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Its energetic selling of Liberty bonds transformed it from a minor money-market broker to a major player in the government-bond market. Morgan acted as their agent and was well-remunerated for its work. The foreign bonds were popular with investors since these borrowers offered higher yields than Uncle Sam. Moreover, many overseas holdings of dollar securities were sold to US investors. Up to , London had been pre-eminent in the international capital markets and sterling was the most widespread currency for international bond issues.

Before the war some , Americans owned securities, but the Liberty bonds were bought by millions. As US governmentbacked obligations there was no risk of default, and they paid higher interest than bank deposits. Another attractive feature was that they were exempt from federal income tax, a recent and resented imposition upon the affluent. The return of peace brought an end to large-scale borrowing by the federal government. This created an opportunity to sell other securities to a public whose appetite for them had been whetted by the Liberty bond sales drives.

Foremost among them was National City Bank forerunner of Citigroup , headed by Charles Mitchell, who had begun his career on the securities side. At the end of the hostilities the victorious allies with the exception of the United States followed the long-established practice of presenting the defeated power, Germany, with a massive bill for reparations. The foreign bond issues appealed both to the investment banks, which were able to extract hefty fees for their services, and to investors, since they paid substantially higher yields than domestic government securities or corporate bonds.

Governments, municipalities and government agencies were the principal foreign borrowers in the US capital market in the s. Initially, the foreign bond market was restricted to countries of sound financial standing, but before long bond issues were successfully being brought out for places of distinctly dubious creditworthiness. When the world went into recession in the early s, many such borrowers, particularly the countries of Latin America and central Europe, defaulted on their debts, bitterly aggravating public disillusion with Wall Street and its works.

Stocks join the party The bulk around three-quarters by value of all new securities issues in the s were bonds. This fitted the portfolio preferences of investors who were mostly cautious and liked the low-risk nature of bonds. A variety of technological developments — the automobile, radio, electrical appliances, petrochemicals — offered alluring prospects for investors, just like dotcom and other stocks in the s. For the first time, millions of ordinary citizens began buying stocks in the hope of backing a winner.

From spring to summer the stockmarket staged a virtually uninterrupted bull run, with the Dow rising almost fourfold. The first upswing, from spring to summer , saw a steady advance that took the index from 90 to before pausing for breath. But in the second upswing, which got under way in spring , prices raced ahead, pushing the Dow to a peak of in summer The brokers financed their credit operations by borrowing from the banks, which funded themselves in the money market. Since the interest rates paid by speculators for margin money were far higher than could be charged for other loans, banks, both domestic and foreign, were eager lenders.

They became even more eager when in spring the Fed cut interest rates to assist international currency stability. Further contributing to the eightfold increase in new stock issues between and was the relaxation in of restrictions on commercial banks underwriting equity issues. The Wall Street crash By August , relative to even the most wildly optimistic corporate earnings forecasts, stocks were massively overpriced. The confidence of other investors was also becoming more fragile, worries about losses overshadowing dreams of gains.

As the mindset of speculators shifted from greed to fear, the bubble burst. Prices rallied and for a while it looked as if the bankers had pulled it off, as similar market support operations had done in the panics of and But the vast expansion of securities sales in the s meant that the market was now beyond the control even of a consortium of its most powerful firms. Panic selling resumed on Monday October 28th, when the Dow slumped The following day, more than 16m shares were traded, another record that stood for 60 years. Prices continued to decline in the following weeks, taking the Dow down to by mid-November, a loss of two-fifths its peak value.

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Individuals who had bought on margin were ruined. Tales of suicides abounded, giving rise to gallows humour. The Wall Street crash of was the harbinger of the Depression of the early s, the deepest depression in American history.

Between and early , unemployment rose from 3. The Wall Street crash was just the first stage of the process; indeed, by mid many were optimistic that the worst was over and that the recession would be short-lived, as in and — Although domestic business was still thin, Wall Street was profiting from a revival of foreign bond issuance led by the Young loan of June , a second massive international loan for Germany to make reparations payments, named after US negotiator Owen Young, chairman of General Electric.

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This large New York bank with 59 branches and , depositors had become insolvent because of fraud, incompetence and losses from the Wall Street crash. Although a large number of individual investors were participants in the boom before the crash, the bulk of trading was undertaken by banks and other financial institutions.

When stock prices crashed, they found themselves either with depleted assets or with a slate of nonperforming loans, or both. So they went bust: 10, US banks, about two-fifths of the total, failed in the Depression of the s in the aftermath of the Wall Street crash. Historians do not take issue with his words. The defaults were disastrous for the holders of foreign bonds, including a legion of US small investors who had bought them as safe investments on the basis that countries do not go bust.

Underlying the defaults was the collapse of the international economy arising from the recession, widely adopted deflationary monetary policy and the protectionist Smoot-Hawley Tariff Act passed by Congress in June , which provoked retaliatory protectionist measures from other countries. In September the crisis spread to Britain, forcing sterling off the gold standard and engendering currency instability that further discouraged international trade and investment. By then the international capital market had virtually closed down — and it would stay closed for more than a decade.

President Hoover denounced short selling by Wall Street traders for aggravating the falls in stock prices, making money out of the losses of ordinary investors.

Bonds: The Most Popular Trade on Wall Street (w/ AK)

At his instigation, the Senate began hearings into such Wall Street practices in February These became known as the Pecora hearings after Ferdinand Pecora, their legal counsel, and lasted on and off for two years. The Hoover administration also devised a plan to create a credit pool subscribed by the big banks to make loans to help other banks that were in trouble. But potential subscribers refused to co-operate, arguing that it threatened the integrity of the banking system.

So Hoover went ahead without them, establishing a government-owned entity, the Reconstruction Finance Corporation rfc , which set about bailing out banks with liquidity problems — a forerunner of the New Deal reforms instigated by his successor Franklin D. Loans to banks by the rfc were confidential, as it was feared that recipients would be regarded as unsound, prompting depositors to withdraw their funds and attracting the attentions of short sellers.

But the House of Representatives decided for reasons of democratic accountability that the recipients of rfc loans should be identified and a list was published in February As predicted, this led to depositors panicking and withdrawing their money, thus triggering a wave of bank failures. Having restored the faith of depositors in the banking system, the New Deal administration set about reform of the financial system with gusto. The New Deal The banking and securities reform legislation comprised nine measures that established the fundamental features of the regulatory framework within which Wall Street operated for the following half century and beyond.

They were as follows. Securities Act This was the first piece of national securities legislation passed by Congress. A false prospectus could result in a criminal prosecution. Banking Act Glass-Steagall This measure had three main purposes. The separation of investment banking and commercial banking was clearly intended to curtail the extensive influence of J. Securities Exchange Act The objective of this was to regulate securities exchanges in order to protect the purchasers of stocks and bonds against fraudulent practices.

It also authorised the Federal Reserve Board to control the purchase of securities on margin. Public Utilities Holding Act This provided for the control and regulation of public utility holding companies through requiring them to register with the sec. It was prompted by the collapse in June of the extensive public utilities empire built up by Samuel Insull. Maloney Act Named after Senator Francis Maloney of Connecticut, Democrat, this established the National Association of Securities Dealers nasd , which was entrusted with policing the over-the-counter markets.

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Trust Indenture Act This required that debt securities offered for public sale, except certain exempted issues, be issued under a trust indenture approved by the sec, a tightening of the provisions of the Securities Act Investment Company Act The purpose of this was to control abuses associated with investment companies and investment advisers.

Mutual funds and investment funds were required to register with the sec and make an array of disclosures about their financial condition and policies, providing investors with full information about their activities. Shake-up on Wall Street The separation of commercial banking from investment banking by the Glass-Steagall Act was a novel measure that made the US financialservices industry different from the rest of the world, where no such separation existed though one was later introduced in Japan under the US military occupation.

The big commercial banks that had developed securities affiliates, notably National City, Chase and First National Bank of Boston, chose commercial banking, as did J. The act led to a shake-up in the investment banking industry in — Morgan Stanley and First Boston emerged as new firms formed by people from the investment-banking sides of their former employers. Old investment-banking partnerships such as Kuhn, Loeb and Lehman Brothers continued as before, except for the loss of their deposit business.

As required under the Securities Act, the nyse registered with the sec in , but many members were hostile to the legislation. Despite sec pressure for reform and greater professionalism, the nyse dragged its feet. In Whitney was sentenced to five to ten years in Sing Sing state penitentiary and the nyse hastened to adopt a new management structure, appointing a salaried administrative staff including the first full-time professional president.

Securities market activity picked up from very low levels from , secondary trading volumes rose significantly, and bond issuance increased fifteenfold from to But saw the onset of another recession, with falling output and rising unemployment. Down again went the Dow and the volume of securities business. And with the outbreak of war in Europe in September prices and activity fell further.

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The issues were undertaken by the US Treasury, with each district Federal Reserve Bank handling the sales in its region. It also stabilised interest rates, pegging money-market and bond rates through open-market operations. This was an unprecedented interference with the markets by the authorities and bad news for Wall Street traders, whose livelihood depended on free and fluctuating markets.

The outlook was just as bleak for investment bankers, because of the level of government borrowing and the reduced market for corporate securities. Moreover, funds for capital expenditure for war production were provided by two government agencies, the Reconstruction Finance Corporation and the Defence Plant Corporation. It was not only work that was in short supply on Wall Street in the war years; manpower was decreasing too, as many bankers and brokers enlisted in the armed forces.

During the war the back offices of banks and securities firms became staffed by women, although most had to leave when the men returned.