Merrill Lynch's CDO machine — the 'thundering herd' that bet the firm on mortgage bonds

What happened

Why it happened

• Merrill was the leading underwriter of CDOs — 136 deals worth $93B in two years. The firm kept the riskiest pieces on its own balance sheet, concentrating risk in a single asset class.
• The acquisition of First Franklin gave Merrill a pipeline of subprime mortgages to securitize — but it meant the firm was originating the loans it was betting on, creating a conflict of interest.
• O'Neal was terminated after the $8.4B write-down, but the damage was done. The strategy of aggressive growth in mortgage-backed securities was built over years and could not be unwound quickly.
• The sale to Bank of America was a fire sale — $50 billion for a firm worth over $100 billion a year earlier. The weekend of September 14, 2008, was when Wall Street changed forever.

Aftermath

Merrill Lynch was absorbed into Bank of America, which continued operating the wealth management division under the Merrill brand. The 'thundering herd' survived, but the independent bank did not. The case became a textbook example of how a firm's underwriting business can become a source of catastrophic trading risk. O'Neal's aggressive expansion into subprime was widely criticized as the cause of the collapse. Thain's brief tenure was marked by controversy over his lavish office renovation — a $1.2M bill that became a symbol of Wall Street's excess.