Credit Crunch Turn Wall Street Firms and Clients into Adversaries

The recent credit crunch has turned Wall Street into the “law of the jungle.” Street firms and clients who once banded together to finance large transactions are now souring and some are turning into legal adversaries.

Some recent examples include:

Wachovia Corp. is taking a private-equity client to court in an attempt to extract itself from financing the sale of a group of local TV stations by Clear Channel Communications Inc. to Providence Equity Partners Inc. after Clear Channel and Providence lowered their selling price. Wachovia’s position comes as banks across the board are dealing with increasingly strained balanced sheets related to commitments from last year’s buyout booms. Turmoil in credit markets have caused nearly $200 billion of loan debt that the banks have not been able to unload.

Investors of auction-rate securities, once considered low-risk and liquid investments, have had the rug pulled out from under them. Citigroup Inc. and Goldman Sachs surprised debt investors recently when they decided not to backstop auctions of securities that got little demand by bidding for some of the debt themselves.

Complex mortgage securities known as collateralized debt obligations (CDO) are also heading into troubled waters. CDOs combined hundreds of millions of dollars worth of subprime mortgage bonds and issued new securities in “tranches” that had different amounts of risk and return. As subprime mortgage bonds turn bad, disputes are arising between holders and different tranches in some CDOs over who should be paid what. Last year, Deutsche Bank, a trustee for the $985 million CDO called Sagittarius CDO I LLC, sued MBIA, an affiliate, over a dispute about the rights of various classes of investors.

And finally, banks are turning on each other. This January, Credit Suisse Group broke from a group of banks lined up to sell $7.25 billion worth in loans tied to a buyout of Harrah’s Entertainment Inc. by private-equity funds.

During the easy money days, Wall Street firms and clients collaborated freely but now the credit crunch has laid bare the competing interests in this cut-throat profit-driven system. When the dust settles from this fallout and the lawsuits, Wall Street might have to work hard to repair its tarnished reputations and broken trust with its clients.