Lehman used 'alter ego' to shift risks

Louise Story

TEXT OF INTERVIEW

Kai Ryssdal: I sorta can't believe I'm saying this, but details on the spectacular collapse of Lehman Brothers just keep on coming. The New York Times had the latest today. A shadow bank called Hudson Castle that helped Lehman cover up risky investments. The same risky investments that helped bring the company and eventually the housing market, and the whole rest of the economy, to its knees.

Louise Story wrote the article. Louise, welcome to the program.

Louise Story: Great to be here.

Ryssdal: So explain this thing called Hudson Castle would you, and its relationship to Lehman Brothers.

STORY: You've never heard of Hudson Castle. But they're an obscure firm, very important to Lehman. In 2001, Lehman invested in them and became the biggest shareholder. We uncovered an internal document from Lehman in 2001 that outlines the relationship. And the intention was to have a firm that could lend money to Lehman but that would be hidden. And this memo says that Lehman would serve as the "internal and external gatekeeper for all business activities conducted by Hudson Castle," yet Lehman never discloses to its shareholders.

Ryssdal: So do I have it right that basically it let Lehman make its books look better?

STORY: It certainly helped Lehman's books that they could borrow money from this outside entity in exchange for some of their more risky assets.

Ryssdal: This all sounds very Enron-like. You know, it had all those off-the-books partnerships where it parked its money and its debt and all this stuff. Analogous situation?

STORY: We'll it to the investigators to determine whether they crossed a line. A lot of these transactions are legal, and a spokesman for Hudson Castle told me that after 2004, once some changes were made, that Hudson Castle controlled all of its own investment decisions, even though Lehman remained the largest shareholders. And you know, the Securities and Exchange Commission, as well as the commission in Washington investigating the financial crisis, are both interested in these sorts of borrowing transactions that Lehman and banks all over Wall Street did and in some cases continue to do.

Ryssdal: Say that again: "continue to do."

STORY: That's right. So there are all kinds of borrowing transactions that in some cases make your balance sheet look better that are common practice on Wall Street, and some of them are perfectly kosher, perfectly fine, but it's a very gray area. And that is why the Securities and Exchange Commission is looking at this now. I'm certainly very eager to see what the banks tell the SEC.

Ryssdal: Is the issue here really disclosure? That shareholders and investors and the general public just really didn't know this was going on?

STORY: Well, you know, what's interesting is that a lot of bank executives have told us since the financial crisis that even they did not know the risks that were buried in the bowels of their companies. And you know, accounting experts think part of this is because very important details have been left in footnotes, or not even in the footnotes at all, in the shadow banking systems of firms, like Hudson Castle's, the one I wrote about, and that the shadow banking system masked the risks even sometimes from people at the company, not to mention investors, regulators and the public.

Ryssdal: So where does all this play out? Are we going to be reading articles like this, and learning about issues like this for years to come now?

STORY: Well, there's certainly a lot to digest out of the financial crisis, and this issue of transparency around bank risk taking will be one that we'll continue to cover because it will be important to any future crisis prevention for us to better understand what's going on with these companies.

Ryssdal: Louise Story for The New York Times -- had a story this morning on Hudson Castle and Lehman Brothers and its borrowing operations. Louise, thanks so much for your time.

STORY: Thank you.

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