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Book Review – The Big Short

Michael Lewis tells the story of how CDOs killed our financial markets.

The Big Short puts the cloudy mechanics underlying the real estate bubble into easily understood layperson’s terms.  Michael Lewis is perhaps one of the greatest story tellers of our generation, and his ability to describe complex situations simply while telling a human interest story in a novel like fashion is in my opinion unmatched.

The Big Short explains the world of CDOs and CDSs, while simultaneously telling the stories of how they came to be and how they contributed to both the creation and popping of the bubble.  Lewis also does a great job of explaining how both Moodys and Standard & Poors failed to properly protect investor interests.  The punchline:  Debt that would likely have a high default rate and therefore low ratings was  repackaged into new securities and given new, higher ratings.  The theory by bankers, analysts and rating agencies was that by bundling several states worth of mortgages into a single instrument, risk would go down because not all states would have high rates of default at the same time.

Lewis, and this book have taken a great deal of heat and criticism from articles he published in 2007.  His comments echoed those of Alan Greenspan, and are supported in a fashion by the efficient market hypothesis.    Lewis is cited as having been a huge supporter of derivatives as an efficient mechanism to redistribute risk.  But The Big Short isn’t a change in position, an attempt to argue that he didn’t make those statements or an acknowledgement that he was wrong.  It’s just a well told story, in typical Lewis fashion, of one of the worst financial events in recent memory.