The Big Short – A Book Review

Have you checked out “The Big Short” by Michael Lewis, yet? It’s a great book – funny yet seriously fucking infuriating. In it, the author of “The Blind Side” and “Moneyball” examines the recent unpleasantness in the stock market and those who saw it coming and made themselves billionaires. While telling their stories, Mr. Lewis also walks us through the genesis of the crisis, revealing with brutal thoroughness the greed and incompetence that brought it about. That’s the extra mega fucking infuriating part.

These are very small shorts and therefore have no place in this story. Sorry.

Let me explain. In the Good Old Days, banks sold customers mortgages. If the customers paid back their mortgages, the banks made money. If they didn’t pay ‘em back, the banks lost money. Thus banks were incentivized (a Wall Street term I’m growing to love) to make reasonable mortgage loans, and everybody was happy.

However, at some point the financial system was deregulated, and some evil genius created a cool new financial “product” composed of hundreds or thousands of mortgages “bundled” together. Investors could buy shares in the bundle, earning money if most of the home buyers paid their mortgages back, and losing it if they didn’t. It was a way to invest in real estate without having to buy actual property.

On the surface, this is similar to the original bank/mortgagee relation. However, there’s one big difference – once they’ve sold the mortgages to the bundlers, the original mortgage issuers no longer have to worry about the customers defaulting. Further, the bundlers in turn sell them (in shares) to third parties – like to pension funds, your aged granny, and so on. Both sets of financiers make money by selling mortgages, no matter their quality.

This had the hilariously predictable results. Once all of the people who could afford mortgages had them, the mortgage sellers expanded the market to people who couldn’t afford ‘em, offering them more and more exotic mortgages with wacky balloon payments, interest only deals, “no paper” agreements, and so forth. People with bad credit and no money were offered houses they couldn’t possibly afford. They were told that there was no risk, since the value of real estate “always went up.” If they couldn’t afford the payment, they could always sell at a profit, so how could they lose? Pretty zany, huh, playing on the hopes of ignorant poor people?

Here’s an interesting question: why would anybody buy shares of bundled crap mortgages? Well, the answer is, they didn’t know they were buying crap mortgages! First of all, the bundles were deliberately designed to be hard to value properly. And secondly, the private agencies who “rate” the creditworthiness of bundles of shitty mortgages didn’t look too closely at them. It seems that the agencies were paid by the very institutions which created the bundles they were being asked to rate. And if the rating agencies gave these companies’ products the shitty ratings they deserved, the companies would stop using their services! So the rating agencies too were highly incentivized to look the other way. In fact, when some employees questioned the bundles’ values, they were actually reprimanded by their bosses. So the bundles were over-rated, making them appear far safer than they were. Isn’t that a hoot?

Eventually of course, the real estate bubble burst. The people who were sold unsuitable mortgages began to default in greater and greater numbers, causing the bundled mortgages’ values to plummet. And a lot of old people lost their life-savings and were totally ruined. A few people who saw what was coming made billions of dollars by betting against – ie, “shorting” – the companies who were heavily invested in these instruments. The United States fell into a deep and lasting recession. Oh yeah, and the world’s economy almost collapsed.

And that’s “The Big Short” in a nutshell.

It has an unhappy ending, though – in that the people who perpetrated this crime did not end up hanging from a light post on Wall Street by their generative organs. Nor did the government regulators who didn’t see it coming, or the politicians who deregulated the financial markets allowing it to happen. The only people who actually got hung out to dry is, well, us.

It really is a great story. I highly recommend it to anybody with a really strong stomach and no access to firearms.


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6 Responses to “The Big Short – A Book Review”

  1. Jeffie Says:

    Yes I read this book, in fact I think I told you about it. Great book with a shitty story. Interestingly the investment banks selling the credit default swaps suddenly stopped selling them and started buying ’em, while still selling the bundles to all comers… Like Morgan Stanley.


    • Paul Murphy Says:

      You probably did. I always forget stuff like that. The whole sordid thing makes me even gladder that Comrade Obama is taking us socialist so rapidly!

      • Money Bore Says:

        No, *I* told you about the book, and you forgot about *my* recommendation. Please get your ungratitude straight, big shot!

  2. Money Bore Says:

    You omitted one important other factor… the collateralized debt obligations, in which you bet on mortgages going up (or down) without having a dime in the mortgages themselves. It is this kind of creative financial instrument that allowed banks, pension funds, insurance companies, and the like to invest $1 million and then lose $50 million. And since then, the banks have lobbied strongly against the financial reform bill because it will reduce their ability to develop creative financial instruments like this.

    • Paul Murphy Says:

      Look. What’s your problem? If I tried to explain everything in the book it woulda taken a column as long as the book. Besides if I had included that part nobody would have believed me. It’s just too fricking stupid.

      • Money Bore Says:

        By “collateralized debt obligations,” I may have meant “credit default swaps.” Surely you should have caught that! Who is vetting these columns, anyway?

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