Zeitgeist of the Great Crash of 2008

[chin]

I just finish reading "The Greatest Trade Ever" last night. This is one of the many books that came out in the last few months about the great crash of 2008. It's about how a few investors, mainly John Paulson, foresaw the coming crisis and make profit from it.

The market always have different views. Otherwise there won't be any market if everyone had the same view. Therefore there always some guys who bet on the right side and make money.

So this was the assumption I had before reading the book. Thinking that it's just stories of the lucky guys who happened to be on the right side of the bet. After reading the book, my impression is that these guys were not just lucky. They were extremely lucky AND put in the hardwork to profit from it.

They were not the only people who saw things were going crazy at the time. In hind sight, even I saw it coming - all the big tycoons were placing shares which is a sure sign that even they thought the shares were over priced, and the many TV ads on Dish Networks telling people that anyone can get a loan or refinance, or my relative who saw her Manhattan apartment doubled in value in 5 or 6 years. However guys like me just sat on the sideline and waiting for the fireworks.

The people in the book, on the other hand, took the time to figure out how to profit from the coming crash. Seeing the big picture is one thing, developing a concrete plan of action is another. They did not get it right at the start. For example, they initially tried to short shares in financial companies or real estate related business. But shorting shares exposing one to unlimited downside. Then they found derivatives. Not simple puts, but CDS that's effectively insurance on the value of a particular securities. Initially their invested in CDS for particular mortgage related bonds, and later on CDS on the mortgage index that had proven to be the holy grail.

If I get the timeline right, this process took some of them 1 year or more to perfect. And then there was the problem of timing. Some of them acted too soon and had to wait two years before the housing price fell enough for the CDS to be worth anything. When the market crashed, many of them also had to resist the temptation from within and pressure from outside to sell too early to lock in profit. (In 1992 I read a book about the house of Nomura. One of the key events in its early history was shorting rice and had to wait two years before profits came in to bail them out and made them super rich. During the two years they had to tighten their belts and being ridicule at.)

So these people are not just lucky. You have to add some foresight, some courage, lots of perseverance & hardwork, plenty of greed & some craziness. At the end of the book, it says John Paulon's next big bet is against the US$ & many currencies except the Chinese Yuan. His instrument this time is gold.

According to the book, John Paulson made US$15 billion out of this mess. Since derivatives like CDS are zero-sum game, the people on the other size of his bets loss at least as much. And the losers were the houses of Bear Sterns, AIG, Citigroup, etc... who held on to the CDS on house accounts instead of selling to clients.

Now the big question - what's my plan to profit from the next big crash? or from the bubble that builds to the next big crash?

[chin]

I found out this article in Rolling Stones after reading about Greg Smith's resignation from Goldman Sachs.

http://www.rollingstone.com/politics/news/the-great-american-bubble-machine-20100405

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Greg Smith's resignation from Goldman Sachs

http://www.nytimes.com/2012/03/14/opinion/why-i-am-leaving-goldman-sachs.html?_r=1&ref=business

After reading the article, all I could say was that I was not surprised.

Banks has been losing credibility, especially now they have to or like to sell many financial products. I have been specially skeptical about Wealth Management products from banks. Few years ago we were offered by HSBC a product that supposedly benefit our children - except that that product matures in 100 years. Not only I will be long dead in 100 years, my children are most likely dead too by then. When pointed out about this non-sense, the banker couldn't help but laughing too.

Goldman is probably just a much larger version of this non-sense - that they sell whatever they can get away with, regardless whether the product make sense or not.

[hangchoi]

Yep. Previously banks' business is to use your deposits to earn money from others. Now they earn your money direct.

Why do we have private banking everywhere now? Why they put private banking clients in such a prestige status? Who pays the cost of serving private banking client at such level? Is the traditional banking business so bad that they cannot profit again ?

[q]

Banks has been losing credibility, especially now they have to or like to sell many financial products. I have been specially skeptical about Wealth Management products from banks. Few years ago we were offered by HSBC a product that supposedly benefit our children - except that that product matures in 100 years. Not only I will be long dead in 100 years, my children are most likely dead too by then. When pointed out about this non-sense, the banker couldn't help but laughing too.

A HSBC person tried to get me to buy into some kind of CDO fund about two months after the financial crisis hit.

[hangchoi]

Just finished reading "The Big Short: Inside the Doomsday Machine" by Michael Lewis. A very interesting read.

I borrowed it from my sister-in-law last night. This one is a black hole to me and I can't stop once start to flip.

The book is written like a story and it talks about sub-prime mortgage and the later CDO stuff. It covers the period well from 2002/3? to the financial crisis of US banks and generally it is quite in line with his articles posted above by Chin.

It explains the whole story of this "scam" and how the hedge fund guys gambled on this, and made big money from those wall-streeters.

Q: it also tells you when they tried to sell you CDO fund 2 months after the crisis.

[hangchoi]

I just finish reading "The Greatest Trade Ever" last night. This is one of the many books that came out in the last few months about the great crash of 2008. It's about how a few investors, mainly John Paulson, foresaw the coming crisis and make profit from it.

I got something more from "The Big Short". Paulson actually was not the first one who foresaw this crisis. Somehow he may be told by others. Guys like Steve Eisman was almost the first one to plan how to earn big money from the crisis. He did what you said (shorting the security of related business, etc.) but (according to the book) the most important move was that he tried to use derivatives to short the mortgage loan with banks. He even made the first short-sale contract by himself and used that for negotiation with i-banks. His drafted contract was later used as a framework for future transaction of similar kind. However, things like CDO was later developed by other i-bankers and this messed thing up further. He did that in about 2004, and started to sell short in 2005 as he noted that the prime rate for mortgage will be revised 2 years later, i.e. 2007. So his "investment" period was originally only 2 years to 2007 as he gambled that prime rate in 2007 will have a huge increase after review. He, together with just a few investors, was gambling against the whole market at that time. Paulson joined to short it a year or 2 later on CDO part.

Yes, they have foresight, courage, greed and perseverance to hold his gamble to the end but the risk is horribly huge. At that time, the whole market was so crazy that almost no one in wall streets understood what they were doing and trading. Even after the crisis hit as they rightly foresaw, they may still lose if the government bailed out the defaulters too soon.

[hangchoi]

Off track a bit from the US to Europe....

This video is funny to explain the problems of EU.......

http://www.youtube.com/watch?v=7s44vuVR0BY