The Big Short

(c) 2010 F. Bruce Abel

April 2, 2010



"How'd they do it? The answer is clearly spelled out in the footnotes to AIG's (nyse: AIG - news - people ) 2007 consolidated financial statement. "In most cases AIGFP (American International Group Financial Products) does not hedge its exposures related to credit default swaps it has written."


My notes from listening to the NPR interview of Michael Lewis by Terry Gross with Michael Lewis about 13 days ago:


The Big Short
[verbatim as much as possible]
So much written and reported about the collapse is through the eyes of the people "who had no idea" -- the Treasury Secretary, the Chairman of the Federal Reserve, the heads of the investment banks -- as the crisis was gathering force.

[Lewis got to "Ground Zero" and, in his own words, found that a handful of people were not clueless and were themselves the cause of the crash, after (supposedly--ed note) they tried to warn Wall Street and the NYT and the WSJ.]

"Everybody was working with same set of facts."

The vast majority of people in the markets painted a “very pleasant” picture from the set of facts.

"We 'see' what we want to see."



Michael Burry

Had been studying to be a doctor, was a resident on his way to being one.

Instead went full-time into investing. Formed a hedge fund. Began studying the bond mkt.

Had/has asberger’s syndrome. Didn’t know it at the time.

Having asberger's he studied the prospectuses of mortgage companies.

2003-2004, early 2005

saw the phenomenal growth of interest-only mortgages and negatively amortizing mortgages

“the lending couldn’t get any worse”

he saw the "end of the madness" coming and wanted to bet against it, but didn't know how.

he begins to bet against the subprime mortgage market

the bond mkt is "the wild west;" it's much less regulated and for the investor it's much easier to get ripped off; he’s aware of that. In corporate bond mkt there were a credit default swaps and had been for 10 years. He felt that Wall Street was "bound" to invent them on subprime mortgage bonds.

Michael Burry pesters Wall Street to create credit default swaps for subprime mortgage bonds

He is Ground Zero; "Patient No 1;" March to May 2005

Makes the "bet" (with GS) in March; gets a written contract in May.

GS – why willing? GS had persuaded AIG to sell GS

AIG had unlimited appetite. In a few months $20 billion, at very low prices; close to free,

GS took some on as a bet. Turned around and multiplied price by 10 and sold to Michael Burry.

All of sudden a big institution in the picture.

GS was already thinking along these lines. In other words it wasn't just Michael Berry.

AIG had been insuring corporate bonds for almost a decade.

In 2004 and 2005 GS comes (to AIG) with “diversified consumer loans”

“we’ll do that too.” (said AIG)

GS went to AIG with subprimes too. “Yep.”

Burry dealt with GS, Deuche Bank, Morgan Stanley, Bank of America, Merrill Lynch too. Wall Street firms were on the other side of the bets. For the most part they had sold the bets on and AIG was on the other side.



Charley Ledley and Jamie Mai

Cornwall Capital

Started with $100,000 in a Schwab Account.

“Wall Street underestimated the likelihood of unlikely events.” (they felt)

They bought options on extreme things happening. Each bet cost them very little. Wrong most of the time but right enough…

Stumble into the subprime mortgage mkt

For paying 2%/yr on dicey subprime mort loans

They knew nothing re bond mkt but they pieced together a picture

They go to SEC; NYTimes, WSJ “there’s fraud in the system.” Nobody understands or pays attention.

They ended up betting against financial instutions themselves – Bear Stearns, etc.

“Who’s taking all this risk?” they asked. Figured out that the WS firms themselves were the dumbest guys at the table. Afraid that BS couldn’t honor their contracts. So bought credit default swaps CDS’s on Bear Stearns too.

Turned $100,000 into $100 million.

None of these guys are natural short sellers. They wanted to be investing in the stock markets but they saw that these markets would be killed by what was going on in the bond (CDS, etc. market).

Personally, although they were making a fortune they had panic attacks; stressed (being right); a bet against an entire financial system; their insight that the system had become rigged; Charlie worried about riots


They were by nature ordinary stock investors; the world forced them into this position.

Herein, on April 2, 2010, I add the following from this, my blog, which indicates that one person,

Joseph Cassano

http://natgagu.blogspot.com/2009/03/joseph-cassano.html

was the cause of the meltdown. Read the whole interview above plus the link to Joseph Cassano, and you can see that we had a financial terrorist in our midst, one who started with Michael Milken.

And the NYT Article of April 1, 2010 adds to the list of names who make billions per year:

http://www.nytimes.com/2010/04/01/business/01hedge.html?scp=2&sq=soros&st=cse

And this review in the WSJ which served as the research for Lewis's book:

http://blogs.wsj.com/deals/2010/03/15/michael-lewiss-the-big-short-read-the-harvard-thesis-instead/tab/article/

But this reviewer says Michael Lewis has it all wrong:

http://www.huffingtonpost.com/yves-smith/debunking-michael-lewis-t_b_512542.html