Crawford, former co-president of Morgan Stanley and partner of financial advisory boutique firm Centerview Partners is one executive who has his pulse on the economy and financial services industry.
The company has advised over $350+ billion in transactions since its inception in 2006. Crawford has advised some of the biggest financial mergers in the last decade — first advising Fleet on its $49 billion sale to Bank of America, advising Bank of Boston on its $16 billion sale to Fleet, Barnett Bank's $15 billion sale to NationsBank and Bankers Trust's $9 billion sale to Deutsche Bank.
Other notable transactions for Centerview in the M&A space include the pending deal of NBTY's $3.8 billion sale to Carlyle Group as well as Kraft foods on its $21.6 billion acquisition of Cadbury and PepsiCo's $21 billion acquisition of the Pepsi Bottling Group and PepsiAmericas.
I started my conversation with him on Basel III asking him if his thoughts on requirements and if it will prevent the next financial crisis.
SC: No it will not prevent the next financial crisis. There are at least two gaping holes.
First risk weighted assets are and continue to be a miserable indicator of risk. Properly structuring your business when capital and risk models aren’t calibrated is a real challenge.
Second, one of the things missed in Basel III is the inherent liquidity risks of a large bank with the capital markets business. All of the hard work an institution does to lengthen its liabilities is illusory when their capital markets clients show up demanding bids for the same liabilities in times of stress. The whole liability structure irrespective of contractual terms, takes on the dynamic of overnight funding.
LL: The anniversary of the financial crisis is this week. Do you think any lessons have been learned?
SC: Some lessons have been learned, but the most important has not taken hold. The simplicity of the crisis is still under appreciated in how leverage in every segment of the economy— the government, corporate, financial and consumer sector was flat out ignored.
There were plenty of signs we were in a five or six sigma event when it came to leverage. It is not at all clear why people will recognize a leverage problem if it occurs the next time around. On a positive note, there are risk managers still working in risk organizations that have developed a healthy level of skeptism to a numeric approach when assessing risk. There is a lot more judgement. It’s beyond the spread sheets.
LL: There is a lot of concern surrounding the US economy. Where do you think we are?
SC: My view has not changed from being substantially bearish over the long run. Whether you look at the markets or economics statistics, we are going guard rail to guard rail from greed to fear. To some degree the outlook varies depending on whether or not you’re looking through the rearview mirror or the windshield.
If you look at the rear view mirror the United States has had decades of unadulterated growth. The naysayers have been around for years. This is yet another cyclical rotation and potentially a movement from American leadership to Asian leadership. That's the positive. On a more sober look ahead, one can question if the United States is facing different challenges that are more secular? When it comes to debt, the level we have in our economy is unrivaled in any time in history.
Historically, demographics have helped the United States grow out of past recessions. But this time is different. We had a young fast growing population driving economic growth. That is not the case now.
Finally, we don't have a political system that works and recognizes the systemic challenges. I don't have a huge party affiliation but the whole DC equation is broken, its not just politicians but the people electing them as well.
LL Where does the unemployment situation fit in in all of this?
SC: You can't kick start jobs with out getting the economy back on track. We have to dramatically change the entitlement system in this country. We need to lengthen the retirement age and also reduce benefits.
Unfortunately we are going in the opposite direction. When you do the math, you are already talking about capitalizing the debt at +$400k a household, that's from the entitlements and not including their own debt. We need to recognize the government's role in the economy is debilitating in two respects.
It is a poor allocator of scarce resources. In addition, the cloud of uncertainty coming out of DC is having a negative impact on business. On the other side, we have to realize the rules need to change in order to balance the economic growth. The wealth concentration in this country can not continue on the same path.
LL Speaking of reallocation. What are your thoughts on the Bush Tax Cuts?
SC: Many people would be happy to have the Bush Taxes Cuts expire if they thought the resources would be used to make a substantial downpayment on the debt burden. I have no reason to believe that will happen. Pushing more economic resources through the inefficiencies of Washington wouldn’t be my prescription for growth.
LL: Your company specializes in mergers and acquisitions and we have seen strength in M&A activity. What's your outlook going forward?
SC: With respect to the financials, in particular to the dispository institutions, the biggest actors in the dispository market I think will be more on the sidelines as they focus on building their capital requirements because of Basel III.
Accounting convention requires companies to recognize life of loan losses up front which compounds their capital needs. Also with the pending regulatory changes, they will be substantially focused on restructuring internally. There are many important rule makings to come which will define demand in the sector.
In the rest of the world as the markets have gotten better, the impending doom people were feeling has subsided.
M&A has come back and as credit spreads have declined and equity spreads valuations are increased. Finding savings and synergies within your industry through acquisition is one way of growing given the paucity of organic growth in the economy. M& A will stay reasonably active as long as the markets hold up.