Being interested in finance and more specifically, how the financial collapse of 2008 happened, I picked up this book and could not put it down. It’s an easy read, doable within a day or two. The Big Short–for those who haven’t seen the movie– explores different investors who bet against, and profited greatly, from the financial crisis. The most striking conclusion from this book is that of incentives. Incentives drive behavior and the misalignment of incentives surrounding mortgage lenders, rating agencies, and banks led to disaster.
There is plenty of financial jargon within, well suited for those who get off on this type of nonsense like myself. For example: The pay option, negatively-amortizing adjustable-rate mortgage. Any takers for how this works? Does this monstrosity of a financial product get you as jacked as it gets me? I doubt it. This type of mortgage allows you to pay nothing! And roll the payments back into the principal balance of the loan hence the negative amortization schedule, from there, you also have an adjustable rate that adjusts higher after the first few years of your loan where you are only paying the “teaser rate” (a perverse incentive that made financially illiterate borrowers feel as though they could afford more house then they actually could). After a few years, the teaser rate expires and your rate adjusts to where floating interest rates sit. At this point, your loan balance has grown because of the pay option and the deferred payments begin to become due. The average home borrower looks at the mortgage statements and payments due and thinks eloquently: “what the fuck does this shit mean?” at which point they call their mortgage broker (who gets paid by loan volume) and asks them what to do. The cunning broker–who makes more than a doctor–has a life saving idea: “Lets refinance your mortgage based on your new higher home value, because home values only go up.” To which the borrower who may or may not have a job says, “Why not! Home prices just go up so I can just refinance again down the line.” Seems crazy now, but this type of behavior was just the tip of the iceberg in The Big Short.