Wednesday, April 28, 2010

A Collossal Failure of Common Sense

Review of A Colossal Failure of Common Sense: The Incredible Inside Story of the Collapse of Lehman Brothers by Larry McDonald with Patrick Robinson

This is really just a collection of notes on an interesting example of a kind of secondary historical source closely linked to a potential primary source. My primary conclusion is that I hope his ghost writer kept the notes, because those may well have some real historical value, but this book itself is way too slanted and defensive to take at 'face value'. My current hypothesis is that a lot of the juiciest bits are actually the result of the ghost writer combing through his recorded interviews looking for eye-catching and memorable snippets.

Therefore I'm going to focus mostly on the evidence of the slants in this review. The particular slant that really started to grate on my nerves was the dislike of poor people, which is interesting since the author includes a couple of brief biographical episodes involving his own experiences of poverty, and in those places the themes were that it wasn't his fault and that his poverty didn't mean he was stupid or a bad person or anything like that. However, when he's talking about OTHER poor people he says things like "NINJA" (for No Income, No Job, no Assets) (frequently used throughout the book), "betting the farm on poor people making their mortgage payments" (p. 172), "guys who haven't got any bread" (p. 172), "bush telegraph of the poor" (p. 174), "out-of-work no-hopers" (p. 200), and the stuff about "firebrand official Roberta Achtenburg" (p. 243), who briefly worked in the Clinton administration advocating against racial considerations in housing loans. I think this last one was actually part of an intended slant to blame it on Clinton, since he went out of his way to introduce her in the the prologue. I'm sure there were lots of other examples, but it took a while for the anti-poor-people thing to become annoying enough to start tagging it.

Another slant that bothered me was the strong assumption that greed is basically natural and good. I think it underlies the book to the degree that a better title would have been The Most Colossal Failure of Selfish Greed--So Far. The evidence is actually confused on this point, since sometimes he's criticizing it, while in other places he's praising it, especially when he's on the receiving end. A sampling of the mixed evidence includes "rabid desire for some decent yield" (p. 141) and "grotesque personal greed that has slithered through Wall Street" (p. 141), showing that he (or his ghost?) can talk about the unfair aspects, but most of the examples were on the other side of the ledger in terms of huge profits and bonuses. I guess the part of this that annoyed me most was the long passage on page 209 where he projects his own flaws on other people. The specific target in this passage was the slimy salesmen who were using high-pressure tactics to sell the bad mortgages in the first place. He never bothers to consider the mitigating factors there, most importantly that any poor suckers who were smart enough to think ahead would have been told that they could get out from under by selling the house at a higher price or just walk away in the worst case. Of course, most of the poor suckers were just too trusting and not even thinking that much--but he doesn't consider that aspect of it. However, the real hook is that the author's OWN work was focused around distressed assets and short selling. He even describes himself as a vulture and proud of his super-bear father. Hey, fool. You can't fairly criticize other people for profiting from the suffering of innocent people when you have been making millions of dollars doing it. Big time projection there, but at least he (or his ghost) sort of knows it's wrong.

In many places in the book he's trying to show how clever he is about catching onto scams and swindlers. Examples include "in its wisdom" (p. 171) where he is sarcastically attacking Congress for the Commodities Futures Modernization Act that legalized many of the most dangerous practices (but without ever mentioning any Lehman-supported lobbying for the law), "a red flag to a bull" on his own acumen in spotting troubled companies, and the passage on page 235 where he's trying to link himself into an early warning discussion with the then Secretary of the Treasury Henry Paulson. However, I think his claims of any cleverness collapse with statements like the page 43 claim that Bill Gates was deeply knowledgeable about computer programming (when actually Gates' main programing experience was just helping with an early BASIC interpreter for PCs), calling Time Magazine a "bastion of reality" (p. 157), and "beyond the pull of gravity" to demonstrate a total misunderstanding of how gravity works.

That gravity thing was actually in connection with one of his rather feeble attempts to provide conceptual scaling for large amounts of money, which also convinced me he isn't much of a mathematician. For that sort of thing you need to start by scaling the problem. I haven't run the numbers, but I suspect you could have made it work with a large office building gradually filling up with $100 bills, though you'd probably want to imagine the building as not tapering as you filled it up from the lower stories. Also contributing to this theme was his mention of large essentially imaginary debts of money that never existed, such as $26 trillion (p. 169) (for the CDS market in 2006) and $13.4 trillion (p. 201) (for mortgage-backed securities issued from 2001 to 2006). If scaling was his concern, I'd have expected some comparison to the relatively piddling national debt, but he didn't even consider the illusory nature of these valuations. You'd expect him to say it clearly, because he seems to understand there's a problem there, but he just doesn't get around to saying that the fundamental problem there is that you can always imagine an arbitrary price--but that doesn't mean anything if the actual value of the assets cannot possibly justify the speculative so-called prices. It really is amusing how they tried to insure themselves for the payment of impossible valuations, and then they acted so surprised when the entire bubble burst. Oh wait. He was so wise that he knew it all along, sort of...

Actually, as of this writing I've only read as far as page 246, but I'm quite confident the book isn't going to improve in the stretch run. This is mostly just a good example of why the participants in historical events can't really be trusted. One of the things the book establishes very clearly is that the author is a hustler, and this is the kind of book whose value falls off very rapidly over time, so the hustle in publishing it was justified (from his greedy perspective).


shanen said...

Just a few closing remarks after having finished the book. Not worth the effort of rewriting and polishing the original review, but that mostly confirms my opinion of this book as a very rough first draft of the history.

My primary conclusion at this point regards the author's largest mistake. His main theme was that LB (Lehman Brothers) should have avoided taking on so much risk, but the conclusion that I now hold is that LB failed precisely because they didn't take on more risk. In fact, from that perspective the author's team of risk reducers helped kill LB by preventing the company from becoming "too big to fail." Even though the events are barely past, it is clear that it was ultimately a political decision to let LB die, and even then they almost miscalculated--the short summary in the epilogue certainly argues that LB had already become too big to fail, but it wasn't obvious enough. Putting it in different terms, failure is fundamentally painful, but failures will happen. I'm not sure when LB passed the point of no return, but it is certain that by the end, the only chance for survival would have been if the government had decided that the bankruptcy of LB was going to be too painful to permit. Perhaps not, but I believe that LB had already been in the limbo region for a long time, and reducing their risks would not have avoided failure and bankruptcy, but would have simply reduced the pain. (Makes me think of the relatively painless bankruptcy of Yamaichi in Japan (formerly one of the top brokerages).

shanen said...

Oh yeah, about the last part of the book:

On page 277 I was struck by another list of vast amounts of money (such as $70 trillion) that make the current fuss about the $1 trillion deficit look pretty ridiculous.

On page 296 there's another ridiculous gaffe about no one else losing money trading at LB. Just an exaggeration, but part of his desire to point the finger of blame at his tiny target. Elsewhere he claims there were only eight people responsible for the failure of LB, but I can't buy that gross simplification.

Page 300 has some sloppy editing with a repeated passage about his arch-nemesis. There were a few similar glitches in the book, evidence of a rush to market, but this may have been the worst one.

shanen said...

For a rather poor book, it seems to be somewhat thought-provoking, eh?

Actually, I forgot to mention that the subtitle is misleading. Nothing "incredible" or even particularly surprising in the book.

However, on reflection, the Las Vegas story looms larger and more significant. His intention was to show that the other trader was a very gutsy gambler--even with his own money. However, the real point of the story is slightly different. If you believe that gambling is legit, then you know that you are going to lose in the long run--even if you are gambling with OTHER people's money, which is exactly what was (and still is) the main activity of Wall Street.

Of course, you might think the game is crooked, and there is an argument to be made in that regard insofar as the Wall Street boys are also playing as the house in most of their games. Maybe that's the real significance of the little flash crash a few days ago? I'm still trying to imagine how they can decide which trades to cancel--assuming they can even figure out what went wrong with the game. Talk about lawsuits waiting to happen...

shanen said...

Let it go, as they say... However, one final note before letting go of this particular book is that it definitely qualifies as the kind of book Dubya is unlikely to read. Essentially a retrospective on one of the largest failures that he was technically responsible for avoiding.

It is increasingly obvious that Dubya's second term of residence was mostly dedicated to holding things together long enough to dump the mess on the next guy, even if it was a neo-GOPer. The main topic of internal consideration during that time was probably whether or not they could keep the proverbial shit out of the fan long enough. Insofar as the financial collapse clearly fell on Dubya's watch, you at least have to credit that rat Rove for knowing when to leave the sinking ship...