Sunday, May 18, 2014

That never ending 20/20 hindsight

Academics and market pundits continue to take a look back and explain how everything was done wrong.  What is referred to here?  Of course it's the mortgage market collapse that precipitated a financial liquidity crisis and led to the great recession.  This flow of second guessing seems to be never ending.

The NYT reports today that two top academics, one from the University of Chicago and one from Princeton, published yet another book , "House of Debt", analyzing the crisis and explaining how it could have been foreseen earlier and could have been handled better.  In their photos they look proud.  Enough already, it has been 7 years since this problem began to become visible and already more than five years since the full collapse happened.  Couldn't they have shared their wisdom a little sooner.  Sorry, I forgot, they are tenured academics, not in the fray and not interested in getting their hands dirty.

In all of this non-stop chain of commentaries on the crisis there are a number of major issues missing.  First, a real crisis is something that happens in real time, as in real stupid fast time.  My time in the cross hairs of banking spanned the 1990-1991 real estate, energy, and sovereign debt fueled recession, the '97 Asian foreign exchange crisis, the '98 Long Term Capital Management collapse that inspired a global credit liquidity crisis, and the collapse of the technology equity boom, and my view is that the most dangerous of those the events by far was LTCM.  Fielding unanswerable questions in my office that October 1998, and watching top executives traipse down to the New York Fed every morning and not come back until, at best, late evening, was unsettling.  Global credit markets were moving toward complete gridlock, and in fact already in a day by day seize up.  There was no guarantee that this would work out, none whatsoever.  Finally almost all of the major banks came to a compromise agreement, not cheap, on how to backstop the situation.  There was one major holdout, Bear Stearns.  Was Jimmy Cayne smoking pot and playing bridge?  Oh well, one could guess they eventually got their comeuppance. 

The best decisions are not always made in this type of environment which would certainly include some aspects of 2008, but if those decisions kept the markets flowing one more day, week, month, year, for that time frame they worked.  That's one aspect that these 20/20 hindsight books have no concept of it seems here.

A second barometer of how this market collapse was simply not anticipated could be seen in tracking the investments of major institutional investors and mutual funds.  Much hedge fund data is not available.  What one will see is that many astute investment managers and highly rated investment firms with strong track records stayed invested fully for too long and not intentionally.  There are many reasons for that but a major one was that even most smart investors had no idea until it was too late that $60 billion of credit default swaps were written against $2 billion of securitized sub-prime mortgages.  That issue was written about here ad nauseum here in 2008 and 2009 so will say no more.  The problem of lack of transparency in and availability of this type of derivative still exists believe it or not.  How many academics had any idea of this problem at the time.  None one could guess, but that 20/20 thing is sure nice.

Eyes Not Sold first wrote about a pending mortgage default problem on 2/07/06 and again on 8/24/07, and many more times after.  Of course those posts were suggesting that it would or could lead to a mild recession.  Things got far worse.  There are many more reasons for this beyond the two points discussed above, but they seemed to work well for my purpose here.



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