I have been reading a number of books on the latest financial crisis, by a whole bunch of luminaries. Most have taken a unidirectional if not completely one-sided view; in other words, the authors, due to their professions or their particular ideology, have chosen to approach the crisis by looking through a prism of their own making. That handicap has cost many of them the ability to write a cogent and powerful analysis. As we will see, most failed – with one notable exception.
Being almost the first off the block with a book about the financial crisis even as it started unfolding on our screens in early 2008 (the MTV generation doesn’t really believe that there was a year as long ago as 2007 nor that anything important happened then), PIMCO’s investment chief Mohamed El-Erian appeared to have a winning hand in his book. Almost predictably, it won accolades including the “Financial Times and Goldman Sachs Business Book of the Year” award. (See also Show me the exit!, Asia Times Online, February 21, 2009, for the views of my colleague Julian Delasantellis.)
Imagine a doctor who was sent to review Olympic sprint champion Usain Bolt and started off by talking about his food habits (“he eats a lot”), his muscle strength and so on; imagine also that for whatever reason Bolt falls sick. The doctor will then be in a position to convert all his analysis of the factors explaining Bolt’s champion ways to those explaining his illness. In other words, having already written about the habits of champions, he will have to lay the blame for the sickness on those very habits. This will probably leave the reader perplexed at best.
That little fantastic analogy pretty much explains what El-Erian has tried to do with this book.
My suspicion is that it could well have started out life as an internal discussion paper at Harvard outlining the secular asset allocation choices of the future – that is, US bonds good, Western equities bad, Chinese stocks good, commodities good … (many endowment funds and generic pension funds are under-invested in “emerging markets”).
That’s the reason the primary thesis of the book wasn’t anything about the financial crisis per se. Rather, it was about the increased sophistication of financial markets in disaggregating risk in a time that a number of other macro factors, including the rise of China (El-Erian is always careful to phrase this as the rise of “China and India”), happened even as investors embraced new financial techniques (collectively referred to as behavioral finance, but that would be overstating it).
In effect, it is clearly a book that was concocted when El-Erian still ran the Harvard Endowment Fund and well before the financial crisis started breaking out in 2007.
Thus, when the crisis did break out, El-Erian may have been scrambling to use as much of his “previous” book as possible and essentially outlining – in almost comic fashion at one stage – how “no one” expected things to unravel as quickly as they did.
Also unfortunately for anyone not well trained in the jargon of financial markets, El-Erian’s prose may seem impenetrable. Even for those of us with reasonable familiarity of the jargon, there is something suspiciously casual about the way it is strewn around this book, almost suggesting that El-Erian would have liked nothing more than to summarize his whole book into the space of his old monthly columns in PIMCO.
The second thing that rankles is the failure to deconstruct the credit ratings process: PIMCO being a major investor in fixed income, one would have imagined that El-Erian had a few choice words to say about the rating agencies. Perhaps the choice of publisher (McGraw Hill, which also owns the rating agency Standard & Poor’s) proved to be a constraining factor.
The point isn’t an idle one: very few people in the world of investments actually have the power to change the way rating agencies operate, El-Erian is one, his colleague Bill Gross is another, as is Warren Buffett.
Buffett can be excused in this list because he manages a whole lot of companies nested within his private-equity like insurance company and because he owns a big stake in Moody’s, the other leading ratings agency. I cannot fathom the rationale for El-Erian and Gross keeping silent on the vagaries of credit ratings, though: there are a few obvious suspicions, but nothing worth going into in print.
As an aside, El-Erian may well have made a good judgment call on what to write by ignoring the rating agencies: earlier this year, McGraw Hill dropped the book Bailout Nation: How Easy Money Corrupted Wall Street and Shook the World Economy by Barry Ritholtz, ostensibly because the publisher wanted greater corroboration even as others in the media, including Ritholtz, speculated that the book was dropped because it had been overly critical of the three main rating agencies – Fitch being the third. He ended up publishing through Wiley in May; I have not read the book but intend to.
As for that little award from the Financial Times and Goldman Sachs, I can only speculate that El-Erian’s role in PIMCO – both as an advertiser/contributor to the Financial Times and as a major business counterpart for Goldman Sachs – may have swung some votes. Just a suggestion, of course.
Akerlof and Shiller are renowned economists who over the past few decades have established truly path-breaking analysis in the field of economics. Akerlof’s “user car” problem outlining the effects of asymmetric information and Shiller’s work on “irrational exuberance” in various asset markets are worth reading for their original takes on the subject matters.
Akerlof and Shiller have also written many good books. This co-authored production isn’t one of them. I argue that from the point of view of my expectations, that is, that I was thinking of a book on the financial crisis and when the title popped up it was almost a no-brainer decision to buy it.
Firstly, for all the talk of behavioral finance in the preface and through the early chapters, the authors missed a giant trick: namely the implosion of prudence in the life of an average American as credit became overly cheap, itself a result of hardworking Chinese factory workers somehow contriving to lend them 105% mortgages at effectively triple-A ratings.
After first failing to spot the global aspects of the funding situation that turned the crisis into an epic snowball, Akerlof and Shiller then miss out on the impact of the very topics of which they are experts, namely what happens when asymmetric information flows are finally overturned, or in more prosaic terms, how do people behave when they realize that they hold instruments of comfortable fiction (that is, highly rated bonds, issued by US companies, that are worth precisely zero).
None of this is to say that the “average” reader will not glean a lot of information from the book: far from it, there are numerous parts that provide lucid explanations of otherwise inaccessible topics – on financial market volatility for example, the “natural” rate of unemployment, the “money illusion” and so on.
All-in-all, this is a useful book in itself, but far too arcane and academic for readers more interested in finding out how their economies were run aground.
Any book by a significant market personality invites both expectations and some dread. From my perspective, buying a book about financial markets from the man who was held singularly responsible for a spate of currency crises in the 1990s seemed initially to be a bit of a difficult choice.
One would half expect that a ruthless hedge fund trader like George Soros would simply stick a nice picture on a hardcover book and sell it for US$20, leaving the buyers with an otherwise blank book. As it turned out, by actually putting words into the book he does a whole lot worse.
Don’t get me wrong. Soros is clearly a gifted trader with razor-sharp intellect, an ability to combine a comprehensive macro view with the excruciating levels of details that are required to actually make money from those views. That much is clear.
What is left for readers to puzzle over is that the basic precept of the book – reflexivity – is itself based on an interpretation of the works of Karl Popper as applied to mass financial markets. This is dangerous ground for anyone, not the least for someone like Soros who actually has a history of making money at the expense of more traditionally oriented economic and financial modeling of answers.
The linkage between reflexivity and crisis isn’t established in the liturgical but rather through the use of colloquial, thus rendering visions of the apple falling on Newton’s head rather than the more determined pursuit of a rational explanation in the fashion of David Hume.
Having established that actions by individuals have reactions from other individuals, another of Newton’s laws that stands as a simpler albeit patent-free explanation of reflexivity, Soros then ties himself up in knots by suggesting that the global financial system has created too many inflection points for itself – in effect conjuring up a permanent state of crisis.
The problem with that explanation is that the global financial system isn’t a self-contained organism but rather one that transmits the financial flows of the global economy while layering the process with increasingly complex instruments with which to hood its own profitability.
Secondly, the explanation fails in this case because demand for the complex financial products created by Wall Street came from new, rather than established, sources – that is, an exogenous fault line that hadn’t been fully absorbed into the world of financial decision-making; the very factor that Soros discards as irrelevant.
Lastly, this book was perhaps the most difficult for me to read in terms of both the sheer verbosity as well as the apparent circular logic employed. There were many points at which I asked myself, “Hasn’t he mentioned this already?”
It makes an ideal gift for one’s mother-in-law, to put it kindly. (See also Tarnished ‘truth’, Asia Times Online, August 2, 2009.)
First off, I must admit to having a lot of admiration for Janet Tavakoli. Despite her frequent appearances on television, she is an intelligent analyst whose command of the arcane world of securitization mixed with a brutally honest analytical framework makes it a pleasure to hear and read her work.
Dear Mr. Buffett is styled on the romantic Persian novels of yore (“Tavakoli” is the name of the author’s Iranian husband, whom she divorced a while ago), wherein chaste love is expressed through flowery prose in letters exchanged between the paramours. What Tavakoli and her “mentor” Buffett discuss are more mundane matters such as the true value of securitization and the unconstrained risks within; this does have the unfortunate effect of making the discussions more predictable.
I found the book enjoyable in terms of the outlining of key stories that broke over the course of 2007-08, and the background information contained on the specifics of what some investment banks had been selling. The book also provides an informative timeline of what happened through the phases and the apparent warning lights that arose during the period.
The biggest failing of the book is that soon it reads like the peer review of two class-toppers, sharing some private jokes about the less fortunate around them. That’s not to suggest the book is mean-spirited, far from it, but that there is no actual digging into the decision-making process of those who bought and sold these arcane securities; instead, the points of view are of those who did not participate in the market at all but rather stood on the outside warning about the risks.
Another weakness of the book is Tavakoli herself: being the author of the well-respected Collateralized Debt Obligations and Structured Finance: New Developments in Cash and Synthetic Securitization, which was last updated in September 2008, the question of why she wasn’t more forthright about industry risks previously does linger even after one finishes reading the book with Buffett.
She obviously did a great job in explaining risks, valuations and so on in numerous media interviews during the 2007-08 period; those transcripts could have well proved good additions to this book.
As with the works of other authors who have previously written good books on financial matters, I approached Gillian Tett’s latest book with some expectations of a good summary. After all, the person behind the wonderful Saving the Sun couldn’t possibly flub a book about the most important banking crisis of our time, I thought.
And she didn’t disappoint to start off. Writing in clear prose, Tett explains the risk processes that led to the expansion of the credit derivative world since the earlier part of this decade. Through much of the book, her ease with the subject matter is apparent, as is the comfort in knowing the key players (always a risk for financial journalists who are close to but not actually inside the action).
Unfortunately, Tett chose a format not entirely dissimilar to that of Tavakoli as previously reviewed, that is, the vantage point of someone not participating in the market madness. This approach has its risks, as I outlined above, not the least of which is the sheer uselessness of the “I told you so” crowd when things actually do go wrong. Since they all along expected things to go wrong, it stands to reason that they wouldn’t exactly know what to do about the blow-up either.
While Tavakoli chose to speak through Buffett, Tett chooses to speak through the world of the storied banking institution JP Morgan and in particular a close-knit team of individuals who essentially invented the market for collateralized debt obligations (CDOs) and then, amazingly, failed to make the most money out of it – they did end up losing the least, which is what the book is really about.
There are many parts of the book that read quite badly; indeed the kind of hero-worship that permeates Tett’s description of the house of JP Morgan and its main personalities does not have much place in this book (but if it was Tett’s intention to show a human face to the world of credit risk modeling she certainly succeeds).
Also left unsaid is that the major reason for the house of JP Morgan not embarking on a blistering pace of selling CDOs wasn’t so much their intellectual scruples (perhaps) but the sheer math problem associated with calculating the risk of residual positions.
Ironically, the much-derided value-at-risk (VaR) methodology (see my review of Black Swan by Nicholas Nassim Taleb – Of black swans and greedy oilmen, Asia Times Online, January 5, 2008) was invented in JP Morgan to express position risks across all market desks into a single metric; this measure failed to capture the outstanding risks of unsold portions of CDOs on the books of JP Morgan because there were no market prices for what has not defaulted or had a very, very low probability of default.
Rather than taking on risks that couldn’t be properly explained to senior management, JP Morgan traders sat out the market for CDOs (actually, most of them left to join other companies, taking with them the technology for making the same product at other banks).
Between that gap, and the unwillingness to explain the more arcane risks of securitization (such as supersenior tranches) in good detail, Tett’s book leaves one with the notion that a lot of material was left at the copy editor’s table.
To the old adage “Do not judge a book by its cover”, I will add “Do not buy a book based on its spine”, especially not when you are rushing to board a plane. This is what happened to me; the name “Michael Lewis” immediately brought up the idea of the author of Liar’s Poker exercising himself in explaining the latest financial crisis. The name of the book Home Game also seemed appropriate, for who else but a former bond salesman could think of the game theory aspects of the US housing market.
Well, I was wrong: the book is about the experiences of parenthood that Lewis wants to share with the rest of us. It is a funny little book (with emphasis on the “little”) but doesn’t have anything to do with the financial crisis.
There is also a section on voluntary emasculation towards the end of the book. I am not sure if Lewis intended this to be some sort of warning sign for America’s position in the new world order, but I rather wish he would give us his thoughts on the matter in his next book.
Having gone through all the above books, I approached Meltdown with low expectations. As it turned out, this is perhaps the best of the batch, and I am not saying that just because of my own subscription to the Austrian school of economics.
Indeed, having just finished reading the book as I set out to write this, I would say this was the only title that inspired me to write a review – thereby also requiring a contrast with all the other books mentioned herein. Why then the shortest review for the book I liked the most? Well, because it is so good that I simply cannot put a finger on exactly what is the most excellent bit.
The subtitle of the book A free-market look at why the stock market collapsed, the economy tanked, and government bailouts will make things worse should pretty much read as the manifesto of topics expressed in the “Chan Akya” column over the past few years whenever economic issues were discussed.
There are certainly many aspects of the book with which I disagree: the notion of eliminating the US Federal Reserve for example, which I believe is impossible in practice (although the idea of severely restricting its ability to print money willy-nilly has always been close to my heart); the idea that governments will not to be tempted to take short cuts even if that ends up hurting longer-term prospects is another such (because I actually have dealt with government officials and there is no illusion in my mind about what they are capable of).
Still, the book forms an excellent reading source for anyone interested in financial markets and much more so for anyone interested in learning about capitalism without all the misinterpretations being thrown about in the financial media.
When Markets Collide: Investment Strategies for the Age of Global Economic Change by Mohamed El-Erian. McGraw Hill Professional; May 2008. Price: US$27.95, 304 pages.
Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism by George Akerlof and Robert Shiller. Princeton University Press; February 2009. ISBN-13: 978-0691142333. Price: US$24.94, 264 pages.
The New Paradigm for Financial Markets: The Credit Crisis of 2008 and What It Means by George Soros. PublicAffars; May 2008. ISBN-10: 1586486837. Price: US$22.95, 208 pages.
Fool’s Gold: How Unrestrained Greed Corrupted a Dream, Shattered Global Markets and Unleashed a Catastrophe by Gillian Tett. Little, Brown; May 2009. ISBN-13: 978-1416598572. Price: US$26, 304 pages.
Home Game by Michael Lewis. WW Norton & Co; May 2009. ISBN-13: 978-0393069013. Price: US$23.95, 192 pages.
The New Paradigm for Financial Markets: The Credit Crisis of 2008 and What It Means by George Soros. PublicAffairs, 2008. ISBN-10: 1586486837. Price: US$22.95, 208 pages.
Meltdown by Thomas E. Woods Jr. Regnery Publishing, February 2009. ISBN: 978-1596985872. Price: US$27.95, 194 pages.