The bad news Bear

There are a few lessons that Middle East banks can take from the fall of Bear Stearns.

The first is that no institution is too big to fail. Bear Stearns made its first-ever quarterly loss at the end of last year due to the exposure of two of its hedge funds to US sub-prime mortgages. Within six months, the bank, which was not the hardest-hit by America's mortgage meltdown, finds itself being taken over by JP Morgan for what could be a bargain price of US$236 million.

The second lesson is that market sentiment speaks more loudly than fundamentals. There have been whispers lately that one of the major Wall Street banks was in trouble, but nobody was sure which one. When the US Federal Reserve announced on March 12 it was to pump $280 billion into global markets to boost liquidity, many industry observers interpreted it as a sign that one of the big banks was on the verge of collapse.

When, following the move, most US financial institutions saw their shares rise by around 7.5% and Bear Stearns stocks rose by only 1%, the market appeared to have made up its mind which bank was in trouble. The rest happened quickly.

But no one besides JP Morgan, which stepped in on March 14 to guarantee Bear's counterparty risk, has had access to the bank's books. The market might have made the wrong call.

The whole incident goes to show that emotions - specifically, panic - can shape market movements just as easily as hard facts. With this in mind, banks need to come clean about bad news before the rumour mill gains momentum. Perhaps that would not have saved Bear Stearns from its fate, but with growing negative sentiment and the absence of any solid information to limit their fears, market players made up their own minds.

Oh, and according to sources in the banking world, another Wall Street giant might find itself in deep trouble in the coming weeks. No doubt the markets will do their best to point out which one - and they might even guess correctly.

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