Author: Michael Lewis
Rating: 9/10
Last Read: September 2016

Quick Summary: I was inspired to read this book after seeing the movie and I wasn’t disappointed.  The movie provides a concise summary of the events in the book, so if you’re just looking for the cliff notes version you can safely stop there.   However, the book is worth reading as much for the basic financial background as for the insights into human nature.  There are many examples of how ego and greed prevented people from recognizing the danger of the situation they were creating.

Lewis provides for the layman much needed insight into the market crash of 2007-2008.  The short summary is: greed, shortsightedness, and trust in the ratings agencies lead everyone to believe that they were making boatloads of money on mortgage-backed securities.  In reality, everyone was giving out shitty loans that were bound to default, nobody was doing their due diligence, and only a few people recognized and capitalized on the situation.

They actually spent time wondering how people who had been so sensationally right (i.e., they themselves) could preserve the capacity for diffidence and doubt and uncertainty that had enabled them to be right. The more sure you were of yourself and your judgment, the harder it was to find opportunities premised on the notion that you were, in the end, probably wrong.

One of the most illuminating quotes from this book refers to a talk given by Charlie Munger on incentives:

Back in 1995, Munger had given a talk at Harvard Business School called “The Psychology of Human Misjudgment.” If you wanted to predict how people would behave, Munger said, you only had to look at their incentives. FedEx couldn’t get its night shift to finish on time; they tried everything to speed it up but nothing worked—until they stopped paying night shift workers by the hour and started to pay them by the shift. Xerox created a new, better machine only to have it sell less well than the inferior older ones—until they figured out the salesmen got a bigger commission for selling the older one. “Well, you can say, ‘Everybody knows that,’” said Munger. “I think I’ve been in the top five percent of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes but I get some surprise that pushes my limit a little farther.”

My Highlights

A thought crossed his mind: How do you make poor people feel wealthy when wages are stagnant? You give them cheap loans. –loc 328

“Someone asked him if he believed in the free checking model,” recalls Eisman. “And he said, ‘Turn off your tape recorders.’ Everyone turned off their tape recorders. And he explained that they avoided free checking because it was really a tax on poor people—in the form of fines for overdrawing their checking accounts. And that banks that used it were really just banking on being able to rip off poor people even more than they could if they charged them for their checks.”
Eisman asked, “Are any regulators interested in this?”
“No,” said Sandler.
“That’s when I decided the system was really, ‘Fuck the poor.’” –loc 405

When a Wall Street firm helped him to get into a trade that seemed perfect in every way, he asked the salesman, “I appreciate this, but I just want to know one thing: How are you going to fuck me?” –loc 445

They measured risk by volatility: how much a stock or bond happened to have jumped around in the past few years. Real risk was not volatility; real risk was stupid investment decisions. –loc 721

Back in 1995, Munger had given a talk at Harvard Business School called “The Psychology of Human Misjudgment.” If you wanted to predict how people would behave, Munger said, you only had to look at their incentives. FedEx couldn’t get its night shift to finish on time; they tried everything to speed it up but nothing worked—until they stopped paying night shift workers by the hour and started to pay them by the shift. Xerox created a new, better machine only to have it sell less well than the inferior older ones—until they figured out the salesmen got a bigger commission for selling the older one. “Well, you can say, ‘Everybody knows that,’” said Munger. “I think I’ve been in the top five percent of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes but I get some surprise that pushes my limit a little farther.” –loc 742

He didn’t know exactly why all these banks were suddenly so keen to buy insurance on subprime mortgage bonds, but there was one obvious reason: The loans suddenly were going bad at an alarming rate. Back in May, Mike Burry was betting on his theory of human behavior: The loans were structured to go bad. Now, in November, they were actually going bad. –loc 975

Here was a strange but true fact: The closer you were to the market, the harder it was to perceive its folly. –loc 1399

He was surprised that Charlie and Jamie, both now so alive to the possibility of dramatic change in the financial markets, were less alert and responsive to the possibilities outside those markets. “I’m trying to prepare myself and my children for an environment that is unpredictable,” Ben said. –loc 1814

“I realized, I have to sell my house. Right now.” His house was worth a million dollars and maybe more yet would rent for no more than $2,500 a month. “It was trading more than thirty times gross rental,” said Ben. “The rule of thumb is that you buy at ten and sell at twenty.” In October 2005 he moved his family into a rental unit, away from the fault. –loc 1823

They actually spent time wondering how people who had been so sensationally right (i.e., they themselves) could preserve the capacity for diffidence and doubt and uncertainty that had enabled them to be right. The more sure you were of yourself and your judgment, the harder it was to find opportunities premised on the notion that you were, in the end, probably wrong. –loc 3512

“I think there is something fundamentally scary about our democracy,” said Charlie. “Because I think people have a sense that the system is rigged, and it’s hard to argue that it isn’t.” –loc 3516

The main effect of turning a partnership into a corporation was to transfer the financial risk to the shareholders. –loc 3808