Michael Lewis, The Big Short: Inside the Doomsday Machine. Penguin Books Ltd, 2011. Kindle edition.
- Anything can happen to anyone at any time.
- It’s going to blow up. We just don’t know how or when.
- He didn’t want to short them until the loans started going bad.
- “According to the things we were tracking,” says Vinny, “the credit quality was still good. At least until the second half of 2005.”
- “The borrowers will always be willing to take a
great deal for themselves. It’s up to the lenders to show restraint, and when they lose it, watch out.”
- that was expensive, indirect, and dangerous. Stock prices could rise for a lot longer than Burry could stay solvent.
- A credit default swap was confusing mainly because it wasn’t really a swap at all. It was an insurance policy, typically on a corporate bond, with semiannual premium payments and a fixed term. For instance, you might pay $ 200,000 a year to buy a ten-year credit default swap on $ 100 million in General Electric bonds. The most you could lose was $ 2 million: $ 200,000 a year for ten years. The most you could make was $ 100 million, if General Electric defaulted on its debt any time in the next ten years and bondholders recovered nothing.
- “If I bought a credit default swap, my downside was defined and certain, and the upside was many multiples of it.”
- “My nature is not to have friends,” he said. “I’m happy in my own head.”
- she often complained that I appeared to like the idea of a relationship more than living the actual relationship”)
- His obsession with personal honesty was a cousin to his obsession with fairness.
Obsessiveness—that was another trait he came to think of as peculiar to himself. His mind had no temperate zone: He was either possessed by a subject or not interested in it at all.
- he had a fantastic ability to focus and learn,
He attributed his unusual powers of concentration to his lack of interest in human interaction,
- The more he studied Buffett, the less he thought Buffett could be copied; indeed, the lesson of Buffett was: To succeed in a spectacular fashion you had to be spectacularly unusual. “If you are going to be a great investor, you have to fit the style to who you are,” Burry said. “At one point I recognized that Warren Buffett, though he had every advantage in learning from Ben Graham, did not copy Ben Graham, but rather set out on his own path, and ran money his way, by his own rules…. I also immediately internalized the idea that no school could teach someone how to be a great investor. If it were true, it’d be the most popular school in the world, with an impossibly high tuition. So it must not be true.”
- “Time is a variable continuum,” he wrote to one of his e-mail friends, one Sunday morning in 1999: An afternoon can fly by or it can take 5 hours. Like you probably do, I productively fill the gaps that most people leave as dead time. My drive to be productive probably cost me my first marriage and a few days ago almost cost me my fiancée. Before I went to college the military had this “we do more before 9am than most people do all day” and I used to think and I do more than the military. As you know there are some select people that just find a drive in certain activities that supersedes EVERYTHING else.
- He was merely isolated and apart, without actually feeling lonely or deeply unhappy. He didn’t regard himself as a tragedy; he thought, among other things, that his unusual personality enabled him to concentrate better than other people.
- called techstocks.com.
- Joel Greenblatt. Burry had read Greenblatt’s book You Can Be a Stock Market Genius.
- White Mountains was run by Jack Byrne, a member of Warren Buffett’s inner circle,
- Real risk was not volatility; real risk was stupid investment decisions.
- Back in 1995, Munger had given a talk at Harvard Business School called “The Psychology of Human Misjudgment.” If you wanted to predict how people would behave, Munger said, you only had to look at their incentives.
- He used no leverage and avoided shorting stocks.
- He was doing nothing more promising than buying common stocks and nothing more complicated than sitting in a room reading financial statements.
- For roughly $ 100 a year he became a subscriber to 10-K Wizard.
- He went looking for court rulings, deal completions, or government regulatory changes—anything that might change the value of a company.
- “Ick investing means taking a special analytical interest in stocks that inspire a first reaction of ‘ick.’ ”
- in June 2001 at $ 12 a share.
all the way down to $ 2 a share.
“It goes up by ten times but first it goes down by half.”
This isn’t the sort of ride most investors enjoy, but it was, Burry thought, the essence of value investing. His job was to disagree loudly with popular sentiment. He couldn’t do this if he was at the mercy of very short-term market moves,
- Investing well was all about being paid the right price for risk.
- It was one of the fringe benefits of living for so many years essentially alienated from the world around him: He could easily believe that he was right and the world was wrong.
“It is ludicrous to believe that asset bubbles can only be recognized in hindsight,” he wrote. “There are specific identifiers that are entirely recognizable during the bubble’s inflation. One hallmark of mania is the rapid rise in the incidence and complexity of fraud….
- During the 1930s, housing prices collapsed nationwide by roughly 80%.”
- “I hated discussing ideas with investors,” he said, “because I then become a Defender of the Idea, and that influences your thought process.” Once you became an idea’s defender you had a harder time changing your mind about it.
- “I don’t take breaks in my search for value,” he wrote to White Mountains. “There is no golf or other hobby to distract me. Seeing value is what I do.”
- In the bond market it was still possible to make huge sums of money from the fear, and the ignorance, of customers.
- Over the past three years housing prices had risen far more rapidly than they had over the previous thirty; housing prices had not yet fallen but they had ceased to rise;
- Since 2000, people whose homes had risen in value between 1 and 5 percent were nearly four times more likely to default on their home loans than people whose homes had risen in value more than 10 percent. Millions of Americans had no ability to repay their mortgages unless their houses rose dramatically in value, which enabled them to borrow even more.
That was the pitch in a nutshell: Home prices didn’t even need to fall. They merely needed to stop rising at the unprecedented rates they had the previous few years for vast numbers of Americans to default on their home loans.
- Lippmann himself described it more bluntly to a Deutsche Bank colleague who had seen the presentation and dubbed him “Chicken Little.” “Fuck you,” Lippmann had said. “I’m short your house.”
- The party on the other side of his bet against subprime mortgage bonds was the triple-A-rated insurance company AIG—American International Group, Inc. Or, rather, a unit of AIG called AIG FP.
- It needed to be able to insure $ 100 billion in subprime mortgage loans, for instance, without having to disclose to anyone what it had done.
- Having gathered 100 ground floors from 100 different subprime mortgage buildings (100 different triple-B-rated bonds), they persuaded the rating agencies that these weren’t, as they might appear, all exactly the same things. They were another diversified portfolio of assets! This was absurd. The 100 buildings occupied the same floodplain; in the event of flood, the ground floors of all of them were equally exposed.
- AIG FP accepted the illusion as reality.
- A man who valued loyalty and obedience above all other traits had no tool to command it except money.
- In the six months following the news of its troubles with the Federal Reserve and the Office of Thrift Supervision, Capital One’s stock traded in a narrow band around $ 30 a share.
When the value of a stock so obviously turned on some upcoming event whose date was known (a merger date, for instance, or a court date), the value investor could in good conscience employ options to express his views.
The right to buy Capital One’s shares for $ 40 at any time in the next two and a half years cost a bit more than $ 3. That made no sense. Capital One’s problems with regulators would be resolved, or not, in the next few months. When they were, the stock would either collapse to zero or jump to $ 60. Looking into it a bit, Jamie found that the model used by Wall Street to price LEAPs, the Black-Scholes option pricing model, made some strange assumptions. For instance, it assumed a normal, bell-shaped distribution for future stock prices. If Capital One was trading at $ 30 a share, the model assumed that, over the next two years, the stock was more likely to get to $ 35 a share than to $ 40, and more likely to get to $ 40 a share than to $ 45, and so on. This assumption made sense only to those who knew nothing about the company. In this case the model was totally missing the point: When Capital One stock moved, as it surely would, it was more likely to move by a lot than by a little.
its stock price shot up, and Cornwall Capital’s $ 26,000 option position was worth $ 526,000.
“We couldn’t believe people would sell us these long-term options so cheaply,” said Jamie. “We went looking for more long-dated options.”
They never had to be sure of anything. Both were predisposed to feel that people, and by extension markets, were too certain about inherently uncertain things. Both sensed that people, and by extension markets, had difficulty attaching the appropriate probabilities to highly improbable events. Both had trouble generating conviction of their own but no trouble at all reacting to what they viewed as the false conviction of others.
Each time they came upon a tantalizing long shot, one of them set to work on making the case for it, in an elaborate presentation, complete with PowerPoint slides. They didn’t actually have anyone to whom they might give a presentation. They created them only to hear how plausible they sounded when pitched to each other. They entered markets only because they thought something dramatic might be about to happen in them, on which they could make a small bet with long odds that might pay off in a big way.
If they found what appeared to be a cheap bet on the price movements of any security, they could then hire an expert to help them sort out the details. “That has been a pattern of ours,” said Jamie Mai. “To rely on the work of smart people who know more than we do.”
- “It’s really hard to know when you’re lucky and when you’re smart.”
- What struck them powerfully was how cheaply the models allowed a person to speculate on situations that were likely to end in one of two dramatic ways. If, in the next year, a stock was going to be worth nothing or $ 100 a share, it was silly for anyone to sell a year-long option to buy the stock at $ 50 a share for $ 3. Yet the market often did something just like that. The model used by Wall Street to price trillions of dollars’ worth of derivatives thought of the financial world as an orderly, continuous process. But the world was not continuous; it changed discontinuously, and often by accident.
- Event-driven investing:
- house was worth a million dollars and maybe more yet would rent for no more than $ 2,500 a month. “It was trading more than thirty times gross rental,” said Ben. “The rule of thumb is that you buy at ten and sell at twenty.” In October 2005 he moved his family into a rental unit, away from the fault.
- It was hardly foolproof; indeed, it was almost certain to fail more often than it succeeded. [it= their investment strategy]
- the losses were part of the plan. They had more losers than winners, but their losses, the cost of the options, had been trivial compared to their gains.
- The longer-term the option, the sillier the results generated by the Black-Scholes option pricing model, and the greater the opportunity for people who didn’t use it.
- The longest options available to individual investors on public exchanges were LEAPs, which were two-and-a-half-year options on common stocks.
- if you established yourself as a serious institutional investor, you could phone up Lehman Brothers or Morgan Stanley and buy eight-year options on whatever you wanted. Would you like that?
The hunting license had a name: an ISDA.
- when something looks too good to be true, we try to find out why.”
“We always looked for someone to explain to us why we didn’t know what we were doing,”
We kept trying to find people who could explain to us why we were wrong. We just kept wondering if we were crazy. There was this overwhelming feeling of, Are we going out of our minds?”
- we still felt we needed to learn how we were going to get screwed, if we were going to get screwed.”
- The triple-A ratings gave everyone an excuse to ignore the risks they were running.
- you walk into a post office you realize there is such a difference between a government employee and other people,” said Vinny. “The ratings agency people were all like government employees.” Collectively they had more power than anyone in the bond markets, but individually they were nobodies. “They’re underpaid,” said Eisman. “The smartest ones leave for Wall Street firms so they can help manipulate the companies they used to work for.
- What shocked Eisman was that none of the people he met in Las Vegas seemed to have wrestled with anything. They were doing what they were doing without thinking very much about it.
- Grant’s Interest Rate Observer. Its editor, Jim Grant, had been prophesying doom ever since the great debt cycle began, in the mid-1980s. In late 2006 Grant decided to investigate these strange Wall Street creations known as CDOs.
- The Complete Guide to Asperger’s Syndrome – Tony Attwood
- “Nobody came back and said, ‘Yeah, you were right,’ ” he said. “It was very quiet. It was extremely quiet. The silence infuriated me.”
- These folks don’t know what they’re talking about. If losses go to ten percent there will be, like, a million homeless people.” (Losses in the pools Hubler’s group had bet on would eventually reach 40 percent.)
- He’d been allowed to resign in October 2007, with many millions of dollars the firm had promised him at the end of 2006, to prevent him from quitting. The total losses he left behind him were reported to the Morgan Stanley board as a bit more than $ 9 billion: the single largest trading loss in the history of Wall Street.
- 240 billion would have been triple-A-rated and thus treated, for accounting purposes, as riskless, and therefore unnecessary to disclose. Much, if not all, of it was held off balance sheets.
- wondering how people who had been so sensationally right (i.e., they themselves) could preserve the capacity for diffidence and doubt and uncertainty that had enabled them to be right. The more sure you were of yourself and your judgment, the harder it was to find opportunities premised on the notion that you were, in the end, probably wrong.
- The long-shot bet, in some strange way, was a young man’s game. Charlie Ledley and Jamie Mai no longer felt, or acted, quite so young.
- No business could be more objective than money management, and yet even in this business, facts and logic were overwhelmed by the nebulous social dimension of things.
- What had happened was that he had been right, the world had been wrong, and the world hated him for it.
- The various bonds you make from those loans will go bad not as the loans go bad but months later, after a lot of tedious foreclosures and bankruptcies and forced sales.
Everything Is Correlated
- in 1985. A friend of mine in my Salomon Brothers training program created the first mortgage derivative in 1986, the year after we left the program. (“ Derivatives are like guns,” he still likes to say. “The problem isn’t the tools. It’s who is using the tools.”)
- Greed on Wall Street was a given—almost an obligation. The problem was the system of incentives that channeled the greed.
- The line between gambling and investing is artificial and thin. The soundest investment has the defining trait of a bet (you losing all of your money in hopes of making a bit more), and the wildest speculation has the salient characteristic of an investment (you might get your money back with interest). Maybe the best definition of “investing” is “gambling with the odds in your favor.”
- But there’s a difference between an old-fashioned financial panic and what had happened on Wall Street in 2008. In an old-fashioned panic, perception creates its own reality: Someone shouts “Fire!” in a crowded theater and the audience crushes each other to death in its rush for the exits. On Wall Street in 2008 the reality finally over-whelmed perceptions: A crowded theater burned down with a lot of people still in their seats. Every major firm on Wall Street was either bankrupt or fatally intertwined with a bankrupt system. The problem wasn’t that Lehman Brothers had been allowed to fail. The problem was that Lehman Brothers had been allowed to succeed.
In Eisman’s view, the unwillingness of the U.S. government to allow the bankers to fail was less a solution than a symptom of a still deeply dysfunctional financial system. The problem wasn’t that the banks were, in and of themselves, critical to the success of the U.S. economy. The problem, he felt certain, was that some gargantuan, unknown dollar amount of credit default swaps had been bought and sold on every one of them. “There’s no limit to the risk in the market,” he said. “A bank with a market capitalization of one billion dollars might have one trillion dollars’ worth of credit default swaps outstanding. No one knows how many there are! And no one knows where they are!”
This was yet another consequence of turning Wall Street partnerships into public corporations: It turned them into objects of speculation. It was no longer the social and economic relevance of a bank that rendered it too big to fail, but the number of side bets that had been made upon it.
“It’s laissez-faire until you get in deep shit,”
- deviled egg?
Something for nothing. It never loses its charm.