We are living in the most reckless financial environment in recent history. Arcane credit derivative bets are now well into the tens of trillions. According to Charles R. Morris, the astronomical leverage at investment banks and their hedge fund and private equity clients virtually guarantees massive disruption in global markets. The crash, when it comes, will have no firebreaks. A quarter century of free-market zealotry that extolled asset stripping, abusive lending, and hedge fund secrecy will come crashing down with it.
The Trillion Dollar Meltdown explains how we got here, and what is about to happen. After the crash our priorities will be quite different. But things are likely to get worse before they better. Whether you are an active investor, a homeowner, or a contributor to your 401(k) plan, The Trillion Dollar Meltdown will be indispensable to understanding the gross excess that has put the world economy on the brink—and what the new landscape will look like.
informative and balanced book This book looks at the roots of the current Credit crisis, starting in 1980s with full embracing of Free Markets and Deregulation. It explains everything in the context of the two periods, pre-1980s era when Govt regulation was prevalent and post-1980s era of Deregulated and Open Markets.
Recently, I completed reading Alan Greenspan's book "Age of Turbulence". It is interesting to see how this book from Greenspan's book, since Greenspan is a strong cheerleader for Unregulated Free Markets. This book takes a more balanced look, acknowledging that Free Market principles contributed to the economic booms of 1980s and 1990s while asserting now the pendulum has swung too far and it is time to have more regulation for financial markets.
Most of the book is interesting to read, except at some points where author goes into nitty-gritty details of things like Mortgage Backed Securities and Collateralized Debt Obligations. But, they are important for understanding the current Credit Crisis. One thing that makes this book more authentic and balanced may be, Author doesn't seem to come from any particular ideology like conservative or liberal.
One important take away after reading this book is, the current Credit crisis is much broader and deeper in its impact than any of the previous crises like 1987 Stock market crash or 1994 Savings and Loan crisis or 1998 Long term Capitol crisis. It is kind of scarier to see the depth of the current problem.
Good Basic Survey There are a number of books available offering accounts of the current credit-debt meltdown. Morris' is a slim book minus the usual graphs and charts. The style is easy and readable; however, I doubt that he presents any new material or conjectures that would shed light beyond the many other book-length discussions. There appears to be a consensus on the basic facts and causes of the debacle ( financial deregulation, an easy credit Fed, et al.), and so far as I can determine, the author doesn't depart from that consensus in a significant way.
Morris does suggest a 30-year cycle of macro-polcy, alternating between periods of regulation and de-regulation as first one approach remedies the flaws implicit in the other before exposing its own inherent defects. In his view, we're now entering a period of re-regulation following the market abuses by the credit industry and financial speculators. Of course, such a cyclical theory is valid only so long as the underlying dynamic remains intact, so it might be useful to compare Morris with Kevin Phillips' much darker view of American capitalism in his most recent book Bad Money.
Anyway, the book does provide a fairly brief and informative survey of the meltdown, at the same time a basic literacy with how markets work is assumed, so prospective buyers should be aware. Nonetheless, no book that offers the provocative insight that economics more closely resembles ideology than science can afford to be overlooked.
Excellent analysis of the current situation This is the best book on global finance I have ever read. At first, the title of the book turned me off as it seemed like a marketing driven exaggeration. But, the author defines this potential $1 trillion meltdown in well supported details. On page 130, a table outlines where this estimated trillion dollar loss comes from. About $450 billion will come from the Subprime crisis that has monopolized the headlines. But, he anticipates another $345 billion will come from corporate debt (junk bonds and leveraged loans). The remainder will come from commercial real estate MBS and credit cards securitization. He estimates only 1/3 of the meltdown will come from direct credit losses (defaults). The other 2/3 will come from drop in market values of securities because of rising credit spreads as the credit risk will have materialized in the same asset category.
The author explains with clarity the cryptic language of modern finance including its incomprehensible acronyms (in addition to CMOs, I am thinking of SIVs, ABCPs, SVs, etc...). Not only has he defined all those terms; but, he explains the purpose of those instruments and their risk ramification.
He outlines the circular cash flows of global finance. The U.S. off-shores manufacturing to China. As a result, the U.S. runs large trade deficits. China's central bank accumulates over $1.2 trillion in dollar reserves. Similar trading and $ reserve accumulation patterns occur in Japan, Russia, and Saudi Arabia. In the past, those exporting countries were happy to reinvest their $ reserves into US Treasuries. That's the savings glut that allowed the US economy to keep trucking thanks to low long term rates. But, the author thinks this party is over because those exporting nations are tired of investing their dollars in US Treasuries that steadily depreciate due to the decline of the dollar. Now, those countries are diverting their dollar reserves to Sovereign Funds that are diversifying investments into US equities including large positions in major American banks, investment banks, and private equity funds. This has material implication for the dollar, the future path of long term interest rates, US GDP growth, and the control the US financial sector. But, the author may have overlooked some positive implications as those Sovereign Fund investments should lower the cost of equity capital and boost the equity cushion within our financial system to withstand greater default losses associated with the $1 trillion meltdown.
The author explains why the whole financial system is vulnerable. He talks of an inverted pyramid when considering that total financial instruments outstanding stand now at 4 times global GDP (vs only 1 x just a few decades ago). Additionally, derivatives stand at 10 x GDP. He looks at those multiple as a form of leveraging our world economy with interconnected financial claims. The financial system relies on its ability to create tranches of securities with unprecedented level of risk (like the equity tranches in MBS that absorb most of the default). The Hedge Funds are the main buyers of those maximum risk tranches. The author explains that such tranches in essence leverage the risk sometimes up to 20 times what the risk on an overall portfolio would be. But, the hedge fund itself is leveraged 5 times resulting on a risk leverage of 100 to 1 on those tranches. In other words, he states that many hedge funds could be wiped out if an MBS portfolio could incur defaults of just 1%. And, the same is true with similar financially engineered structures with commercial real estate, corporate debt, and credit card securitization.
I hope the author has overlooked the discount or hair cut hedge funds take on their risky investments. He mentions in the book that those discounts are as high as 40%. If that is the case, the hedge funds could withstand losses of up to 3% of the overall portfolio instead of just 1%. That's a big difference. The author does mention that hedge funds do not build reserves on their balance sheet; but, hopefully he would have overlooked their potentially netting out the discount as reserves on the asset side of the balance sheet while the author was just looking at the right side where equity is. But, if the author is right (and I am wrong), we are in big trouble.
The author recalls that when Long Term Capital Management (LTCM) failed in 1998, it was resolved by its creditors. This was a $100 billion fund with a value at risk of $10 billion. The author mentions that today's value at risk within the system is 100 times that (his notorious $1 trillion meltdown), and no group of institutions is large enough to resolve such a large risk. If you want to study the related LTCM situation, I recommend the excellent When Genius Failed: The Rise and Fall of Long-Term Capital Management.
The author offers a few interesting recommendations. We should boost regulation of the financial sector. That would entail regulating hedge funds, mortgage brokers and other financial intermediaries that currently escape any safety and soundness capital requirements. He also suggests reforming health care. He does not offer a specific solution; but, he simply states that our payroll funded health care is unsustainable as it represents such a competitive disadvantage in a globalized marketplace. If you want to study similar issues but from a political science perspective, I strongly recommend The Post-American World.
Good read for a novice in the financial industry Though it took me a while to understand some of the math in this book, I found it quite intriguing and for the most part, quite readable. Morris indentifies various factors that will lead to the collapse of the financial markets but mainly he suggests that all these scams that are out there used by hedge funds, banks, and other equity firms are simply asking for trouble. He indentifies the derivatives markets, siv's, lax credit practices, and loose regulation as the main culprits in the pending disaster. Interesting though that this process did not start with the George Bush administration. Instead, it has it origins with the Nixon administration with the free floating dollar and only escalated during the Reagan administration and into the 1990's. Morris also places blame on the Chicago School of thought, which advocates no government regulation for all the dubious financial instruments in the market today. Though he expects about 1 trillion dollar loss in the asset market, this number is being very very conservative. Given the absolute lack of market oversight, Morris argues that we come to a point in our country's history where we will have to return to a system of regulation due to consequences that will shortly follow.
I agree with his suggestions about market oversight even though I am more of a limited government type person. Though we may have slight differences in ideology (if any), I found his book to be a good read. If you are a novice like me, you will have to go over the math a few times to understand how he came about his conclusions especially as it pertains to leverage ratios of derivatives. Recommended.
Keen Insight This book is the financial layman's primer for the credit crisis. It is clear, concise, and offers a mature and historically-grounded view of the credit bubble, past, present, and harrowing future. A great read.
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