The End of Wall Street's Boom - What REALLY Happened?

The End of Wall Street's Boom - National Business News - Portfolio.com: "The era that defined Wall Street is finally, officially over. Michael Lewis, who chronicled its excess in Liar’s Poker, returns to his old haunt to figure out what went wrong."

This is a lengthy article, but quite an interesting read. If you don't know Michael Lewis, he wrote Liar's Poker, about his experience working on Wall Street in the 1980s. Liar's Poker is also the game the fellows at Long Term Capital Management played - the founder of LTCM worked at Salomon Bros. in the 1980s, too. Lewis also wrote a book about baseball, and one about the dot-com era before it became the dot-bomb era, and he writes an amusing column for Slate called Dad Again.

The article reaches some very interesting conclusions, which I won't spoil here. But one of them seems to be the same one I keep coming back to - Wall Street is run by idiots. Traders don't know anything about economics, and economists regularly admit that they're terrible traders.

I suspect that the art/science of economics is something of a crystal ball on Wall Street - yet, like all mystical sciences, the economic tarot can tell you what will happen, but not when. Trading is all about the when. If you get out too early, you'll never make enough gains to retire; if you get in too early, you'll drive yourself to an early stress-related death and won't get to retire, anyway (hey, maybe that's a good retirement plan - cheaper than the $200k they recommend you put away for retirement health costs alone!). Traders use the technicals (charts and pure market data) to try to get ahead of a curve - but charts, alone, don't warn you when an enormous wrecking ball like the housing implosion is heading your way. Which is why my broker laughed at me when I said I didn't want to touch anything housing related - not even funds holding Fannie/Freddie bonds. My theory is that good traders are neither traders nor economists - they are sufficiently detached to take the signals of both disciplines with a boulder-sized grain of salt. Throw in a healthy dose of market historian and psychologist, and you might actually have a trader who can turn the odds in his own favor.

Short of that (plus a lot of luck), Mr. John Q. Public is facing some looonnnggg odds. The SEC lets banks and brokerages hold off-balance sheet risks that an average investor doesn't know about until it sinks his share price. Even the on-balance-sheet holdings are sometimes sliced and diced and innovated to a point that finance professionals can't understand what they really are, let alone what they're worth, or how quickly they can sink the company. Index funds came about specifically because fund managers aren't superior traders - managed funds and index funds have roughly equal odds of outperforming various benchmarks. The market moves on rumors that can create the sorts of problems that were rumored to be a risk. And when Mr. John Q. Public throws his hands in the air, says the heck with it, and plows his money into the age-old safe haven - banks and big, stable Blue Chips, he finds out later that the banks aren't safe and the Blue Chips are dallying in risk loans. Even Money Market funds were "breaking the buck" and losing principal value, because the professional financiers invested in bonds that - despite being triple-A rated short-term bonds - went poof. Oh, yeah, that's because the ratings agencies are either inept, corrupt, or both. But what choice does a fellow have - Social Security is bankrupt, pensions are a privilege only the government-employee class can count on, and his 401k has to make up the difference. Good luck, Mr. Public. You'll need it.