“The Big Short:” 2008 Repackaged Into 2016

History, with all her volumes vast, hath but one page.  – Lord Byron

“The Big Short” is a must-see movie.  Adapted from the Michael Lewis’ non-fiction book, “The Big Short: Inside the Doomsday Machine,” it brings to life Walls Street’s fraud-infused world of credit default swaps (CDS) and collateralized debt obligations (CDOs, which were at the center of the collapse of the housing market and the financial system in 2008.

Now that Ben Bernanke has “successfully” saved our system from its demise (sarcasm intended), it’s easy to bury the past and disremember the degree of fraudulence and criminality that had engulfed mortgage and housing markets.   It still blows my mind and angers me to think that people like Angelo Mozilo not only never went to jail, but they were never properly investigated for their role in fomenting the biggest fraud – up to that point in time – in history.

The movie brought back a lot memories for me.  I used to pour through the financials and the footnotes to the financials of several of the mortgage companies and banks that underwrote the bulk of the fraudulent mortgage securities.  I had concluded that all of the big banks plus Countrywide, if forced to mark their mortgage holdings to market or sell them at market, were technically insolvent.   They were all sitting on the ticking time bombs of home equity loans, CDO inventories and the wrong side of credit default swaps (in the movie we meet the people who bet against the mortgage and housing markets by taking the other side of the credit default swaps sold to them by Wall Street).

I remember sending my analysis of JP Morgan, Bank of America and Washington Mutual to several business publication editors and journalists, including Al Lewis (one-time editor of the Denver Post business section,  nationally syndicated journalist and multiple appearances on cable financial news networks), the Wall Street Journal, Bloomberg News and many other publications.  My work, which proved to be correct, was completely ignored.

Ironically, the big housing bubble was not the first appearance of massive mortgage fraud in this country.   When I was a junk bond trader in the 1990’s, there was a mortgage company called Cityscape.   The company had a 12 3/4% coupon junk bond outstanding and I just so happened to be the housing sector trader.   I started examining Cityscape’s financials and business model when the bonds began trading at a discount to par (it’s usually a sign something is wrong when a high coupon, senior secured bond begins to trade at a  high double-digit yield to maturity).    I remember uncovering the same type of fraud with Cityscape that became accepted standard business practice with Countrywide, Wash Mutual, Merrill, Lehman, etc.

Unfortunately, underpinning what has been craftily marketed to the public as a housing “recovery” is nothing more than an “echo” housing bubble inflated by an “echo” mortgage bubble.  The blatant disregard for the assessment of credit worthiness, and the financial fraud embedded in the mortgage underwriting process, that occurred during the big bubble years was never fully cleaned up – it was merely covered up.

The term “subprime” has been erased from the mortgage credit assessment lexicon and, instead, replaced with terms like “3% down payment borrower.”  The U.S. Government, via Fannie Mae, Freddie Mac and the FHA is now guaranteeing mortgages with effective negative equity in them at closing.  Buyers can use borrowed cash and/or seller non-cash “give-backs” in lieu of a bona fide down payment.  There are now private funds which underwrite even riskier mortgages, which now include interest-only and adjustable rate options.

Just like the first time around, many of these mortgages end up in “collateralized” investment trusts.  Now they are called “bespoke opportunity tranches” instead of CDO’s. Not only that, several big brokerage firms, like Merrill Lynch, underwrite mortgages which use the margin equity in the homebuyer’s stock account as the down payment.  Imagine what will happen to these mortgages when the stock market finally cracks.

The homebuilders themselves are offering 0% down payment financing as part of the incentive package being used to entice buyers.   Many of these mortgages will be sold off to Wall Street, which will repackage them into higher yielding investment trusts and derivatives cesspools.  The criminal banks will re-market them with fat commissions to yield-starved pension funds and high net worth stool pigeons.

Those who do not remember the past are condemned to repeat it  –  George Santayana.

Wash, rinse, repeat.  Just like the big housing/mortgage bubble, the current echo bubble is sitting on top of a foundation of financial dynamite.  The fuses have been lit.  It’s not a question of “if” but of “when” the bombs will detonate.

Perhaps one of the finest directorial features of “The Big Short” was watching the players who made huge bets against Wall Street as they waited in a state of torture for the mortgage market to collapse while Wall Street’s web of fraud, market manipulation and propaganda was used to hold up the mortgage market.   Sound familiar?  The movie skillfully weaves in the fact that Wall Street fraudulently mis-marks the securities it creates in order to fleece investors on both sides of a trade AND to keep its own balance sheets fraudulently marked too high.

I witnessed this dynamic first-hand in 1990’s. If you think Congressional reform “fixed” this problem, you better review what is happening currently in the junk bond market.   Bonds marked in the 90’s are all of a sudden trading in the 20’s.  This occurrence will not be confined to the triple-C and single-B segments of the corporate bond market.   At some point in the near future this will be a standard feature in the mortgage bond market – just like in 2008.   And as the rug is pulled out from under the mortgage market…

12 thoughts on ““The Big Short:” 2008 Repackaged Into 2016

  1. Those of us who can see and react to the phony construct which
    is labeled a market should do o.k. or least be off the tracks when
    the train comes along. It is like owning precious metals in this
    environment where no one (mainstream & immediate family) wants
    to talk about owning metals. Owning metal is the best put against the
    dollar but, most in the U.S. don’t get it. Remember Dave, regarding
    your call’s in ’06-’08, the pioneers are always the ones with arrows in
    their backs. A healthy and happy new year to you.

  2. Great news on nearest metro RRE mkt.!
    Denver realtor says “I do not believe we’re in a bubble today” (See 2nd video link, below).
    Therefore, it must be different this time.
    And so, “No worries (Hakuna matata). 🙂
    Keep calm and chive on.


    “History doesn’t repeat itself, but it does rhyme.” – Mark Twain

    “No man is happy without a delusion of some kind. Delusions are as necessary to our happiness as realities.” ~ Christian Nevell Bovee, 1820-1904, American Author, Lawyer

  3. Amazing as I watched the movie I thought my goodness this is a movie in which we are currently in the first 1:30 a of and the last 30 minute of the movie is about to happen!

  4. Reminds me of an old Burt Reynolds movie, where the prison inmates play a game of football against the guards. After the huddle, Reynolds nails the dirty nose tackle in the nether region and he goes partially down.
    In the next huddle, Reynolds says; ” Same play. Hey, it worked great! So let’s do it again”. Only this time, the tackle goes down for the count.

    Same with the across the board real estate market. Going down for the full count.

  5. Hey Dave, I saw The Big Short today, and your blog was on my mind. I tried to talk my Denver based relatives out of buying a home, but of course they ignored me. After their summer purchase, they bragged about how they won a bidding war. But things are already breaking down. Here’s a link of some anecdotal evidence here in Northern VA:


    Notice the disparity between the Zestimate and sale price. I could send you dozens more. I’d love the chance to interview you on my fledgling podcast one day if you’re ever interested. Happy New Year, Phil

    1. Phil is that your correct email address? Send me an email at investmentresearchdynamics@gmail.com and let’s set up a time to do a podcast interview.

      Your relatives are more than likely already underwater vs. what they paid for their home this past summer. Price are down 5-10% depending on the price segment in which they bought. The higher end is getting pummeled here now.

    2. Wow, yes. I suppose $490,000 on a big house is OK if you have another million under the mattress. Property taxes will probably be 8 or 10 grand a year, plus insurance, mortgage servicing, HOA and maintenance.

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