Friday, August 27, 2010

Big Shorts and big LIEs

The Big Short, by Michael Lewis, is a great story. But it is also awful. To hear about the arrogance and ignorance of those who profited from the subprime mortgage market is at first unsettling, then disgusting. Unfortunately, in my experience, Laziness, Ignorance and Ego are often at the root of many such stories. The next big short will probably be on the next big LIE.

The guys that shorted the subprime market- Eisman (and partners at FrontPoint), Burry, Lippman and the fellows at Cornwall Capital- are the heroes of Lewis's book. But that is because his yardstick is one of using maverick cleverness to make a lot of money. While their big sting targets were Goldman Sachs, AIGFP and other Wall St. firms, I don't feel any joy in their final win. Nor did they. Eisman compared it to being like Noah- he was on the ark, but not happy about the flood.

If I understand it, the protagonists were offended by the exploitation of the poor by the subprime market, and disliked the greedy traders on Wall St. They made a bundle (so did the greedy traders). But what have they done with their "winnings"? They aren't Robin Hoods, from what I can tell. While they lightened the bank accounts of some of the big firms, nothing they did helped rebuild the decimated neighborhoods that were hurt by the whole scam. As far as I can tell, they haven't given back any of the loot that represents what communities lost with the housing collapse, or families lost with the resulting recession. Probably "Hey, I pay my taxes" is sufficient for them.

In the introduction, Lewis bemoans how his first book, "Liar's Poker," had become a "how to" guide for college students wanting to get a job on Wall St., rather than the cautionary tale he had intended. Will the Big Short become a "how to" guide for those wanting to profit from the next big LIE? Eisman says it could be "for profit education." And I bet someone got rich selling BP short, too (and that trade may not be over). BP CEO Hayward certainly seemed to be leading the LIE lifestyle and building an organization based on LIE.

One interesting angle of the Big Short was the work these guys did to come up with ways to short the American housing market. It wasn't easy. If there are things you think are fundamentally intolerable or unsustainable in the current system, how would you short them? Don't like coal fired power plants and global warming? Do you go long on renewable energy investments, or short the coal companies and utilities? How would you short poverty in Sub-Saharan Africa (or if you are Bill Easterly, how do you short foreign aid in that region)?

It is an interesting perspective to consider, as one doesn't need to look far to see Lazy, Ignorant and Egotistical policies, people and organizations at work. These characteristics are often those underlying "conventional wisdom" and "business as usual." Perhaps the field of social entrepreneurship needs a few shorts, as well as "change makers," to really make a difference. As I have said before in this blog, entrepreneurship isn't always about playing nice.

If you do figure it out, I'd ask that you contribute some portion of your earnings to the social or environmental problem that motivated you in the first place.
If you'd like the short version of the story, here is an NPR's Fresh Air version.


Caroline said...

Paul (a/k/a Mr. Hudnut), I love your blog and your take on this, esp. since we both came out of what I call "The 'Chicago School' School of Law" Nice to find there was a fellow traveller and kindred spirit there after all. Keep it up - love to see how you are using your degree and training, and envious in a good way too.

Lee Devlin said...

Hi Paul,

I recently read The Big Short and had the same sick feeling afterward. The protagonists profited by getting suckers like AIG to write insurance policies on toxic collections of subprime mortgages. In the end, the real losers were the U.S. taxpayers who had to bail out AIG.

I'm now reading another fascinating book about those who got the subprime ball rolling in the first place. It's called Broke, USA. It covers a number of predatory practices in addition to subprime loans such as payday loans, instant tax refunds, and check cashing.

I thought that the subprime debacle was a primarily the result of irresponsible people buying McMansions, but it was much more sinister than that. In many cases, the subprime merchants targeted poor people who owned their homes free and clear by talking them into refinancing deals loaded with hidden fees and over-priced insurance policies and that made the effective APRs over 20%, knowing in advance the home owner wouldn't be able to afford the payments.

At one time problems like these only affected the victims' pocketbooks. But the schemes are getting so big and abusive that it is affecting everyone's finances.