David Bennett

This is what caused The Financial Crash of 2007-08

A small number of people made a fortune out of the financial crash of 2007-08.

Among those who made money were Mike Burry and Steve Eisman. They weren’t working together. They each used their own approach to conclude that the system was going to fail.

After the crash, the Government set up the Financial Crisis Inquiry Commission. The Commission interviewed more than 700 witnesses and concluded that there were

…widespread failures in financial regulation; dramatic breakdowns in corporate governance; excessive borrowing and risk-taking by households and Wall Street; policy makers who were ill prepared for the crisis; and systemic breaches in accountability and ethics at all levels.

Michael Lewis in The Big Short explains how Mike Burry and Steve Eisman saw it. It was simple: Mortgage companies lent money to people to buy homes on mortgages they couldn’t afford. They lent at low interest rates that would skyrocket after a honeymoon period.

They either didn’t ask for or they fiddled the income information to support the mortgage payments. And the borrowers didn’t need to put down a deposit so they had no financial stake in the properties.

And if things got out of hand, the borrowers could remortgage because prices were always going up, weren’t they?

Why The Mortgage Companies Didn’t Care

So why didn’t the mortgage companies care that the mortgages were going to go bad on them?

First, they made their money out of the deal in commissions and fees.

And if the borrowers wanted to remortgage, the mortgage companies were happy to oblige because they got a whole new set of commissions and fees.

Second, they mixed some good mortgages with risky mortgages, bundled them up and sold them on to investors as a basket of mortgages.

The only time they held the risk was in the short time between lending the money and selling on the basket of mortgages.

Of course, some didn’t handle that very well and got caught at the wrong time holding the mortgages, but mostly they just passed on the risk.

So why didn’t everyone see that it couldn’t go on and that a tsunami was coming?

Who’s Got The Sandwiches

The answer is that it was a bit like the picnic where everyone thinks someone else brought the sandwiches. I haven’t got them – I thought you had them.

The investors just couldn’t conceive of more than a small percentage of the loans going bad.

They figured someone else would pick up the risk and it would all go on forever.

What they didn’t do, which they should have, was to examine the baskets of mortgages they were holding.

Some had a mix of good and bad mortgages, but a lot had a mixture of bad and even worse mortgages.

What Mike Burry, Steven Eisman and a couple of others did was to do the analysis.

Shorting The Market

They saw things couldn’t go on and they shorted the market.

Short selling works with three parties – a short seller, a broker, and the owner of the shares. The short seller borrows shares from a broker against a promise to complete the sale later. The short seller is credited with the value of the sale.

If the price of the shares drops when he completes the sale, he keeps the difference between the price he borrowed at and the current price.

The broker is happy because he makes a commission on the transaction. The original holder of the shares is not happy if the share value drops because he has to make up the shortfall so the broker can pay the short seller.

Of course, the short seller is not going to make any profit if the original owner of the shares goes bust when the shares fall in value.

So Mike Bury and Steve Eisman took out insurance against the mortgages going bad. The beauty of it was that they could take out insurance at low rates against an event they were certain would happen.

If the companies who ultimately carried the risk had analysed the risk they would never have offered the insurance at such low rates.

The insurers saw mortgages that were set up to run thirty years. So they figured they were going to get thirty years of insurance premiums. That’s how they set the premiums. And they listened to the rating agencies who said the baskets of mortgages were safe.

But mortgages don’t run that long. People sell within a few years. And if the house was foreclosed then the mortgage wouldn’t even run that long.

If the ratings agencies had understood the risks, they would never have rated the mortgages companies so highly.

What Mike Burry And Steve Eisman Saw

What Mike Burry and Steve Eisman saw was that the people who carried the risk didn’t understand it and that neither did the rating agencies.

What they wanted to know was – where did the buck stop? They needed to know that because if the ultimate institution that would have to pay them out went bust itself, then they would not get the payouts they were due.

Eisman shorted everyone he could until he knew who had the risk. He shorted Bank Of America, UBS, Citigroup, Lehman Brothers, and Merrill Lynch.

When asked why the shorted Merrill Lynch, Eisman said he had a simple thesis. Goldman Sachs was the big kid who ran the games in the neighborhood. Merrill Lynch was the little fat kid assigned to take the less pleasant roles, just happy to be part of things.

And it paid off. Merrill Lynch went bust and got taken over by Bank Of America. But they paid out.

Of course the aftermath was that Eisman and the other winners were unhappy with what happened. The system fell apart and everyone in the country and beyond suffered.

It wasn’t something you could walk away from and laugh about how Wall Street had screwed itself.

Dissenting Views

I read the dissenting views to the conclusions of the Financial Crisis Inquiry Commission.

One view was that the root of the problem was easy access to cheap capital coming into the country. The majority view as per the quote at the top of this article is that the crash was because of a failure of regulation, and a prevelance of unethical behaviour.

I favour giving the minority view some credit. When the cat’s away, the mice will always play. So giving the mice a big piece of cheese to play with was bound to cause problems. And regulation will only catch some of the bad behaviour.

That said, it was a loosening up of regulation that allowed the system to operate at all.The moment that investment banks were allowed to risk capital on ventures like baskets of sub-prime mortgages, the doors were open to abuse.

Photography, Art, and Cultural and Social Inferiority

jo-spence-exhibition

Stills is a photographic centre in Edinburgh. You can develop and print film there, attend courses on photography and design, and see what’s on in the gallery.

At the moment there is an exhibition of the life and work of the photographer Jo Spence, who was born in London 1934 and died in 1992.

She was merciless on herself and spent a lifetime examining her relationship with her mother and with the way society manages us. When she fell ill with breast cancer she documented what happened and how she was treated by the NHS.

She did phototherapy sessions with other photographers. One would act out a meaningful part of their life and the other would photograph it.

Jo did a series of herself as her mother, with all the aspects of that persona that Jo saw over the years. And she did a series of herself as a bride, and as a child, and as a woman investigating a hoover.

When she was 45 she started a degree course in Film and Photographic Arts at the Central London Polytechnic.

There she and Mary Ann Kennedy, Jane Munro, and Charlotte Pembrey formed a photography group known as the Polysnappers.

Amd their degree show was a series of panels on the subject of the politics of representation. You can see that in the image at the top of this article.

They combined commentary with bits cut out of newspapers and magazines, and the theme was clear: What is acceptable and desirable is pushed at us relentlessly. The task is to decode the message and know who is pushing it.

One panel caught my eye – and it is not directly on the theme of the politicisation of representation, but about photography and art.

There is a quote by Bill Jay that turns on its head some of the arguments about the second-class cinderella that is photography.

There is no doubt that art-photographers in America consider themselves a breed apart – one higher on the evolutionary scale of the medium – than photography in other fields. I remember discussing a set of documentary photographs with a critic and an historian who ended the conversation, to his satisfaction with the remark: ‘But of course they are not art’.

I agreed, which rather took him aback. ‘No’, I said, at their best such photographs are culturally, socially and historically more important than art…’ Why should anyone assume that Art is at the apex of a cultural pyramid and, by extension, anything that is not art is therefore less important?

…Photographers, then, have a cultural and social inferiority complex that is manifested in adolescent belligerency, an egomania that threatens to destroy the medium.

Only If You Like Jazz

There was a programme on TV about the origins of Bosa Nova. As is usual, it was my wife Tamara who found the programme and got me to sit and watch it with her. She is marvellous. Where does she find these programmes?

So part way through the programme the interviewer is talking with a pianist. And there is an intro of a few bars and my ears perked up. The pianist is Cliff Korman and I googled his name. It turns out he is from New York and lives in Brazil.

Here he is playing Manhã de Carnaval with the Brazilian clarinetist Paulo Moura.

It’s less that 10 minutes long – so not too much to listen to if you don’t like jazz. But I am willing to bet that you will like it.

Don’t you just love to find people you want to listen to. It’s strange how one can feel a kinship with them. I don’t know Korman’s politics, for example. And yet I think I probably know how he thinks about things.

I had this discussion with someone years ago. It’s the question of interpretation versus explanation.

When we know something about the person who makes the music or writes the novel or the poem, or makes the film – does it alter the thing they have made?

Is it we who cannot remove ourselves from the narrative we construct as we interpret the piece?

Or is it there, right in the very piece itself and knowing something about the person is part of unfolding the piece?

Running On Empty Money

The country is running on empty.

Forget what you’ve heard about the English classes being defined by culture and leisure-time pursuits.

The classes in England are defined by money.

If it was hidden by a smoke-screen in earlier generations, it is naked now.

The solid middle class might have to pull their belts in a notch in times of economic austerity, but they will be able to sail to safety in the lifeboat of their cash savings. Not that I blame them – let’s be clear. This is just about people surviving as best they can in a fragmented society.

Available cash is what marks the middle class from the lower-middle class below them.

The lower-middle class has the aspirations and some of the jobs, but they don’t have the cash. They exist on borrowed money. Their greatest fear is to lose their house. Their mortgages are what keep them compliant.

I didn’t mention the working class. There isn’t any working class any more. As soon as the Margaret Thatcher’s ‘Right To Buy’ scheme gave Council tenants the right to buy their rented property, the working class disappeared. They are now the lower-middle class.

Well of course there are true working class people – people with nothing to protect and only their labour to give. But they don’t constitute a class now because they are too marginalised even to recognise one another.

Mark Carney On Bank Stress Tests

Shortly after the EU Referendum vote the Governor of the Bank of England, Mark Carney, sat on a panel and explained the stress tests that British banks were dealing with in the aftermath of Brexit. I listened to the whole thing – an hour of it.

If you want to listen to it, it’s on the Bank Of England website under Publications/Financial Stability

He said the banks are able to deal with twice as much stress as they faced in the days following Brexit. And they can deal with any future shocks.

A bit previous, as you might say, is what I thought. Let’s see what the situation is in six months or a year. Brett might be a slow burn.

He also said that banks needed to make credit available.

And now I have just read the August paper from the National Institute of Economic and Social Research. It starts with a quote about the blues from Gil Scott-Heron, so it can’t be all bad.

It concludes that these are risky times, but financial markets worldwide continue to have an appetite for holding UK debt. And it says that banks need to make credit available.

As I said, we have a pseudo-middle class living on borrowed money. Mark Carney didn’t argue when one of the audience asked what he meant about banks extending credit given that the ratio of average debt to available income in the UK is 132%.

And if the average is 132%, think how high it must be for some people.

That can’t go on forever. I mean, seriously, how can it just trundle on?

And if you are in the ‘poor’ sector of the population, how can you even think about getting credit from a high-street source?

Mortgage Relief On Buy-To-Let Properties

Did you see how the Government took away the tax relief on mortgages on buy-to-let properties? That’s going to put the squeeze on those landlords who can only make their sums work when they get that relief.

They will have to sell the properties, and then those with real free cash will buy up the properties. Meanwhile, slowly but surely, those who bought their Council houses will lose their properties and the gap between the rich and the poor will widen yet more.

It really is the Enclosure Acts for the twenty-first Century.

Meanwhile the new Prime Minister talks about making this a society that is fairer and includes us all. Well I shouldn’t bitch before I see how it plays out, but I have my doubts.

My Take On This

You know the story of Nero fiddling while Rome burned? Well it seems to me that the one thing that is not taken into account in these bank stress tests is when the pips start speaking for enough people to do more than just complain.

I really shouldn’t go on about this much more, because remember that we (the UK, that is) voted for the Conservatives a second time after complaining for five years that they were terrible.

We railed against their inhumanity. We asked how they could tip invalids out on the street and deny them benefits. We said it was an attack on the three pillars of the Welfare State – health, education, and housing.

And then we (the UK, that is) voted for them again.

And what did we learn? We learned that when push came to shove, we voted for ‘I’m alright Jack and let someone else suffer.’ And all that complaining was just hot air.

So maybe Britain is genuinely immune from any action to adjust society to a fairer, more inclusive version.

United By Faith and Informed By Science

My wife pointed out that Theresa May is the daughter of a vicar and Angela Merkel is the daughter of a theologian. What insights they must have into each other – something that not a lot of other politicians can share.

And did you know that Angela Merkel was a research scientist before going into politics. She holds a Doctor of Natural Sciences for her thesis on quantum chemistry, and worked as a researcher and published several papers.

I am a sucker for education.