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Dr. Michael Burry, founder of investment fund Scion Capital, is one of a handful of individuals who grasped the destructive nature of the subprime mortgage backed securities market and saw the approaching economic train wreck some three years before the 2008 crash, making himself and his clients rich as a result. As he characterizes it, “I had bet against America and won.”
In this week’s video selection, Burry speaks to the 2012 graduating class of the University of California Los Angeles Department of Economics. While it is hardly the typical, uplifting college commencement speech, it is typical Burry—uncomfortably blunt, honest and pessimistic.
As described by Michael Lewis in his 2010 book The Big Short: Inside the Doomsday Machine, Burry became rich by delving deeply into the exotic, almost unbelievably risky new securities that were composed of thousands of bad mortgages, sold by the original lenders to financial firms, then bundled and “sliced” into tranches and sold to investors. The resulting product, the composition of which only the bond desk at the financial firms understood, was rubber-stamped by the ratings agencies, who work for the financial firms, and sold to investors, with the financial firms raking in the fees. The appetite for the new products incentivized the lenders to make increasingly shady loans, loans with low teaser interest rates that would reset in two or three years. Once the rates reset, the lenders thought, they would make more money refinancing the loans. Incredibly, once the market for the sub-prime mortgage bonds was booming, the worst-performing loans—those made with no or fraudulent borrower documentation, zero down payments and zero interest for the initial loan period—were lopped off the bottom of the sub-prime bonds, repackaged into yet another product called a CDO, or collateralized debt obligation, the top tranches of which, incredibly, were given AAA ratings. If it all sounds unbelievable and surreal, it is, and The Big Short is worth reading just to get an idea of how far off the rails the financial industry run and how incredibly unworthy they are of the taxpayer-funded rescue they received—funded by the very pensioners and mutual fund clients whose personal wealth was decimated when the whole house of cards collapsed.
But back to Burry. Unlike most investors, Burry had the obsessive nature that made tasks like reading financial prospectuses and ferreting out the obscure details of all these strange new securities fun. Burry lost an eye to cancer as a child and was consequently ostracized and bullied growing up. As an adult he was socially awkward and had difficulty with interpersonal interactions, a fact he always attributed to his glass eye. It was not until his son was diagnosed with Asperger’s syndrome, a form of autism, that Burry recognized the same characteristics in himself that his son was exhibiting. Among those characteristics was the ability to be singularly, obsessively devoted to research of specific topics, and even to be emotionally comforted by the intense research. A med school graduate, Burry began investing small sums and blogging about his trades during his medical residency, as he far outperformed the S&P. Although he couldn’t tell exactly who was reading him, he began to notice some readers from the big financial firms. He quit medicine and decided to become a fund manager. He inherited a little money upon his father’s death, and other family members gave him a few tens of thousands more. He launched Scion Capital. Almost immediately, he got calls from a couple of funds offering to invest in Scion and give him a few million to manage to boot.
When Burry encountered subprime mortgage-backed securities, he was initially incredulous. He began searching for a way to short the market. At that time, although credit default swaps—basically insurance products designed to allow investors to purchase insurance on their bets for pennies on the dollar—had been invented back in the 1990s, no one was selling CDSs on the subprime mortgage bonds. Burry started going from financial firm to firm asking to purchase them. Eventually he found someone willing to sell them. In time a lot of them were sold, to folks like Steve Eisman and a small investment firm called Cornwall Capital, and a few others who saw what was happening and bought as many as they could afford. Those holding CDSs on subprime mortgages subsequently profited immensely.
In 2010, Burry wrote a New York Times op-ed piece in which he asked, if he saw the crisis coming, why didn’t the Federal Reserve? It was not well received by the financial establishment.
Having said all this, if one believes Dr. Michael Burry has a pretty straightforward and realistic view of the financial system, his UCLA commencement speech is not too uplifting. In fact, you may say to yourself, they asked this guy to speak to the graduates why? It was an education doubtless few of them got in school.
“You started your term at UCLA in the midst of a financial panic,” Burry told the grads, “the global consequences of which are far from settled.
The projection comes not from him, Burry clarifies, but from the Congressional Budget Office. “Me, I think they’re ignoring reflexivity,” he says, “and I think you face both.”
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