The Big Short: Inside the Doomsday Machine

Based on reading Michael Lewis' Liar's Poker and Moneyball, I wondered whether The Big Short would prove to be entertaining and informative. If you've read some of Lewis' books, you might agree that the "entertaining" part would seem to be a reasonably safe bet. It turns out, it is. The Big Short is fast-paced, straightforward, conversational and salty--very much like his earlier works. Indeed, if you didn't know Michael Lewis had written this book, you could probably guess it. It is easy reading and very hard to put down. In short (no pun), The Big Short doesn't disappoint in being entertaining. In a sense, this book is similar to Moneyball in that Lewis tells his story by following a host of characters that most of us have never heard of--people like Steve Eisman (the closest thing to a main character in the book), Vincent Daniel, Michael Burry, Greg Lippmann, Gene Park, Howie Hubler and others. How informative is the book? Well, it may seem that Lewis has his work cut out for himself, since the events of the recent financial crisis are already well known. More than that, lots of people have their minds made up concerning who the perps of the last few years are--banks and their aggressive managers, "shadow banks" and their even more aggressive managers, hedge funds, credit default swaps, mortgage brokers, the ratings agencies, Fannie Mae and Freddie Mac, the Fed's monetary policy, various federal regulators, short sellers, politicians who over-pushed home ownership, a sensationalist media, the American public that overextending itself with excessive borrowing (or that lied in order to get home loans), housing speculators, etc. The list goes on--and on. Okay, so you already know this. The defining aspect of this book, however, is that it asks (and answers) "Who knew?" about the impending financial crisis beforehand. Who knew--before the financial crisis cracked open for everyone to see (and, perhaps, to panic) in the fall of 2008--that a silent crash in the bond market and real estate derivatives market was playing out? Indeed, the good majority of this book addresses events that occurred before Lehman's failure in September of 2008. In describing what led up to the darkest days of the crisis, Lewis does a good job helping the reader to see how the great financial storm developed. All in all, this is an informative book. Interestingly, in the book's prologue, Salomon Brothers alumnus Lewis explains how, after he wrote Liar's Poker over 20 years ago, he figured he had seen the height of financial folly. However, even he was surprised by the much larger losses suffered in the recent crisis compared to the 1980s, which seem almost like child's play now. For a taste of The Big Short, Steve Eisman was a blunt-spoken "specialty finance" research analyst at Oppenheimer and Co., originally in the 1990s, and he eventually helped train analyst Meredith Whitney, who most people associate with her string of negative reports on the banking industry, primarily from late 2007. Giving a flavor of his style, Eisman claims that one of the best lines he wrote back in the early 1990s was, "The [XYZ] Financial Corporation is a perfectly hedged financial institution--it loses money in every conceivable interest rate environment." His own wife described him as being "not tactically rude--he's sincerely rude." Vinny Daniel worked as a junior accountant in the 1990s (and eventually worked for Eisman), and he found out how complicated (and risky) Wall Street firms were when he tried to audit them. He was one of the early analysts to notice the high default rates on manufactured home loans, which led to Eisman writing a 1997 report critical of subprime originators. Michael Burry (later Dr. Michael Burry) was, among other things, a bond market researcher in 2004 who studied Warren Buffett and Charlie Munger, and who correctly assessed the impact of "teaser rates" and interest rate re-sets on subprime loans. In 2005, Burry wrote to his Scion Capital investors that, "Sometimes markets err big time." How right he would be. Greg Lippmann was a bond trader for Deutsche Bank, who discussed with Eisman ways to bet against the subprime mortgage market. Before home prices declined, he noted, for example, that people whose homes appreciated 1 - 5% in value were four times more likely to default than those whose homes appreciated over 10%. In other words, home prices didn't need to actually fall for problems to develop. (Of course, home prices fell a lot.) When Lippmann mentioned this to a Deutsche Bank colleague, he was called a Chicken Little. To which, Lippmann retorted, "I'm short your house!" He did this by buying credit default swaps on the BBB-rated tranches (slices) of subprime mortgage bonds. If that's not a mouthful, read further in the book for a description of Goldman Sachs and "synthetic subprime mortgage bond-backed CDOs." Then there's the AIG Financial Products story, told through the story of Gene Park, who worked at AIG, and his volatile boss, Joe Cassano. Did I say this book is informative? Here's a bit more: Did you know that a pool of mortgages, each with a 615 FICO score, performs very differently (and better) than a pool of mortgages with half of the loans with a 550 FICO score and half with a 680 FICO score (for a 615 average)? If you think about it, the 550/680 pool is apt to perform significantly worse, because more of the 550 FICO score loans develop problems. Think about how that got gamed. There's more, but hopefully you've gotten the point. This is a very interesting, entertaining and informative book that accomplishes what it sets out to do. Chances are you'll enjoy it.

Michael Lewis's brilliant book "The Big Short," is billed as a sequel to his earlier biographical effort "Liar's Poker" which covered his 1980s experiences on Wall Street. It's a great example of why Malcolm Gladwell has called Lewis "the finest storyteller of our generation." Subtitled "Inside the Doomsday Machine," the book chronicles the 2008 market collapse from the perspective of those who saw it coming and bet against the subprime mortgage market at the height of the housing bubble. The protagonists, whose foresight earned them fantastic profits, are a colorful lot, including: Steve Eisman, Danny Moses and Vincent Daniel (of FrontPoint Partners, owned by Morgan Stanley); Michael Burry (of Scion Capital); Charlie Ledley, Ben Hockett and Jamie Mai (of Cornwall Capital); and Greg Lippmann (of Deutsche Bank), and a handful of others. Amazingly, none of these contrarian investors were experts in the housing market. They saw disaster coming while the "smart money" was betting that house prices would continue to rise and that subprime mortgages would pay off. It took this unlikely group of outsiders to see what was about to happen and undertake "the big short." So what was the Doomsday Machine and how did it work? As Lewis points out, it was spawned by a toxic mix of the US housing bubble, sub-prime mortgage lending, investor greed, and the insatiable demand for leverage by Wall Street Banks. Aiding and abetting these factors were unwitting credit agencies populated by Wall Street rejects and wannabes. Investors around the world wanted access to the ever-inflating American mortgage market. This gave lenders ever stronger incentive to push new loans out the door. Interest rates went down and credit standards for borrowers were relaxed again and again with demand filled by writing increasing numbers of sub-prime mortgages. Mortgage-backed security (MBS) sales were driven through the roof. Many mortgage lenders practiced an "originate and sell" strategy - taking their profits by bundling the loans up as mortgage-backed securities and selling them to third parties, mainly investment banks, (thereby passing along the risk associated with the sub-prime mortgages they were writing). The investment banks then repackaged these mortgages in various ways and sold the mortgage debt of the US household sector to global investors. Among the exotic financial instruments used for this purpose were Collateralized Debt Obligations (CDOs). CDOs were actually pyramids consisting of tranches representing various levels of risk and related interest payments. The riskiest level ("the mezzanine") got the highest rate of interest, but were the first to be wiped out as defaults rose. The least risky level at the top of the pyramid ("the penthouse") received the lowest rate of interest and were last to fall as defaults rose. Many of these portfolio slices received generous ratings of triple-B and even triple-A from the big rating agencies, creating a false sense of security among potential investors This process was highly profitable for the financial sector and, as long as home prices were rising and producing good returns for investors. But, when the market turned, things got really ugly. It was a house of cards. Lewis notes that for the whole system to collapse, the housing market didn't need to fail in absolute terms. It didn't even need to fall. It just had to stop growing as fast as it had during the boom years. Of course, as fate would have it, that's precisely what happened. In the ultimate irony, firms like Goldman, who created and sold CDOs, bet against their own investors by buying Credit Default Swaps (CDSs) which insured the mortgage-backed securities they were selling against default. (For a few cents on the dollar a CDS commits the seller to pay the full value of the contract if a mortgage-backed bond defaults, or becomes worthless.) What this meant was that, to mitigate its own exposure, Goldman was betting against its own customers. And, by aggressively taking the other side of this risk by selling CDSs for a small return, firms like Morgan Stanley put billions of dollars of their proprietary capital at risk. Not smart! Just how bad were the mortgages underpinning the subprime mortgage market? Lewis provides an example of "a Mexican strawberry picker in Bakersfield California with an income of $14,000 and no English who was given every penny he needed to buy a house for $724,000." This was cited as an example of the type of "no-doc mortgages"(no evidence of income or employment) that helped fuel the market collapse. In short, the Doomsday Machine was a massive Ponzi scheme that, save for a massive government bailout, could have collapsed the entire global financial system. If you're keeping score, Lewis points out that Morgan Stanley's $9 billion trading loss was "the single biggest trading loss in the history of Wall Street." But this pales to insignificance when you consider that the losses include five million jobs in the United States alone and some 40 percent of the world's wealth. In addition to the billions in taxpayer and investor losses, the human tragedy toll included evaporated pensions, ruined careers and, in many cases, lost homes. In retrospect, the questions posed by this book are: "Has anything really changed on Wall Street?"; "Has financial regulation improved?"; and, most importantly, "Could something like this happen again?" Barry Francis

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Livre tres intéressant. J'avais adoré le film, j'ai donc acheté le livre in english. C'est tres bien écrit, et l'histoire est autant attrayante qu'intéressante sur le fonctionnement des banques et des crash financiers.