Dollars&Sense: Michael Lewis on 'The End' of Wall Street

[marmar]

Michael Lewis on 'The End' of Wall Street
by Dollars & Sense

Michael Lewis, the author of Liar's Poker, a chronicle of Wall Street excess in the 1980s, has posted an enlightening perspective on how mortgage-backed securities and derivatives were packaged, promoted, and sold by Wall Street. The article follows the career of a fund manager, Steve Eisman, who bet on the collapse of the subprime mortgage market. Eisman was proven right, but came to be genuinely shocked by the sheer mendacity and foolishness of the banks, ratings agencies, and other players involved in the subprime game. Here's a snippet of the long, but juicy article from Portfolio magazine:

That's when Eisman finally got it. Here he'd been making these side bets with Goldman Sachs and Deutsche Bank on the fate of the BBB tranche without fully understanding why those firms were so eager to make the bets. Now he saw. There weren't enough Americans with sh**ty credit taking out loans to satisfy investors' appetite for the end product. The firms used Eisman's bet to synthesize more of them. Here, then, was the difference between fantasy finance and fantasy football: When a fantasy player drafts Peyton Manning, he doesn't create a second Peyton Manning to inflate the league's stats. But when Eisman bought a credit-default swap, he enabled Deutsche Bank to create another bond identical in every respect but one to the original. The only difference was that there was no actual homebuyer or borrower. The only assets backing the bonds were the side bets Eisman and others made with firms like Goldman Sachs. Eisman, in effect, was paying to Goldman the interest on a subprime mortgage. In fact, there was no mortgage at all. "They weren't satisfied getting lots of unqualified borrowers to borrow money to buy a house they couldn't afford," Eisman says. "They were creating them out of whole cloth. One hundred times over! That's why the losses are so much greater than the loans. But that's when I realized they needed us to keep the machine running. I was like, This is allowed?"

http://www.dollarsandsense.org/blog/2008/11/michael-lewis-on-end-of-wall-street.html

[MichiganVote]

1. I read this earlier today. I'm more convinced than ever that the bail out is a sham.

[DJ13]

3. Not just the bailout

The entire financial industry was a sham, along with their enablers on Wall Street.

[MichiganVote]

4. Yes. And that will ultimately be our undoing. Can't trust these people for shit.

[cpamomfromtexas]

2. So in essence, these were just like derivatives?

[MindMatter]

5. Worse than derivatives

The word "derivative" implies a reformulation or repackaging of something real. In this case, the credit swaps were simply bets. To me, the simplest analogy is betting at a race track. The house will sell as many bets are there are gamblers willing to buy. The gamblers don't have any ownership of the horses. They are simply wagering on the outcome. Credit default swaps were not linked to ownership of mortgage paper. They were simply bets on whether a package of mortgages would default.

[Raster]

6. In other words, Wall Street and their shrieking heads on television can talk all they want about

people with shitty credit buying beyond their means, but the fact of the matter it's just bullshit. Wall Street firms BET and lost, and now want you and I to pick up their chits at their bookies. The credit crisis is real and deserves attention. The trouble on Wall Street is a separate matter and should not be tied to the credit crisis. Wall Street is doing everything it can to get you and regulators to NOT focus on their compulsive bad gambling by send up smokescreen after smokescreen.

[leftchick]

7. This should be a must read for congress

before they give these fucking crooks another penny...

<snip>

At the end of 2004, Eisman, Moses, and Daniel shared a sense that unhealthy things were going on in the U.S. housing market: Lots of firms were lending money to people who shouldn’t have been borrowing it. They thought Alan Greenspan’s decision after the internet bust to lower interest rates to 1 percent was a travesty that would lead to some terrible day of reckoning. Neither of these insights was entirely original. Ivy Zelman, at the time the housing-market analyst at Credit Suisse, had seen the bubble forming very early on. There’s a simple measure of sanity in housing prices: the ratio of median home price to income. Historically, it runs around 3 to 1; by late 2004, it had risen nationally to 4 to 1. “All these people were saying it was nearly as high in some other countries,” Zelman says. “But the problem wasn’t just that it was 4 to 1. In Los Angeles, it was 10 to 1, and in Miami, 8.5 to 1. And then you coupled that with the buyers. They weren’t real buyers. They were speculators.” Zelman alienated clients with her pessimism, but she couldn’t pretend everything was good. “It wasn’t that hard in hindsight to see it,” she says. “It was very hard to know when it would stop.” Zelman spoke occasionally with Eisman and always left these conversations feeling better about her views and worse about the world. “You needed the occasional assurance that you weren’t nuts,” she says. She wasn’t nuts. The world was.

By the spring of 2005, FrontPoint was fairly convinced that something was very screwed up not merely in a handful of companies but in the financial underpinnings of the entire U.S. mortgage market. In 2000, there had been $130 billion in subprime mortgage lending, with $55 billion of that repackaged as mortgage bonds. But in 2005, there was $625 billion in subprime mortgage loans, $507 billion of which found its way into mortgage bonds. Eisman couldn’t understand who was making all these loans or why. He had a from-the-ground-up understanding of both the U.S. housing market and Wall Street. But he’d spent his life in the stock market, and it was clear that the stock market was, in this story, largely irrelevant. “What most people don’t realize is that the fixed-income world dwarfs the equity world,” he says. “The equity world is like a fucking zit compared with the bond market.” He shorted companies that originated subprime loans, like New Century and Indy Mac, and companies that built the houses bought with the loans, such as Toll Brothers. Smart as these trades proved to be, they weren’t entirely satisfying. These companies paid high dividends, and their shares were often expensive to borrow; selling them short was a costly proposition.

Enter Greg Lippman, a mortgage-bond trader at Deutsche Bank. He arrived at FrontPoint bearing a 66-page presentation that described a better way for the fund to put its view of both Wall Street and the U.S. housing market into action. The smart trade, Lippman argued, was to sell short not New Century’s stock but its bonds that were backed by the subprime loans it had made. Eisman hadn’t known this was even possible—because until recently, it hadn’t been. But Lippman, along with traders at other Wall Street investment banks, had created a way to short the subprime bond market with precision.

[HereSince1628]

8. Capitalism believes in concentrating wealth...

Nothing new there right? The pro-capitalist philosophers have said it for hundreds of years. But, It turns out that in our time the concentration isn't intended to pool money to create the means of production as the Kapitalists saw it.

In the past 15 years the whole point of concentrating wealth is that it makes it so much easier to steal. Concentrated wealth, like horseshit, draws flies.