Finance Economics History

The Big Short: Inside the Doomsday Machine (Summary)

by Michael Lewis

In 2005, a one-eyed, socially awkward ex-neurologist named Michael Burry, who wore shorts and t-shirts to his office and listened to heavy metal music, made a shocking discovery. By poring over thousands of pages of mind-numbing mortgage bond prospectuses—the boring documents no one on Wall Street bothered to read—he realized the entire American housing market was a ticking time bomb built on a foundation of bad loans. He then convinced Goldman Sachs and other major banks to let him bet against it, a move they considered so ludicrous they happily took his money, thinking he was a fool.

The System Rewarded Stupidity

The 2008 financial crisis wasn't just an accident; it was the result of a system built on perverse incentives. From mortgage brokers to bank CEOs, everyone was rewarded with huge short-term bonuses for creating and selling risky products, while the catastrophic long-term risk was passed on to others.

A mortgage broker in Florida could sign up a strawberry picker with no verifiable income for a massive home loan, earning a hefty commission. The broker knew the loan would be bundled and sold off within weeks, making the inevitable default someone else's problem. The entire chain was incentivized to ignore quality in favor of quantity.

The Truth Was Hidden in Plain Sight

The fatal flaws in the housing market weren't concealed in a secret conspiracy. They were openly documented in the mind-numbingly dull prospectuses for mortgage-backed securities that almost nobody, including the CEOs of the banks selling them, actually read.

Investor Steve Eisman's team visited a Miami neighborhood that was ground zero for subprime lending. They found entire communities of recently-built homes that were completely abandoned and falling into ruin. The physical evidence of the housing bubble was there for anyone to see, yet Wall Street analysts remained oblivious in their Manhattan offices.

The Experts Weren't Experts

The financial crisis exposed the supposed experts—bankers, regulators, and credit rating agencies—as either clueless or complicit. They failed to understand the complex products they were selling or were incentivized to look the other way.

The credit rating agencies, Moody's and S&P, gave their highest 'AAA' safety rating to bundles of toxic subprime mortgages that were almost guaranteed to fail. They did this because they were paid by the very banks that created these assets, creating a massive conflict of interest that ultimately misled the entire global market.

Financial Innovation Created a Weapon of Mass Destruction

The heroes of the story used a niche financial instrument called a credit default swap (CDS) to bet against the market. Essentially, they bought insurance on assets they believed would fail, allowing them to profit from the collapse.

When Michael Burry first tried to buy CDSs on subprime mortgage bonds, the banks didn't even have a standard contract for such a transaction. They had to create one from scratch just for him, laughing at the oddball investor who wanted to bet on the impossible: the collapse of the U.S. housing market.

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