Sunday, 10 January 2016

The Big Short - film review

Not a secret I am fond of films inspired by the financial meltdown in 2008. Quite naturally, plenty of such films (documentaries or fictional) were shot shortly after the crisis (Let’s make money, Inside job and Margin Call just to name those reviewed on PES), yet new productions come up even seven years after the climax of the market turmoil. The Big Short, which premiered in late 2015 is one of such pictures. So yesterday, instead of joining KOD in picketing for freedom of expression in the public media, I drove to a cinema to watch Big Short in the silver screen.

The films is generally based on facts and tells the story of a handful of astute investors who predicted the collapse of the U.S. subprime mortgage market. Same old story recounted, you would say. True, and because of this you can easily guess how the film would end. Yet, the insight into the crisis is shown from a rarely highlighted angle of those who predicted it in advance and for years were scorned. This, compounded with the word “fraud” (and its derivatives) uttered several times induces a question, whether perpetrators of the crisis were mercenary, greedy bankers attempting to makes us much money as possible before subprime time bomb went off, or did they genuinely believed they had invented a perpetual motion machine.

The simple answer to the question is, I believe, straightforward. As the Polish saying goes, Siebie oszukujemy w miarę potrzeb, innych w miarę możliwości (you deceive yourself as much as you need to, while you deceive others as much as opportunities permit).

The more complicated answer draws on flawed foundations of the banking system and the principal – agent problem. Let’s consider a situation when a specific market (may there be subprime mortgages in the United States or CHF-denominated mortgages in Poland) is getting dangerously red-hot.

1. As long as the market keeps rising, your stakeholders expect you to stay on the market (US investors wanted fund managers to invest in CDOs, head offices of Polish banks wanted them to grant CHF-denominated mortgages).
2. But if the circle keeps turning and you back out, you lose clients and earn less (therefore few fund managers liquidated their exposure to subprime securities before the market subsided, therefore few banks voluntarily gave up on CHF-denominated loans).
3. When the market collapses, everyone makes roughly equal losses, so as long as you do not fall short of your peers, your stakeholders put up with your mistake, as everyone has made it (investors across the world could feel duped, but for reasons different than mortgage market downfall, head office of foreign banks have not laid off a single executive involved in aggressive origination of CHF-denominated loans, though now these mortgages as a portfolio are loss-making)
4. But when the market crashes and if you have had the courage to swim against the tide and reap horrendous profits and your bets, would it be appreciated? History gives negative answer (ever heard of elated investors extolling their fund managers for earning them 500% profits, name a bank proud today of staying away from CHF-denominated mortgages).

While you leave out the leitmotiv of the crisis, mortgages, debt, derivatives, defaults and other notions confusing for laymen, this is a film about human psyche. Big short is about having the courage to swim against the tide. In 2005 someone betting against the mortgage market was dubbed a downright moron. Despite hard facts supporting the conclusion residential housing market fundamentally was bound to fall down, speaking it out publicly was out of favour. A tough test for one’s guts to stick to what you deeply believe, while everyone else laughs them off. A tough test for one’s humility to tell nearly everyone, including renowned financiers and bankers, are wrong. A tough test for one’s investment strategy as well, since the market can stay irrational longer than you can stay liquid.

Yet, before you realise market is in a bubble, craze has rubbed off on everyone around and valuations of assets have strayed from fundamentals, you need to realise dreams cannot come true if you cannot afford them. Dream of home ownership simply must be out of reach for those who cannot afford to repay a mortgage.

The problem of the financial system is that the price to pay for taking excessive risks is too low, while the price to pay for refraining from taking excessive risks is too high.

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