Have I Got A Derivative For You!

[ryyannon]

Might as well link to stuff as long as I'm here....

Just about the best insider's description I've ever read of what went wrong on The Street (answer: just about everything) and how sub-prime mortages brought the whole economy down, by a guy who was there, and actually knows what he's talking about.

http://www.portfolio.com/news-markets/nati...ll-Streets-Boom

[omni]

Thanks Ry, I enjoyed that article. Wassup with you too oldtimer?

[Pugwash]

Amazing article.

Yup, it covers the lot.

[ryyannon]

Thanks Ry, I enjoyed that article. Wassup with you too oldtimer?

Just watching the river of life flow past my door...

I was writing a bit, but my motivation (basically, trying to preserve my sanity in an increasingly insane world) has weakened lately....

Here's the last thing I did before retreating back into bed and throwing the covers over my head:

http://iowahawk.typepad.com/bolus/2008/08/...er-[censored]-po.html

Yeah, I've regressed so far that I've taken up living with a pigeon - cf., the 'Poopzilla' reference at the end of the piece. Actually, the 'Zilla is one of the greatest things ever to happen to me - I just wish we had met much earlier: would have saved me tons of heartache with the ladies and kept me a lot saner as well....

[ryyannon]

Amazing article.

Yup, it covers the lot.

Even though I think you're refering to the article in the first link, thanks just the same, Pug.

You know, I've always meant to credit you as the author of the tag I use in my forum sig but just never got around to doing it. Well, enough is enough.

There.

Now, will you please call off the damn lawyers?

[Shundi]

Just about sums it up...

[FxrAndy]

Well i read it and i ahev to admit that i do not understand it, but to the point being neither did they (the wall street people) making money off the same money 5 times over but it never existed in the first place, you invest in to a long return, over 25 years some one pays the full mortgage back then no losses, but if they default then no return and you are left with ultimatly the deeds to a property that no one can buy as every one had invested in something that was never going to pay off!

Does that sum it up?

[cornerstone]

A great read....both Portfolio and Poopzilla.

[bTW whatever happened to good ol' fashioned pigeon diapers?]

[KB]

I had my father here and at 80 his sight isn't the best so I spent the afternoon reading the article to him and stopping from time to time to discuss points of interest........actually turned out to be a great father/son bonding experience.

An excellent read and one that I hope is noted in the right circles, but unfortunately I think greed will always prevail.

Now to read Poopzilla

Ken

[Pugwash]

Now, will you please call off the damn lawyers?

Under legal advice, I've done so. Apparently you were covered under fair use anyway.

[ryyannon]

Well i read it and i ahev to admit that i do not understand it, but to the point being neither did they (the wall street people) making money off the same money 5 times over but it never existed in the first place, you invest in to a long return, over 25 years some one pays the full mortgage back then no losses, but if they default then no return and you are left with ultimatly the deeds to a property that no one can buy as every one had invested in something that was never going to pay off!

Does that sum it up?

Exactly.

Now just sign on the dotted line, please.

[fat.tail.event]

If you like the author's style, do take a look at the book that put him on the map, Liar's Poker...not heavy on the technical jargon and a very very funny read.

RobbieG recommended another book that is similar in the Trader Talk thread....Traders, Guns, Money that addresses the derivatives issue on Wall St.

Also, a Liar's Poker rip-off (same style, genre) purely about derviatives as well is a book called FIASCO.

[AllergyDoc]

Most of it went over my head, too. But I enjoyed reading it.

[Raijor]

Yea ... the Emperor has no clothes..

[Chronus]

Great article... explained what's going on to me. The only part I am not sure about today (seemed ok yesterday) was how the banks were creating these phantom bonds out of thin air when they were laying side bets to short the market?

[fat.tail.event]

Great article... explained what's going on to me. The only part I am not sure about today (seemed ok yesterday) was how the banks were creating these phantom bonds out of thin air when they were laying side bets to short the market?

Chronus, I dont know if this helps, but some of my non-finance friends struggle with this concept inherent to investment banks. Unlike a typical business that has a product and sells it to the public (end of transaction), an investment bank is creating a product to sell and after it sells it, it is trying to create another product to sell that is the inverse of that original product. So one product attempts to offset the 'risk', market exposure of the other, thus doing its best to remain risk neutral.

There are many different ways investment banks and even insurers, take AIG for example, have gotten into trouble by not obeying this inherent concept. AIG is an insurer, it does a lot of life insurance contracts, right? Well, in order to take out a life insurance contract, you need to demonstrate that you, the policy holder, has an insurable interest. You cant go out and enter into a life insurance contract for your neighbor who is a stunt man. Well, AIG did the exact opposite. Many insitutions held GM or Ford bonds and they went to AIG to take out insurance on their insurable interest (getting paid on the bond principal if gone bust). They wrote 'insurance contracts', Credit Default Swaps (CDS) on these bonds and bond owners paid a 'premium' for this contract. But AIG took it many many steps further. Speculators, without demonstrable insured interest (not actual bond holders), wanted similar contracts to simply bet on the death of GM and many other companies. AIG didnt charge high premium (nor maintained adequate cash reserves if the trade went against them, which it did), and it most certainly sell a product on the other side of the trade to hedge its risk. So now AIG, hypotetically (insert any bond, debt instrument), has $150B in counterparty risk (they were making a market for speculators), even though a bond issues' total value is only $1B. This is why AIG went from needing 85B to an additional 70B in about 30days. Your tax dollars are facilitating the payment of speculators with no insurable interest. A simple idea that insurance companies follow, but woops, that went out the window when it comes to bonds, CDOs etc.

[SkiFaxon]

That was a great article. It's amazing there is/was little or no regulation involved. I traded options for a few years and at times could be overwhelmed at the complexity of some spreads but the whole mortgage derivative market, with credit default swaps, blows me away. I would have loved to hedge some of my trades with 'air' and then been able to show the clearing house that I was (wink, wink) hedged on paper. It would certainly make shorting options quite a bit less stressful.

I also thought it interesting that the author traced the root cause of this back to the investment firms going public. Didn't Greenspan just say the one flaw in his model was his inability to account for the lack of concern given by investment firms to their shareholders? I agree that a privately held firm would be quite a bit more careful.

Thanks for the link OP. I've passed it on to quite a few friends.

[Pugwash]

That was a great article. It's amazing there is/was little or no regulation involved.

It's what you wanted. It's what Reagan gave you after you cried out for it. Too much regulation was cramping your style, you said.

Yeah, everyone should have seen it, but like chain letters, they hoped they'd cash out before the chain was broken.

[SkiFaxon]

I wouldn't just throw Reagan under the bus. It was Clinton's policies that lead to the reduction in lending standards for mortgages.

[Pugwash]

I wouldn't just throw Reagan under the bus. It was Clinton's policies that lead to the reduction in lending standards for mortgages.

Maybe you should reread the article.

I'm not saying his administration was solely responsible, but it was the start.

As a side note, are you aware that most of the biggest subprime lenders weren't actually banks, and therefore weren't covered by the CRA that is usually the conservative's choice of what to blame?

The whole thing was doomed as soon as the 80s boom started.

[mb1]

thanks for that. Well written artricle

[fat.tail.event]

The real start of it all?

1907 Financial Panic leading up to....

1913 Federal Reserve Act - The year a Democratic controlled Congress and Presidency anointed themselves smart enough to manipulate money supply for the idealistic goal of creating sustainable long term growth.

This will all continue until Presidents, investment banks, or you name the man/institution directly involved in the creation and/or distribution of assets, necessary goods, services and capital...stop promising something for little or nothing.

[slay]

[robertk]

Very interesting article. Also very depressing. Pug, no reason to place the blame on Reagan. It might have started with him, but Bush senior and Clinton both endorsed it. In 94 congress tried to set limits and regulate this market and the Clinton administration opposed it and killed any reform.