Study Guide

The Big Short: Inside the Doomsday Machine Chapter 1

By Michael Lewis

Chapter 1

A Secret Origin Story

  • Coincidentally, Eisman got into finance just as Lewis was getting out. He was a Harvard graduate who hated his job as a corporate lawyer, so his parents got him a job at the financial firm Oppenheimer, where they worked. Of course they did.
  • Eisman starts as an analyst focusing on the mortgage industry and earns a reputation as a no-nonsense guy, which seems to be a rare thing around these parts.
  • A lot of bigwigs despise Eisman for his no-nonsense attitude, but an equal number of people love him for it, especially because he tends to stand up for the underdog (again: rare, especially on Wall Street).
  • Before we continue, we need to discuss the concept of the "mortgage bond," which was only invented about ten years before Eisman joined the industry (1.15). These things are pretty simple at first glance: they consist of a bunch of regular people's mortgages bundled together and sold as a package.
  • Basically, owning a mortgage bond entitles the holder to receive all of the payments on those mortgages. Makes sense, right? Um, we're not so sure.
  • Mortgage bonds weren't considered good investments for a long time, but some dudes at Salomon Brothers cooked up a plan. Bonds would be divided into equal sections, called tranches, and organized in terms of quality. Investors would then simply purchase individual tranches, with riskier, long-term mortgages providing a better risk/return ratio in terms of $$$.
  • (No probs if you don't understand this yet—we'll be coming back to it quite a bit.)
  • At first, mortgage bonds consisted of high-quality mortgages that were guaranteed by the government. Now, however, the quality of those mortgages is declining—yet the mortgage bond business is booming. This reflects a growing trend: finance companies are buying and selling the small debts of ordinary Americans.
  • Additionally, there is a massive boom in "subprime mortgage lending," which is supposed to help ordinary people reorganize their debts with lower interest rates (1.20). Haha, right.
  • Steve Eisman helps a lot of subprime mortgage companies go public (i.e., join the stock market), naively believing their rhetoric. But "then something changed" (1.20).
  • We shift our focus to Vincent Daniel, a working class kid from Queens who joins Salomon Brothers as an accountant. He eventually gets a job with Eisman at Oppenheimer and Co.
  • Little did Daniel know that Eisman just went through a personal tragedy: the death of his son Max. The people close to Eisman say he became much more cynical after this event.
  • When Vinny starts at Oppenheimer and Co., Eisman orders him to dive deep into the subprime market. Moody's, a ratings agency that analyzes the finance industry, has recently begun tracking subprime mortgage bonds, though the information they're presenting is quite vague.
  • Vinny's findings? This stuff is shady. Subprime mortgage companies are recording hefty profits, but they don't disclose the "delinquency rate of the home loans they were making" (1.29). In other words, they don't reveal the percentage of those mortgages that are going unpaid.
  • With research, Vinny learns that delinquency rates are sky high, especially among mobile home buyers. This thing is a big scam.
  • Armed with this information, Eisman starts publicly critiquing and downgrading subprime mortgage companies. He releases a report in September '97 that rips them to pieces.
  • In 2002, Eisman leaves Oppenheimer and joins a hedge fund called Chilton Investments. Although they promise to let him handle funds, they quickly push him back into an analyst role.
  • While in this position, Eisman looks at the books of the Household Finance Corporation, an "ancient consumer lending giant" (1.36). He discovers that they trick consumers into taking awful thirty-year mortgages by disguising them as fifteen-year mortgages. That's messed up.
  • Eisman becomes obsessed. His work takes on a political, almost socialistic tone, and he starts comparing himself to Spider-Man and various other friendly superheroes.
  • In 2004, Eisman decides to put his money where his mouth is and start his own hedge fund, FrontPoint Partners, with support from Morgan Stanley. The only problem is that no one wants to give him money.
  • After finding $50 million (which isn't all that much), Eisman puts together a team. He grabs Vincent Daniel from Oppenheimer, as well as two dudes named Porter Collins and Danny Moses.
  • As you might imagine, these guys focus on the subprime market. By 2005, it has grown into a half-a-trillion-dollar industry, impacting every corner of the financial market.
  • Eisman doesn't know how yet, but he thinks that he can make a boatload of money off of this knowledge.