Frank Partnoy's "Infectious Greed"

[Nords]

The title comes from a Greenspan speech.

Great book on how the last 10 years happened. Partnoy points out how financial derivatives have allowed banks to divest themselves of risk while putting it squarely on the shoulders of insurance companies and individual (largely clueless) investors. A lot of today's liquidity is due to the fact that banks & brokerages have figured out how to completely circumvent all the Fed's rules on reserves while actually eliminating a lot of their portfolio risks.

Partnoy also gives the clearest (no mean feat) account of WorldCom & Global Crossing that I've ever read.

At one point Partnoy wraps up a two-page eyeball-glazing description of one of Enron's SPEs with the sentence: "Enron executed thousands of other examples like this one." Forensic accountants are STILL trying to figure out Enron's finances.

If you've ever prided yourself on your ability to read the footnotes in financial reports, prepare to be humbled. If you ever invest in collateralized mortgage obligations, collateralized bond obligations, or anything else other than a simple stock/bond-- read this first.

[brewer12345]

I'd agree that the banks have larlegy "captured" their regulators in this country. However, I am uncomfortable wih the idea that using derivatives is necessarily evil. Generaly speaking, there is almost nothing that you can do with derivatives that you cannot do without them. The use of derivatives makes things easier and cheaper to do, but they are hadly necessary. As for those wo get burned dabbling in things they don't understand, well, sometimes life deals hard lessons. So long as those holding the bag were not defrauded, I think it falls under the rubric of "you pays your money and you takes your chances". I can assure you that at the very least, the insurance companies should have known better.

[unclemick]

Didn't Buffett deliberately take losses (paper?) a year or so back on one of his acquired insurance operations to unwind all derivative positions. He doesn't like them and has expressed sceptically - do these guys 'really understand their risks?".

[hankjoy]

Good point Uncle Mick. Just a few years ago an employee of a multibillion dollar (pound) bank drove them into instant bankruptsy when the derivative positions he committed the bank to without it's authorization went the wrong way. derivatives are like nitroglycerine. Banks and investment companies are using their customers money to invest and provide margin for derivatives without their customer's knowledge or consent. It is a timebomb waiting to happen. Hank Joy

[brewer12345]

I think hank is talking about Barings bank. That is a failure of control systems, not anything to do with derivatives. If derivatives didn't exist, poor risk management and control systems could just as easily have blown Barings up. After, the S&L scandal largely had nothing to do with derivatives.

[Nords]

The trader was able to log his losing trades into an account that the system let him set up (bad design) but wouldn't display (since the account numer was invalid). No one ever noticed the losses or questioned his profits ("Good job, Nick! Here's another bonus check, big guy!!") until it was too late. It didn't hurt that he was "all the way in Singapore" with little/no supervision. This occurred as the U.S. had begun an unsettling trend of bailing out failing financial institutions, so the British felt they had to make a statement despite the bank's heritage.

A common thread in the deceptive-trader stories was being able to hide losses for months/years... until management decided to have one of their most highly-compensated employees teach the rest of the staff how it's done. Woops.