money market. This condition, in general then, accounts for the source from which money is pouring into the security markets in the form of brokers' loans not originating in the banks themselves. The above chart shows the astounding rate at which brokers' loans for the account of others (labelled uncontrolled) have advanced during 1928, a year when the United States credit base of gold was narrowed by approximately 500 millions of dollars from a total of approximately 4.5 billions. This outside credit has been termed uncontrolled because bank reserves need not be kept against such loans and because such transoctions are practically as free and unregulated as a personal loan from one individual to another. The other curve on the chart showing the divisions of brokers' loans is labeled controlled and shows the relatively small increase in broker's loans supplied by the banks themselves. And, Mr. Chairman, the chart on this page shows the astounding rate at which broker's loans "for account of others" labeled " controlled " have advanced during 1928, the year that the United States credit base of gold was carried up approximately $500,000,000, or a total of approximately 42 billion dollars. Then under the subheading "Present Importance of 'Loans for Others "," I read the following: The great importance of the present huge amount of broker's loans from outside sources lies in the fact that while the banks are not now directly concerned with loans from others, these loans do represent a potential call on bank credit. Any sudden withdrawal of money from the security markets by individuals, corporations, or through foreign accounts, must be met by the banks if chaos and disrupting gyrations in call money and in the stock market are to be avoided. This is quite clear when the close relationship between brokers' loans and stock prices is observed in the chart on the preceding page. I might comment here, Mr. Chairman, that the chart to which reference has just been made would seem to show that the trend of stock prices almost parallel the trend of brokers' loans: It is therefore quite certain that the present stock market cannot proceed further without the aid of a corresponding increase in loans for others. Should the stock market give ground, business would be adversely affected in three ways, although such effects would not be simultaneous or drastic. In the first place, purchasing power gained by the sustained advance in the stock market would be partially curtailed; secondly, the psychological effect in the form of loss of confidence would cause business to be hesitant in making future commitments; and finally, the ease with which new financing could be launched would be seriously affected. These are briefly the chief reasons behind the following statement made in the December 1928 issue of this letter: "It therefore seems that for the year 1929 much may depend upon the course of brokers' loans which are classified in banking figures as 'for the account of others."" Now, Mr. Johnston, let me ask if you agree with the philosophy expressed in this monthly letter I have just read into the record. Mr. JOHNSTON. In the light of events that have occurred since that letter was written, I think those points were well taken. But at the time I did not agree with them. Mr. PECORA. Were you a member of the executive committee to whom this monthly confidential letter was addressed? Mr. JOHNSTON. No, sir. Mr. PECORA. Who composed the executive committee which reeeived these monthly letters on economic conditions? Mr. JOHNSTON. Mr. W. Alton Jones, chairman; Lewis F. Musil, John M. McMillan, Paul R. Jones, Frank R. Coates, H. O. Caster, F. C. Hamilton, T. F. Kennedy, R. G. Griswold. Mr. PECORA. Of what corporation were these gentlemen the executive committee? Mr. JOHNSTON. Henry L. Doherty & Co., not the corporation. Mr. PECORA. You stated before that Henry L. Doherty & Co. was simply Henry L. Doherty individually doing business under that name or style, Henry L. Doherty & Co. Mr. JOHNSTON. Yes, sir. Mr. PECORA. Well, did he have an executive committee? Mr. JOHNSTON. As fiscal agents for the Cities Service Co. and its subsidiaries, he had an executive committee. Mr. PECORA. Can you tell us what the purpose was in the preparation and circulation of these monthly letters back in 1928? Mr. JOHNSTON. In 1928? Mr. PECORA. Yes; back in 1928 and 1929 among the members of this so-called "executive committee " of Mr. Doherty's. Mr. JOHNSTON. To acquaint them with an economist's ideas of the trend of finances and business generally, and also to explain the earnings records of the Cities Service Co. and its subsidiaries. Mr. PECORA. Now, Mr. Johnston, I want to show you this printed document, and let me ask you if it consists of an excerpt from the monthly letter on economic conditions addressed to the executive committee of Henry L. Doherty & Co. in February of 1929. Mr. JOHNSTON (after looking at the paper). Yes, sir. The CHAIRMAN. Let it be admitted. (A paper entitled "Further Developments in Brokers' Loans ", was marked "Committee Exhibit No. 85, Feb. 23, 1934", and will be found immediately following where read by Mr. Pecora.) Mr. PECORA. The paper received in evidence as committee exhibit no. 85 reads as follows, under the caption "Further Developments in Brokers' Loans": The importance of the volume of brokers' loans in the present credit and general business situations warrant periodic checking up of the course of these figures. In the January issue of this letter it was stated that the great importance of the present huge amount of brokers' loans from outside sources lies in the fact that, while banks are not directly concerned with loans from others, these loans do represent a potential call on bank credit. In the first week of the new year this fact was clearly demonstrated. Brokers' loans from outside sources showed a sharp drop at the year end, due to the usual withdrawals made at this time for year-end settlements and requirements. These transactions left a void in brokers' loans of approximately $375,000,000 which the New York banks promptly filled. Since then loans for others have returned in greater volume and the reporting member banks have withdrawn their relief fund. The brief January drop in the stock market caused almost no liquidation of total brokers' loans. The more severe break in February did force a drop of about $190,000,000 in a total of over 5.5 billion dollars. At the end of February the stock market has fully recovered to a new high and figures for brokers' loans of the last week in February advanced $30,000,000, indicating that liquidation has about run its course for the present movement at least. Thus we have the picture: Greater speculation, more and more uncontrolled money in brokers' loans, and continuation of the trend toward higher money which has been in process for over a year and a half. The situation is not comforting, from the business point of view. Now, Mr. Johnston, did you agree with the observations and the philosophy of that monthly letter, or the portion thereof which I have just read? Mr. JOHNSTON. I subscribe to these things now, in the light of events, but at the time it seemed to me they were a little too alarmed. Mr. PECORA. Did you recognize then, that is, during the period when these letters were being written, that there was a direct relationship between brokers' loans and the trend of stock-market prices? Mr. JOHNSTON. Yes, sir. Mr. PECORA. And has it been your experience that that relationship is manifest at all times, generally speaking? Mr. JOHNSTON. I have only the charts that are published by various services to guide me, but I think the trend shown in those charts is that there is such relationship. Mr. PECORA. Now, during the year 1929, to your knowledge, did the Cities Service Co. make any loans on call? Mr. JOHNSTON. Yes, sir. Henry L. Doherty & Co., acting as fiscal agents for the Cities Service Co., made the loans. Mr. PECORA. And do you know the number and amounts of such loans made during the year 1929 by Henry L. Doherty & Co. as fiscal agents for the Cities Service Co.? Mr. JOHNSTON. The total number of Street loans made in the callmoney market of New York City was 912. Mr. PECORA. And what was the total amount of the Street loans made in that year in the call-money market in New York City? Mr. JOHNSTON. By adding up all the individual loans as they were made, even though some of them were made for only 1 day, we get a total of $285,325,092.21. But, of course, not all this money was outstanding at any one time. The largest amount outstanding at any one time was $41,900,000. Mr. PECORA. And on what date, if you know, was that peak in the amount of loans outstanding? Mr. JOHNSTON. September 25, 1929. Mr. PECORA. That was about a month before the big break in the stock market? Mr. JOHNSTON. Yes, sir. Mr. PECORA. Had the number and the aggregate amount of callmoney loans made by or on behalf of the Cities Service Co. steadily increased during the year 1929, from the beginning up to and including September of that year? Mr. JOHNSTON. They did not steadily increase. There were times when the amount would increase, and other days when they would decrease. Mr. PECORA. But the general trend was rather toward an increase, wasn't it? Mr. JOHNSTON. Yes, sir. Mr. PECORA. From the beginning of the year up to September. Mr. PECORA. Now, Mr. Johnston, following the break in the stock market, which, as you undoubtedly recall, took place in the latter part of October of 1929, can you tell this committee whether or not there was a perceptible drop in the number and amount of call loans made by or on behalf of the Cities Service Co. for the balance of the year 1929? Mr. JOHNSTON. Yes, sir. We had no bank loans, or I mean- Mr. JOHNSTON. I say, we had no call loans by the end of the year. Mr. PECORA. Now, had it been the policy of the Cities Service Co. prior to the year 1929 to make call loans in the Street? Mr. JOHNSTON. Yes, sir. Mr. PECORA. How many years had that policy been continued prior to 1929 ? Mr JOHNSTON. I do not recall the exact date, but there were callmoney loans placed in 1919, and possibly in 1926, and the beginning of 1928, and Mr. PECORA (interposing). This was a time of considerable activity in the stock market as compared with the years immediately preceding, wasn't it? Mr. JOHNSTON. I couldn't tell you about that. Mr. PECORA. Had you completed your answer? I did not mean to interrupt you, Mr. Johnston, when you referred to 1919 and 1926, and were you beginning to mention some other period? Mr. JOHNSTON. And the beginning of 1928 and 1929. Mr. PECORA. Well, you do recall that in 1928 and throughout that year, and throughout the year 1929 and up to the latter part of October there was increased activity in stock-market trading? Mr. JOHNSTON. Yes, sir. Mr. PECORA. Now, who had charge of the making of these call loans in behalf of the Cities Service Co. during the years 1928 and 1929? Mr. JOHNSTON. The call loans were made under my supervision. Mr. PECORA. Will you describe to the committee, briefly but concisely, the mechanism by which those loans were made? Just describe the general operation of the making of those call loans. Mr. JOHNSTON. During the day we would call a money broker on the telephone and tell him how much money we wished to loan on call that day. Mr. PECORA. By "money broker" do you mean a member of the New York Stock Exchange? Mr. JOHNSTON. They are usually members of the New York Stock Exchange; yes, sir. The CHAIRMAN. Does a money broker differ from other brokers. or bankers, or investment people, or is he a specialist of some kind? Mr. JOHNSTON. I think in the case of certain firms that would be the firm's specialty. In the case of other firms it would be just one department. Mr. PECORA. Now, Mr. Johnston, will you continue with your explanation of the method or the machinery by which those call loans were made by you? Mr. JOHNSTON. A little later on the money broker, or the office of the broker, would call up and give us the list of the loans which had been made. And then later on in the afternoon the brokers' messengers would bring in to us envelops in which there was the collateral for the loans. Our clerks would take the envelops and the collateral, check it, and hand the messenger our check for the amount. The CHAIRMAN. What would the collateral consist of? Mr. JOHNSTON. A variety of stocks listed on the New York Stock Exchange. Senator TOWNSEND. Were all of your loans made through brokers in the manner you have indicated? Mr. JOHNSTON. I believe the majority of them were. Occasionally some broker would call us direct and ask if he could send around a loan that day. Mr. PECORA. Those loans were invariably made to brokers themselves, weren't they? Mr. JOHNSTON. Yes; to members of the New York Stock Exchange. Mr. PECORA. Were they made by the Cities Service Co. without the interposition of any bank? Mr. JOHNSTON. Yes, sir. Mr. PECORA. That is, the loans were made directly by the Cities Service Co. to the various brokers who received them? Mr. JOHNSTON. Yes, sir. Mr. PECORA. And who determined the interest rates at which those loans were made? Mr. JOHNSTON. The interest rates were determined on the floor of the stock exchange and published. Mr. PECORA. And they varied from day to day, did they? Mr. JOHNSTON. Yes, sir. Mr. PECORA. And sometimes they varied during the day? Mr. JOHNSTON. Yes, sir. Mr. PECORA. What was the general range, Mr. Johnston, of the interest rates, we will say, during the year 1929, beginning with January and ending with October? Mr. JOHNSTON. Well, roughly speaking, I should say from about 5 percent to about 15 percent. The CHAIRMAN. The rate went as high as 20 percent, didn't it? Mr. JOHNSTON. I recall a 20-percent rate during a prior period. I don't recall whether it was during 1928 and 1929 that they reached 20 percent or not. Mr. PECORA. Do you recall that in March, I think it was of 1929, the National City Bank sent in $25,000,000 to the money posts of the New York Stock Exchange, which was loaned at rates ranging from 16 to 20 percent? Mr. JOHNSTON. I remember the incident; yes, sir. Mr. PECORA. What was the incident? Mr. JOHNSTON. Just as you have stated, only I do not recall definitely the rate. Mr. PECORA. That money was loaned at the time when the Federal Reserve bank sought to put a check on speculation through raising of the rediscount rates, and that action was nullified by this action of the National City Bank. Do you recall that? Mr. JOHNSTON. I think that is my recollection; yes, sir. Mr. PECORA. Can you give this committee the amounts received by the Cities Service Co. during the year 1929 by way of interest on these street loans? Mr. JOHNSTON. I am sorry, sir; I did not prepare myself with that figure. Mr. PECORA. Can you give us an approximation of the amount, it being understood that it is only an approximation and subject of course to correction? Mr. JOHNSTON. The average daily amount of call loans outstanding was a little over $10,000,000. |