Episode 16: Making Money When Everyone Else is Losing Theirs

Joe Weisenthal (0:06)

Hello, and welcome to the latest edition of the Odd Lots Podcast. I'm Joe Weisenthal, Managing Editor at Bloomberg Markets.

My co-host, Tracy Alloway, is away again this week, but fortunately, she is going to be back next week. But since she's out, we're doing another special episode or unusual episode I want to talk to one of my colleagues here at Bloomberg, who wrote a fantastic new story that I absolutely love, entitled The Big Long, Making a Killing in a Market, Everyone Left for Dead. It's about the people who made a fortune by going long, risky assets down during the worst period of the financial crisis. So essentially the opposite of the big short.

So without further ado, I want to get right into it. I'm here with Alistair Marsh, who wrote this story. Alistair, thank you very much for joining us.

Alistair Marsh (1:03)

Thanks for having me on.

Joe Weisenthal (1:04)

Let's give the quick roundup. What's your story about? Who are these investors who were bold enough to go long, very risky assets right at the bottom of January 2009?

Who were they and what was their bet?

Alistair Marsh (1:18)

Sure. Well, they were trading asset-backed securities for a UK bank called HBOS.

HBOS has a very interesting history in the UK. In fact, one of the most controversial ones, you might say, ultimately collapsed back in the end of 2008 It had a government bailout. It had a secret cash infusion from the central bank. And ultimately, it was taken over by Lloyd's Bank. So while all this was happening in the background, you had these two traders at HBOS called Milan Patel and Richard Paddle, who had spent the last 10 years or so trading ABS every day.

And when the crisis hit...

Joe Weisenthal (1:57)

So ABS, the asset-backed securities, and these were the securities that were tied to mortgages mostly, that everybody has come to know and understand were sort of a key variable in the financial crisis.

Alistair Marsh (2:11)

Exactly. Yeah, these were typically backed by... So these were bonds backed by mortgages in the UK, typically.

And they were trading these for 10 years or so. For most of that time, these were considered a relatively vanilla product. Most of them were rated AAA. And it all seemed like a good and safest houses, so to speak, kind of bet.

Joe Weisenthal (2:34)

The title of your story is called The Big Long, obviously a reference to the Big Short. So explain what they did in this trade and how it was sort of the mirror opposite of the Big Short trade.

Alistair Marsh (2:46)

Sure. Well, there's many kind of parallels to the Big Short. Effectively, the Big Short was saying that the housing market is going to collapse. And these subprime mortgage bonds are priced at crazy levels that don't imply that collapse. Well, they had the opposite view that in the UK, the housing market was not going to collapse and that the mortgage bonds in the UK implied that the mortgage market had collapsed or was about to and they believed it wasn't. And they believed that the same kind of mass foreclosures that we saw in the US or the same spike in mortgage areas wasn't going to happen in the UK.

And obviously, they ultimately turned out to be correct.

Joe Weisenthal (3:27)

So anyone who's seen the movie or read the book, The Big Short, knows that it wasn't just enough to have a negative view on housing or asset values, but that these trades were not trivial to exercise. They were complicated to structure.

In the case of the story you reported on, there were difficulties and complications in executing the opposite trade. What did they have to do to express their view on these assets?

Alistair Marsh (3:54)

Sure. Well, the biggest difference between the two, leaving aside one was short and one was long, was that on the short bet, these were mainly institutional investors, hedge funds and others trying to do this. But the big long, these guys, whilst they were traders by profession, they worked for a bank, actually they put up their own money.

Ultimately they were retail investors. And so they had to first get compliance from the bank. And they managed to get this. What's quite interesting, and I've had feedback from a number of people in the asset back securities market here in the UK, who were quite indignant that these guys were able to do this, because they, whilst working at various other banks, wished that they had had the opportunity, they were permitted to do so as well. But anyway, they had to ask compliance, that they managed to get that. And then they had to go to the retail broker and say, I want to buy ABS, please.