Nonfiction: reading about the financial crisis that began in 2008

Greed is good – Gordon Gekko, Wall Street (1987)

The will to be stupid is a very powerful force — Miles Vorkosigan, “Brothers in Arms” by Lois McMaster Bujold (1989)

What do a Sandra Bullock Oscar vehicle and the financial meltdown of 2008 have in common?  The connection isn’t obvious at first:  Michael Lewis.  The author of The Blind Side and Moneyball, Lewis worked on Wall Street and wrote Liar’s Poker about his experience back in the late 80s (published 1989, reissued 2010).  And he has circled back to Wall Street and the investment industry in The Big Short: Inside the Doomsday Machine, (c) 2010, W.W. Norton & Company, Inc.

When the crash of the U.S. stock market became public knowledge in the fall of 2008, it was already old news.

The real crash, the silent crash, had taken place over the previous year, in bizarre feeder markets where the sun doesn’t shine and the SEC doesn’t dare, or bother, to tread.  The smart people who understood what was or might be happening were paralyzed by hope and fear; in any case, they weren’t talking.  The crucial question is this:  Who understood the risk inherent in the assumption of ever-rising real estate prices, a risk compounded daily by the creation of those arcane, artificial securities loosely based on piles of doubtful mortgages?

Mortgage bonds. Credit default swaps. Collateralized debt obligations. Synthetic  CDOs.  Asset backed securities. Mezzanine  investments.

Intentionally vague, uninformative, even deceptive based on their common usage versus specific usage in the mortgage-backed securities field.  Until a few years ago, I’d never heard of any of this stuff.  And I would guess that many, many Americans would say the same thing.  As Lewis puts it, “How do you explain to an innocent citizen the importance of a credit default swap on a double –A tranche of a subprime-backed collateralized debt obligation?” (223)

He does so carefully, mapping everything out and repeating parts of it through the use of different perspectives.  Lewis follows the analysis and trading of several smart investors – one Wall Street industry group*, and two outsider individuals or groups – who analyzed the risk of packaging subprime mortgage-backed bonds into derivatives, and bet against them early on when it was contrary to Wall Street’s conventional wisdom.  Much of his criticism (valid IMO) is that everyone on Wall Street was so busy thinking up news ways to make money and creating new “products” to sell that they never actually looked at the underlying value and/or risk of their new baby; they just enjoyed the billion dollar profits.  He uses “fraud” and “ponzi” repeatedly through the book, while also pointing out the sheer ignorance and greed of investment banks and institutional investors.

Highlights (or lowlights as the case may be)

  • Lewis’s characterization of CDOs as “a credit laundering service for the residents of Lower Middle Class America.  For Wall Street it was a machine that turned lead into gold.” (73)
  • On the investment banks:  “Why didn’t someone, anyone, inside Goldman Sachs stand up and say, ‘This is obscene. The rating agencies, the ultimate pricers of all these subprime mortgage loans, clearly do not understand the risk and their idiocy is creating a recipe for catastrophe?’ Apparently none of those questions popped into the minds of market insiders as quickly as another:  How do I do what Goldman Sachs just did?” (78)

The Big Short, ultimately, is a scathing indictment of Wall Street and its culture, and of ratings agencies.  The U.S. federal government, lenders, and borrowers get pretty short shrift, too.  It is compulsively readable as a narrative of the looming disaster, and also educational about complex instruments without being pedantic or verbose.


* The head of the hedge fund who is nominally an “insider”, since he and his two colleagues worked as analysts or auditors earlier in their careers, comes across as very much a skeptic and cynic about Wall Street and the utility of the big three rating agencies.  Through out the book, he is described as being absolutely tactless and unapologetic about what he perceived as the stupidity and poor/non-existent internal controls and risk management of  investment banks and their CEOs.


ETA:  WRT credit default swaps, which are essentially insurance contracts, I understand the explanation of what they were and what their impact was…but fundamentally don’t *get* them.  In “real” insurance contracts, the person buying the contract has to have an insurable interest in the person/entity who is the subject of the contract, otherwise it was just gambling and the contracting parties could do unscrupulous things to the unrelated insured third party to “win” their bet.  Jurisprudence developed around insurance preventing that and creating the insurable interest requirement.  With a CDS — not so much…was that an element in their abuse?



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4 responses to “Nonfiction: reading about the financial crisis that began in 2008

  1. I’ve had this one on my list for a while. I really enjoyed Moneyball when I read it (he also wrote this one and it’s now a movie too – can’t actually believe that but I assume The Big Short will be on screens shortly) and had been meaning to pick up another of his books. Now I will do so sooner.

    • I haven’t read anything else by Lewis, but I’m interested in reading Moneyball now. Haven’t seen the movie. How do the two compare? (I’m always a little bemused by nonfiction being fictionalized on screen.)

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