15 September 2008: Lehman Brothers collapses

The collapse of Lehman Brothers was arguably the pivotal point of the global financial crisis. When the US’s fourth largest investment bank filed for bankruptcy 10 years ago, it triggered the worst financial state of emergency of our lifetime.

Its demise, after losing billions of dollars in the US sub-prime mortgage market, and gargantuan problems that followed brought the international financial services industry into unchartered territory.

Governments were forced to rescue banks, while central bankers were forced to dramatically cut interest rates and launch massive quantitative easing programmes, in a bid to prop-up the global economy.

Alan S. Blinder, author of After The Music Stopped, compared the events of that time to a chaotic three-ring circus at which “a trio of jugglers named Bernanke, Geithner, and Paulson tried to keep multiple balls in the air at once (Lehman, AIG, Merrill Lynch, and others) while an unruly herd of elephants stomped around shaking the ground, and a stiff wind threatened to blow down the circus tent”.

A decade later, there is much more awareness, though not necessarily greater understanding, of opaque investment products, such as asset-backed securities linked to loans and mortgages, and other overly complex instruments.

Liquidity, or an apparent lack of it, in certain investment products has always been a big issue, though education on what can and cannot be traded daily has been a big focus for asset managers since Lehman’s implosion.

In its recent report, Financial supervisory architecture: what has changed after the crisis?1, the Financial Stability Institute, looked across different structures and organisations brought in to keep an eye on reckless lending.

The FSI, which was jointly created in 1998 by the Bank for International Settlements and the Basel Committee on Banking Supervision, concluded that there is no “silver bullet” for financial supervision.

But the financial adviser community also plays a big role in emphasising the need to invest only in assets which clients can easily understand, and have a strong grasp of the risks involved.

However, in terms of eradicating mistakes and the threat of a potential future crisis, great progress has been made, with central banks taking on more responsibility in terms of oversight.

The FSI’s report also calls out the pros and cons of the so-called ‘twin peaks’ model, like we have in the UK. This includes the Financial Conduct Authority and the Prudential Regulation Authority – two separate financial supervisory authorities, one specialised in the prudential monitoring of regulated institutions and another on the oversight of business conduct.

Ultimately, as investors, the financial crisis taught us all some valuable lessons about the importance of liquidity management and diversification in our portfolios. While it’s true that pretty much all asset classes took a downward turn in the immediate aftermath of Lehman’s collapse, the importance of proper asset allocation was soon restored, in building the right balance of risk and return.

As an industry, professionalism has increased, products have become more transparent, and we are all hopefully much more prepared, should the worst happen again. But the crisis, like all downturns, eventually hit is own nadir and markets are much higher today. In the UK,  the FTSE All Share has delivered a total return of 122%2 since Lehman’s collapse, while in the US stories about the longest ever bull market have been taking up column inches. All of which goes to highlight once again that all markets, whether rising or falling, are cyclical.

1 https://www.bis.org/fsi/publ/insights8.pdf

2 The FTSE All Share total return in GBP since 15/09/2008 to 31/08/2018 is 121.85%. Source: AXA Investment Managers