I read this book by Michael Lewis several years ago at the recommendation of our son who had worked as an intern at Merrill Lynch. He knew I was working hard to understand the stock market, or at least to understand it well enough to not make too many bad investment decisions. Lewis writes that the stock market is well enough regulated that it is almost fair to investors. The same was not true of the bond market. Lewis somehow bluffed his way into a Salomon Brothers training program despite his degree in art appreciation and became a bond trader making incredible amounts of money. They paid him very well indeed to pretend he knew what he was doing. “Never before had so many unskilled twenty-four-year-olds made so much money in so little time…” He says he set “…out to write this book only because I thought it would be better to tell the story than to go on living the story.” I particularly liked the statement at the end of the Preface that his parents “…are, of course, directly responsible for any errors, sins, or omissions herein.”
The title of the book is based on a game Salomon CEO John Gutfreund enjoyed playing with John Meriwether, a man who had hundreds of millions of dollars for the firm with his bond trades. The game involves betting that the best poker hand from the serial numbers on your dollar bill would beat that of the other players, or that you can bluff the other players. Gutfreund seldom won, but one day he whispered to Meriwether he wanted to play for a million dollars with “no tears.” Meriwether responded he would rather play for ten million dollars, Gutfreund smiled, declared Meriwether crazy, walked away, and proved Meriwether was the better bluffer. The game and the story defines the mentality of the bond traders who worked for Salomon Brothers.
The book constantly reminds that the bond traders on Wall Street are driven only by the desire to make money. The firms who hire them encourage them to gamble big and win, which brings the firms huge amounts of money when the gambles work. They give huge bonuses to the traders who make winning trades and dump those whose gambles fail. The quote under the masthead of the book describes how Wall Street “…is a river at one end and a graveyard at the other…It omits the kindergarten in the middle.” This quote comes from Frederick Schwed, Jr. in an article with the title that tells all: “Where are the Customer’s Yachts?”
The message driven home by the book is Caveat Emptor, or let the buyer beware. Consider that the advice given by someone on Wall Street might or probably is designed to produce a positive result for the firm and the person giving the advice. My primary memory of the book from my first reading was an exchange between a bond trader trainee who inquired why the firm would give advice that wasn’t good for the customer. My recollection, which I didn’t find in exactly the same words as my memory, is that the trainee was told something to the effect, “Your question proves you are too stupid be a trader. You should be a customer.”
The bond traders often referred to gambling where one at the table was the designated fool destined to be cleaned out. They said that the customers for bonds were usually the fool during a bond transaction. The traders are sometimes told to dump bad investments owned by the firm on customers. A customer who falls for the sales pitch, buys the investment, and loses big is said to have been “blown up.”
A Kurt Vonnegut quote about the role of lawyers is used to describe bond traders. “There is a magic moment, during which a man has surrendered treasure, and during which the man who is about to receive it has not yet done so. An alert lawyer (read bond trader) will make that moment his own, possessing the treasure for a magic microsecond, taking a little of it, passing it on.” Salomon Brothers carved a tiny fraction, which often equated to tens of thousands of dollars, from each financial transaction. They did not care whether the customer was making a wise purchase. They only cared about that fraction of the transaction they kept.
The descriptions of the training classes given by Salomon Brothers are entertaining, frightening, or both. Much is made of “front row people” who were compliant and trying to learn what they were expected to do. They were held in distain by the “back row people” who seemed only intent on embarrassing the front row people and prove that they were the ones with the wild confidence to make Salomon Brothers large amounts of money despite their lack of knowledge. Lewis writes that, “Trainees, in short, are idiots.” Salomon Brothers didn’t care. They only cared that the trainees became skilled at selling customers bonds that would reap the firm large amounts of money. Lewis observed that many of the men who spoke to trainees “…were truly awful human beings. They sacked others to promote themselves. They harassed women. They humiliated trainees. They didn’t have customers. They had victims.” Others were admirable, but bad guys were the ones who usually flourished. The descriptions of their personal behavior should turn the reader against the traders if the financial misbehavior doesn’t. Many of them are described as groups of loud, rude, and fat men who enjoyed frequent bouts of gluttony.
Lewis was sent to the London office to be a bond trader and confirms that if all mortgage traders left Salomon there would be nothing left but nice guys. The bond traders who had made the firm considerable money were brutally rude to the new traders. One is said to have tossed a ten dollar bill to a salesman leaving to go on a business trip and told him to buy cash insurance in the name of the senior trader. He said he felt lucky when the salesman asked why he should buy crash insurance to be paid to someone other than himself.
The book provides a good history of what drove Wall Street while Lewis was trading bonds. The Savings and Loan (S&L) industry and the home mortgages they provided played a central role. The thrifts were hemorrhaging money when the Federal Reserve raised interest rate in 1979, and Congress passed a tax break that allowed the thrifts to sell mortgage loans to each other and put their money to work at higher rates. Salomon began to trade in home loans and became exposed to the ability of borrowers to repay their loans. This didn’t bother the firm, because they were raking in huge profits and the ratings agencies were giving most packages of loans the highest credit rating.
The decline of Salomon began when the partners went public, which made them rich but took away any sense of restraint. Risk taking was increased because the senior people no longer worried that a failed venture would hurt them personally. The owners of the publically traded stocks were the ones who suffered from a risk gone bad. It seemed less important to management that bad decisions would also hurt the value of their stock holdings.
I found it interesting that Lewis freely provides names of people who are described as being personally despicable. Managers are criticized openly, and some are even called stupid. However, there are a few people who are not named. There are two fellow traders who helped Lewis, and they were allowed to chose their own pseudonym for the book. An important customer who comes to trust Lewis is referred to as the “Frenchman.”
Lewis writes briefly that he had income from the writing that he does at nights and on weekends, so he was not completely tied by the golden handcuffs to his bond trading job. He was given a $225,000 bonus at the end of 1987 and was told he had become the highest paid member of his training class. “It was now clear that given time, and only time, the firm would make me a rich man.” His father had always thought people who made lots of money “were neat.” “It took watching his son being paid 225 grand at the age of twenty-seven, after two years on the job, to shake his faith in money.”
Lewis didn’t leave Wall Street because he thought the firm was doomed or that the market would collapse. He writes that he left “…I think…because I didn’t need to stay any longer.”