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How it happened

Michael Lewis shows us the people at the epicenter of the meltdown

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The Big Short by Michael Lewis
Chuck Twardy

For most of us, Las Vegas is a city. For scumbags on the lam, it's a planet. Killers, thieves, polygamists — gravity just reels 'em in.

The perps of history's biggest flimflam got the order wrong, though. They visited just before their caper collapsed, converging on the Venetian in January 2007, in the guise of conventioneers. And they continue to elude law enforcement.

If The Big Short, Michael Lewis's account of the mortgage-bond meltdown, were a novel, the January 2007 meeting of American Securitization Forum would be the climax of the story. But nonfiction will do for the usual dismissive scorn: "Like all of Las Vegas, The Venetian was a jangle of seemingly random effects designed to heighten and exploit irrationality ..." At least Lewis notes that the ultimate victims of the scam were there, too, "serving drinks, spinning wheels, and rolling dice." He means the workers that mortgage-backed securities, in theory, were supposed to help, who were left holding the bag when everything fell apart — which started to happen the day after the bond traders and fund managers skipped town. It would take several more months for the entire façade to crumble, and another year after that before it took down the American economy. "Two years later," Lewis reports in a footnote, "Las Vegas would lead the nation in its rate of home foreclosures."

The Big Short is an outsiders' story, about a handful of misfits who saw early on that Wall Street was either criminal or crazy, and who used its esoteric instruments to bet against it. A lapsed physician with Asperger's syndrome who took the time to study the bonds and the mortgages backing them. A Manhattan trader temperamentally disposed to cynicism about his fellows. A couple of young and unsettled refugees from an equity firm, who start their investment business in a Berkeley garage and later rent space in artist Julian Schnabel's Manhattan studio.

The Details

The Big Short: Inside the Doomsday Machine
Four stars
Michael Lewis. W.W. Norton, $28.

Without this colorful cast, Lewis's tale would be a tedious business-school seminar. Their wonder, bafflement and outrage help him unravel the Byzantine tangle of the subprime mortgage-bond market, a fantastic weave of dicey mortgages and investment products that were imperfectly understood — if understood at all — by both buyers and sellers. Irresponsible lenders lured people with insufficient income into variable rate mortgages they would be unable to afford when the rates jumped. The lenders immediately sold the mortgages, packaged as bonds, and the bonds got repackaged into Collateralized Debt Obligations (CDOs). The firms dealing these investments paid the agencies that rated them.

It helps that Lewis is himself a Wall Street expat, a witness to the birth of the modern financial industry at Salomon Brothers in the 1980s, as he detailed in his first book, Liar's Poker. But he knows that discussing risk in the various levels, or tranches, of CDOs may glaze the eyes of the hardiest reader. So now and then he lays it out in easy-to-grasp vernacular: "Looking for bad bonds inside a CDO was like fishing for crap in a Port-O-Let: The question wasn't whether you'd catch some but how quickly you'd be satisfied you'd caught enough." His protagonists are the anglers here, trolling for CDOs they could bet against, by buying insurance, or Credit Default Swaps, from the very Wall Street firms who sold the CDOs.

Aside from adding an expensive layer to the eventual disaster, Credit Default Swaps may be among the reasons the government deemed Citigroup, Goldman Sachs and AIG "too big to fail." As protagonist Steve Eisman, who made a fortune on swaps, tells Lewis, nobody knows how many bets are still counting on those failures. So we bailed out the crumbs who caused the calamity. Hardly anyone at the top lost anything, but millions are out of work, and those dealers and servers suckered into time-bomb mortgages have lost their homes. Eisman also flatly rejects the argument that it's all their fault.

As Lewis points out early in The Big Short, the stock market's job is to allocate capital. Capricious as it can be, at best it amplifies Adam Smith's ideal. It began to stray from that ideal, says Lewis, when the big Wall Street firms went public in the 1980s, because then they were playing with stockholders' money. In Liar's Poker, he sees the Fed's 1987 decision to allow commercial banks wider involvement in investment banking as a watershed, too. In any event, it's hard to see any useful purpose in a market whose only losers are the people not in it.

So, to consider the matter even more crudely, some smart but slimy people got obscenely wealthy by buggering the rest of us. The question that remains is: If we turn our weary, collective head and ask them, politely, not to do it again, would that be socialism, exactly?

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