Guns Are Just Tools - Unfortunately, So Are Investment Bankers

A lot of friends have been asking me to explain what is going on in the financial markets lately.  It's not an easy subject to condense, but this article by Michael Lewis, the author of Liar's Poker, is a pretty good summary of the way that Wall Street built the bomb that destroyed it.  The subject is mostly restricted to Wall Street and the way that repackaged subprime loans spiraled out of control, but it is a great read and well worth the investment.

One thing you have to bear in mind is that until the 1980s, most investment banks on Wall Street were private partnerships.  That constrained the amount of capital they could put to work, but it also meant that each partner was taking financial risk with every strategy they pursued.  After they all went public, that risk was borne by public shareholders, leading to a pretty significant shift in risk appetite at the management level.

When I worked at Goldman, Sachs in the early 1990s, it was still a private partnership.  I will never forget one of the partners saying to me, "I lie awake at night and think, 'Some 27 year old is betting 10 times my net worth on some strategy I don't fully understand.  It's terrifying."  That fear disappears when the company is owned by public shareholders.  It's the not the root cause of everything, but it is symptomatic of recent Wall Street, where so many were paid so much and yet took so little personal risk.  It's recipe for disaster.