Bear Stearns's Share Price: It's Not Speculators

That confounding Bear Stearns share price! Unsurprisingly, my explanation yesterday for why BSC was trading well above the offer price doesn't seem to have persuaded everybody (or, frankly, anybody, really). It was mentioned by DealBook, but the "first best explanation" from the likes of the WSJ and Bloomberg still blames "speculators" for the price: people who are buying high because they think that, eventually, Bear Stearns will get sold for even more money than they're paying.

I got an email from Yves Smith last night:

Is no one at Bear capable of reading a merger agreement? Evidently. Per the analysis at Dealbook (I read the key put provision in the merger agreement, and an analysis on Conglomerate, there is absolutely zero possibility that anyone other that JPM will own Bear, and JPM is under no obligation to pay more, merely restructure the deal.
A firm full of people who have clearly failed to master the basics of the securities industry, like reading legal documents and understanding their implications, deserves to be history. And you can quote me on that.

The analysis on Conglomerate is pretty complex, but essentially it boils down to the fact that if Bear's shareholders reject the deal, JP Morgan can simply return again and again until the shareholders accept it - all the way into March 2009, if that's what it takes.

I'm still convinced that BSC will go to either $2 or $0, in bankruptcy. Shareholders who think they're going to get more than $2 in bankruptcy are likely deluding themselves: they're at the bottom of the capital structure, and bondholders are convinced that they would have to take a haircut if Bear went bankrupt. If bondholders lose anything, of course, shareholders lose everything.

I'm also pretty sure that bondholders are behind a lot of the share-price dynamics. Yesterday, I speculated that they were buying shares so that they could force the deal through in a shareholder vote; the WSJ points out today that people who are short bonds also have every incentive to buy shares, so that they can vote no and drive the price of the bonds down. Basically, BSC's equity is a small dinghy getting buffetted by strong winds from much bigger players, since the amount of Bear debt out there dwarfs the value of the equity, even at $7 per share.

All of this is being complicated by the options dynamics, too. As a commenter on this blog pointed out, if you want to vote the shares, it's cheaper to buy calls than it is to buy the stock outright. And options volume in BSC has indeed been through the roof in the past few sessions. So some of the share price might be driven by options arbitrageurs.

Between them, options traders, bondholders, CDS holders, and plain old-fashioned momentum and day traders are more than sufficient to explain all of the volatility that we've seen in the BSC share price. There might be speculators too, but it's not nearly as obvious as a lot of commentators seem to think.

Update: Landon Thomas buys the thesis that it's the bondholders buying.

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