Must-Read from Michael Lewis

I read the entire Michael Lewis article.

Mr. Kling: Is the tidbit you posted really what you took away from that article? Are you really most offended by the baby nurse from Queens?

Thomas, you have to go back and read all of my comments (search for "Kling fantasy testimony" or "Kling on the bailout") to get my full views.

I'm still a little disappointed that the article notes that the price income ratio had not just risen, but had risen extraordinarily faster in a few locations, but doesn't bother to ask why some locations were different than others. That's fairly typical, though.

It was a good article, but I am skeptical that Wall Street players are really as uninformed as the author indicates. How would institutions with idiotic leaders survive against those with informed leaders?

...or is the answer "politics"?

I'm sorry, but the best quote from the article is what follows:

But he couldn’t figure out exactly how the rating agencies justified turning BBB loans into AAA-rated bonds. “I didn’t understand how they were turning all this garbage into gold,” he says. He brought some of the bond people from Goldman Sachs, Lehman Brothers, and UBS over for a visit. “We always asked the same question,” says Eisman. “Where are the rating agencies in all of this? And I’d always get the same reaction. It was a smirk.” He called Standard & Poor’s and asked what would happen to default rates if real estate prices fell. The man at S&P couldn’t say; its model for home prices had no ability to accept a negative number. “They were just assuming home prices would keep going up,” Eisman says.

Why this one? Because the government mandated the ratings agencies and lulls institutional leadership into complacency.

In response to Grant. Oh, it's possible that "players" are that uninformed. For a real world example, check out the story of LFG and its run from a Fortune 500 company 3 years ago to bankrupt today. LFG is tied very closely to the mortgage mess. Yahoo finance boards will help color the story, but it can be seen in the SEC filings as well.

OK, I read "Kling fantasy testimony" in its entirety. I'm not sure why you feel that was relevant to my question.

Your article lays out how mortgage securitization doesn't work, how Congress caved into lobbying pressure, how the ratings agencies failed. I think you should focus more on how credit default swaps created a nearly perpetual betting machine, but that is another argument.

Why the consistent focus on the grasshopper/ant concept, when so many very important, very powerful people have acted in such a depraved manner for so long? It is fair to say that the baby nurse and like minded citizens contributed to the banking crisis, but where is your sense of proportion?

What I took away from Lewis's article, and what I assume Kling took as well, was not that the baby nurse was the cause of the problem, so much as a huge freaking symptom.

By the time the nurse owned five townhouses in Queens, multiple someones ought to have seen that and figured out that the situation was untenable.

There were so many money quotes in that article it's hard to pick just one, though. I'll go with:

“The single greatest line I ever wrote as an analyst,” says Eisman, “was after Lomas said they were hedged.” He recited the line from memory: “ ‘The Lomas Financial Corp. is a perfectly hedged financial institution: It loses money in every conceivable interest-rate environment.’”

The baby nurse offends no-one, Thomas. However, if you were lending money to the baby nurse, would you lend a woman with such low earning potential and no investment experience for the purchase 5 NYC townhouses as investment property? Would you assume that prices would always go up or would you have said that this is too much leverage for such an unsophisticated investor and not lent her the money for more than one townhouse (or at least less than five) based solely on the idiotic assumption that prices can never go down (as they had in the past)?

The fact that the baby nurse took the loans is just a sign of her lack of sophistication. That's not a problem - it's not her area of expertise. The fact that lenders were willing to lend this much to her and the circumstances under which credit was extended is the problem.

Grant, the short answer to your question is they really can be that dumb. I've worked for enough of the firms that are now bankrupt to know exactly how this happens. When the market is surging ahead, any talentless idiot living in the complete absence of an original thought or idea can make money. A rising tide lifts all boats. As long as volatility remains low and the boat is not rocked, the house of cards remains standing. But, all it takes is one one card at the base of the house of cards to fall and the whole thing comes crashing down. Dumb institutions don't survive. Reality comes along and flushes them out as it is doing now.

Arnold: You're right, it's just plain stunning journalism.

But I agree with Thomas DiMeo that cherry-picking the shiftless-borrower quote suggests you might not be paying sufficient attention to more important though less emotional issues, some of which you've pooh-poohed--notably the ratings agencies:

he couldn’t figure out exactly how the rating agencies justified turning BBB loans into AAA-rated bonds. “I didn’t understand how they were turning all this garbage into gold,” he says. He brought some of the bond people from Goldman Sachs, Lehman Brothers, and UBS over for a visit. “We always asked the same question,” says Eisman. “Where are the rating agencies in all of this? And I’d always get the same reaction. It was a smirk.”

He called Standard & Poor’s and asked what would happen to default rates if real estate prices fell. The man at S&P couldn’t say; its model for home prices had no ability to accept a negative number. “They were just assuming home prices would keep going up,” Eisman says.

“But we’re sitting there,” Daniel recalls, “and he says to us, like he actually means it, ‘I truly believe that our rating will prove accurate.’ And Steve shoots up in his chair and asks, ‘What did you just say?’ as if the guy had just uttered the most preposterous statement in the history of finance. He repeated it. And Eisman just laughed at him.”

“With all due respect, sir,” Daniel told the C.E.O. deferentially as they left the meeting, “you’re delusional.” This wasn’t Fitch or even S&P. This was Moody’s, the aristocrats of the rating business, 20 percent owned by Warren Buffett.

Wall Street had used these BBB tranches—the worst of the worst—to build yet another tower of bonds: a “particularly egregious” C.D.O.

*** Money quote:

*The reason they did this* was that the rating agencies, presented with the pile of bonds backed by dubious loans, would pronounce most of them AAA.

"I cannot fucking believe this is allowed—I must have said that a thousand times in the past two years,” Eisman says.

See the key word: "allowed."

I much admire much of what you write. But your emotional abhorrence of being told what to do might be clouding your judgment as to whether other people might need to be told what to do--for everyone's good. (There's a reason--character probably--that they were doing what they were doing, and you're doing what you're doing. You obviously have the brains to have been doing what they were doing...)