Study Guide

The Big Short: Inside the Doomsday Machine Chapter 4

By Michael Lewis

Chapter 4

How to Harvest a Migrant Worker

  • It wasn't Lippmann who turned AIG around, however.
  • In 2005, an AIG FP analyst named Gene Park first begins realizing that the subprime mortgage market is baloney, and that the credit default swaps they're selling are going to kill them.
  • Unfortunately, Park's boss Joe Cassano tears him apart for speaking up. Seems like Cassano has a reputation for this kind of thing.
  • Near the end of 2005, Park does some more research and learns that 95 percent of the CDOs they insure consist of subprime mortgages. Everyone he works with—including the bosses—thinks that it's 10-20 percent tops.
  • Cassano is again hesitant to accept this news, but he relents after meeting some Wall Street bond traders who are clearly idiots. No more credit default swaps for AIG FP.
  • Though they've stopped selling swaps, the folks at AIG FP don't do anything to offset their risk, like buying some swaps themselves. Lippmann thinks that this could sink the market.
  • Despite this chaos, the subprime market continues to grow, which means that Lippmann's bosses are increasingly inquisitive about his huge losses. Still, no one takes his sales pitch…until he accidentally meets with Eisman and his partners at FrontPoint, that is, which we saw at the beginning of last chapter.
  • In all of his pitches, Lippmann has never met anyone more knowledgeable about the subprime market than these guys.
  • Like we said before, everyone is skeptical of Lippmann's motives. Lippmann has an answer for everything, however.
  • Before a decision is made, Standard & Poor's (a rating agency) announces that they're going to change the way that they rate subprime mortgage bonds in a few months.
  • This news creates a massive rush to create new subprime bonds, as any created before that date (July 1, 2006) will still be rated under the old, easier model.
  • In addition, home prices begin to fall nationally all throughout 2006. Despite both of these factors, the subprime market chugs along like nothing happens.
  • Believe it or not, credit default swap prices are actually dropping.
  • With that, Eisman and his bros finally have the push they need to finally make the deal. As an added bonus, Lippmann invites them to his "long and growing e-mail list" (4.37). Yay?
  • Now that they're in the game, our boys take a closer look at "the people doing the borrowing and lending" in subprime market (4.40).
  • The guys learn that most subprime mortgages are in the "sand states: California, Florida, Nevada, and Arizona" (4.40). They also learn that these mortgages are provided by a select group of companies.
  • What's more, these companies seem to specifically target low-wage immigrant workers who, due to their fresh immigration status, have high credit scores despite minimal income.
  • But none of this would be possible without the failure of the rating agencies, Moody's and Standard & Poor.
  • One of these agencies' biggest failures is using FICO scores to measure an individual's creditworthiness, which is a type of credit report that can easily be manipulated by consumers.
  • FrontPoint still isn't satisfied, so Vinny and Danny travel to Orlando for a "subprime mortgage bond conference" (4.48). It's way bigger than they expected.
  • There, Lippmann introduces the guys to workers from Moody's and S&P. It's clear that no one within the ratings agencies understands the consequences of their lax ratings system.
  • Everyone is psyched because they're being proven 100% correct. They decide to go to the big subprime mortgage conference in Vegas later that year.