The Big Short_ Inside the Doomsday Machine Part 3

"We were doing the sort of things that might cause your investors to yell at you," said Jamie, "but we didn't get yelled at by investors because we didn't have any investors."

They actually thought about handing their winnings over to some certified, qualified, sanitized, honest-to-G.o.d professional investor to run the money for them. They raced around New York for several weeks, interviewing hedge fund managers. "They all sounded great when you listened to them," said Jamie, "but then you'd look at their numbers and they were always flat." They decided to keep on investing their money themselves. Two years after they'd opened for business, they were running $12 million of their own and had moved themselves and their world headquarters from the Berkeley shed to an office in Manhattan--a floor of the Greenwich Village studio of the artist Julian Schnabel.

They'd also moved their account, from Schwab to Bear Stearns. They longed for a relations.h.i.+p with some big Wall Street trading firm and mentioned the desire to their accountant. "He said he knew Ace Greenberg and he could introduce us to him, and so we said great," said Charlie. The former chairman and CEO of Bear Stearns, and a Wall Street legend, Greenberg still kept an office at the firm and acted as a broker for a handful of presumably special investors. When Cornwall Capital moved their a.s.sets to Bear Stearns, sure enough, their brokerage statements soon came back with Ace Greenberg's name on top.

Like most of what befell them in the financial markets, their first brush with a big Wall Street firm was delightfully weird but ultimately inexplicable. Just like that, without ever having laid eyes on Ace Greenberg, they were his customers. "We were like, 'So how is it that Ace Greenberg is our broker?'" said Charlie. "I mean, we were n.o.body. And we'd never actually met Ace Greenberg." The mystery grew with their every attempt to speak with Greenberg. They had what they a.s.sumed was his phone number, but when they called it someone other than Greenberg answered. "It was totally bizarre," said Charlie. "Occasionally, Ace Greenberg himself would pick up the phone. But all he'd say was, 'Hold on.' Then a secretary would come on the line and take our order."

At length they talked their way into a face-to-face encounter with the Wall Street legend. The encounter was so brief, however, that they could not honestly say whether they had met Ace Greenberg, or an actor playing Ace Greenberg. "We were ushered in for thirty seconds--literally thirty seconds--and then unceremoniously ushered out," says Jamie. Ace Greenberg was still their broker. They just never spoke to him.

"The whole Ace Greenberg thing still doesn't make sense to us," says Charlie.

The man to whom they now referred as "the actor who plays Ace Greenberg" failed to resolve what they viewed as their biggest problem. They were small private investors. The Wall Street firms were largely a mystery to them. "I've never actually, like, been on the inside of a bank," said Charlie. "I can only imagine what's going on inside by imagining it through someone else's eyes." To do the sort of trades they wanted to do, they needed to be mistaken by the big Wall Street firms for investors who knew their way around a big Wall Street firm. "As a private investor you are a second-cla.s.s citizen," said Jamie. "The prices you get are worse, the service is worse, everything is worse."

The thought had gained force with the help of Jamie's new neighbor in Berkeley, Ben Hockett. Hockett, also in his early thirties, had spent nine years selling and then trading derivatives for Deutsche Bank in Tokyo. Like Jamie and Charlie, he had the tangy, sweet-smelling aroma of the dropout about him. "When I started I was single and twenty-two," he said. "Now I have a wife and a baby and a dog. I'm sick of the business. I don't like who I am when I get home from work. I didn't want my kid to grow up with that as a dad. I thought, I gotta get out of here I gotta get out of here." When he went in to quit, his Deutsche Bank bosses insisted that he list his grievances. "I told them I don't like going into an office. I don't like wearing a suit. And I don't like living in a big city. And they said, 'Fine.'" They told him he could wear whatever he wanted to wear, live wherever he wanted to live, and work wherever he wanted to work--and do it all while remaining employed by Deutsche Bank.

Ben moved from Tokyo to the San Francis...o...b..y area, along with $100 million of Deutsche Bank's money, which he traded from the comfort of his new home in Berkeley Hills. He suspected, not unreasonably, that he might be the only person in Berkeley looking for arbitrage opportunities in the market for credit derivatives. The existence just down the street of a guy roaming the globe in his mind looking to buy long-term options on financial drama caught him by surprise. Ben and Jamie took to walking their dogs together. Jamie pumped Ben for information about how big Wall Street firms and esoteric financial markets worked, and finally prodded him to quit his real job and join Cornwall Capital. "After three years in a room by myself, I thought it would be nice to work with people," said Ben. He quit Deutsche Bank to join the happy hunt for accident and disaster, and pretty quickly found himself working alone again. Charlie moved back to Manhattan as soon as he could afford the ticket, and, when his relations.h.i.+p with his girlfriend ended, Jamie eagerly followed.

Theirs was a union of the weirdly like-minded. Ben shared Charlie and Jamie's view that people, and markets, tended to underestimate the probability of extreme change, but he took his thinking a step further. Charlie and Jamie were interested chiefly in the probabilities of disasters in financial markets. Ben walked around with some very tiny fraction of his mind alert to the probabilities of disasters in real life. People underestimated these, too, he believed, because they didn't want to think about them. There was a tendency, in markets and life, for people to respond to the possibility of extreme events in one of two ways: flight or fight. "Fight is, 'I'm going to get my guns,'" he said. "Flight is, 'We're all doomed so I can't do anything about it.'" Charlie and Jamie were flight types. When he'd mention to them the possibility that global warming might cause sea levels to rise by twenty feet, for instance, they'd just shrug and say, "I can't do anything about it, so why worry about it?" Or: "If that happens I don't want to be alive anyway."

"They're two single guys in Manhattan," said Ben. "They're both like, 'And if we can't live in Manhattan, we don't want to live at all.'" He was surprised that Charlie and Jamie, both now so alive to the possibility of dramatic change in the financial markets, were less alert and responsive to the possibilities outside those markets. "I'm trying to prepare myself and my children for an environment that is unpredictable," Ben said.

Charlie and Jamie preferred Ben to keep his apocalyptic talk to himself. It made people uncomfortable. There was no reason anyone needed to know, for example, that Ben had bought a small farm in the country, north of San Francisco, in a remote place without road access, planted with fruit and vegetables sufficient to feed his family, on the off chance of the end of the world as we know it. It was hard for Ben to keep his worldview to himself, however, especially since it was the first cousin of their investment strategy: The possibility of accident and disaster was just never very far from their conversations. One day on the phone with Ben, Charlie said, You hate taking even remote risks, but you live in a house on top of a mountain that's on a fault line, in a housing market that's at an all-time high. You hate taking even remote risks, but you live in a house on top of a mountain that's on a fault line, in a housing market that's at an all-time high. "He just said, 'I gotta go,' and hung up," recalled Charlie. "We had trouble getting hold of him for, like, two months." "He just said, 'I gotta go,' and hung up," recalled Charlie. "We had trouble getting hold of him for, like, two months."

"I got off the phone," said Ben, "and I realized, I have to sell my house. Right now I have to sell my house. Right now." His house was worth a million dollars and maybe more yet would rent for no more than $2,500 a month. "It was trading more than thirty times gross rental," said Ben. "The rule of thumb is that you buy at ten and sell at twenty." In October 2005 he moved his family into a rental unit, away from the fault.

Ben thought of Charlie and Jamie less as professional money managers than as dilettantes or, as he put it, "a couple of smart guys just punting around in the markets." But their strategy of buying cheap tickets to some hoped-for financial drama resonated with him. It was hardly foolproof; indeed, it was almost certain to fail more often than it succeeded. Sometimes the hoped-for drama never occurred; sometimes they actually didn't know what they were doing. Once, Charlie found what he thought was a strange price discrepancy in the market for gasoline futures, and quickly bought one gas contract, sold another, and made what he took to be a riskless profit--only to discover, as Jamie put it, "one was unleaded gasoline and the other was, like, diesel." Another time, the premise was right but the conclusion was wrong. "One day Ben calls me and says, 'Dude, I think there's going to be a coup in Thailand,'" said Jamie. There'd been nothing in the newspapers about a coup in Thailand; this was a genuine scoop. "I said, 'C'mon, Ben, you're crazy, there's not going to be a coup. Anyway, how would you even know? You're in Berkeley!'" Ben swore he had talked to a guy he used to work with in Singapore, who had his finger on the pulse in Thailand. He was so insistent that they went into the Thai currency market and bought what appeared to be stunningly cheap three-month puts (options to sell) on the Thai baht. One week later, the Thai military overthrew the elected prime minister. The Thai baht didn't budge. "We predicted a coup, and we lost money," said Jamie.

The losses, by design, were no big deal; the losses were part of the plan. They had more losers than winners, but their losses, the cost of the options, had been trivial compared to their gains. There was a possible explanation for their success, which Charlie and Jamie had only intuited but which Ben, who had priced options for a big Wall Street firm, came ready to explain: Financial options were systematically mispriced. The market often underestimated the likelihood of extreme moves in prices. The options market also tended to presuppose that the distant future would look more like the present than it usually did. Finally, the price of an option was a function of the volatility of the underlying stock or currency or commodity, and the options market tended to rely on the recent past to determine how volatile a stock or currency or commodity might be. When IBM stock was trading at $34 a share and had been hopping around madly for the past year, an option to buy it for $35 a share anytime soon was seldom underpriced. When gold had been trading around $650 an ounce for the past two years, an option to buy it for $2,000 an ounce anytime during the next ten years might well be badly underpriced. The longer-term the option, the sillier the results generated by the Black-Scholes option pricing model, and the greater the opportunity for people who didn't use it.

Oddly, it was Ben, the least personally conventional of the three, who had the Potemkin-village effect of making Cornwall Capital appear to outsiders to be a conventional inst.i.tutional money manager. He knew his way around Wall Street trading floors and so also knew the extent to which Charlie and Jamie were being penalized for being perceived by the big Wall Street firms as a not terribly serious investor or, as Ben put it, "a garage band hedge fund." The longest options available to individual investors on public exchanges were LEAPs, which were two-and-a-half-year options on common stocks. You know You know, Ben said to Charlie and Jamie, if you established yourself as a serious inst.i.tutional investor, you could phone up Lehman Brothers or Morgan Stanley and buy eight-year options on whatever you wanted. Would you like that? if you established yourself as a serious inst.i.tutional investor, you could phone up Lehman Brothers or Morgan Stanley and buy eight-year options on whatever you wanted. Would you like that?

They would! They wanted badly to be able to deal directly with the source of what they viewed as the most underpriced options: the most sophisticated, quant.i.tative trading desks at Goldman Sachs, Deutsche Bank, Bear Stearns, and the rest. The hunting license The hunting license, they called it. The hunting license had a name: an ISDA. They were the same agreements, dreamed up by the International Swaps and Derivatives a.s.sociation, that Mike Burry secured before he bought his first credit default swaps. If you got your ISDA, you could in theory trade with the big Wall Street firms, if not as an equal then at least as a grown-up. The trouble was that, despite their success running money, they still didn't have much of it. Worse, what they had was their own. Inside Wall Street they were cla.s.sified, at best, as "high net worth individuals." Rich people. Rich people received a better cla.s.s of service from Wall Street than middle-cla.s.s people, but they were still second-cla.s.s citizens compared to inst.i.tutional money managers. More to the point, rich people were typically not invited to buy and sell esoteric securities, such as credit default swaps, not traded on open exchanges. Securities that were, increasingly, the beating heart of Wall Street.

By early 2006, Cornwall Capital had grown its stash to almost $30 million, but even that, to the desks inside the Wall Street firms that sold credit default swaps, was a risibly small sum. "We called Goldman Sachs," said Jamie, "and it was just immediately clear they didn't want our business. Lehman Brothers just laughed at us. There was this impenetrable fortress you had either to scale or dig underneath." "J.P. Morgan actually fired us as a customer," said Charlie. "They said we were too much trouble." And they were! In possession of childish sums of money, they wanted to be treated as grown-ups. "We wanted to buy options on platinum from Deutsche Bank," said Charlie, "and they were like, 'Sorry we can't do this with you.'" Wall Street made you pay for managing your own money rather than paying someone on Wall Street to do it for you. "No one was going to take us," said Jamie. "We called around and it was one hundred million bucks, minimum, to be credible."

By the time they called UBS, the big Swiss bank, they knew enough not to answer when the guy on the other end of the line asked them how much money they had. "We learned to spin that one," said Jamie. As a result, UBS took a bit longer than the others to turn them down. "They were, like, 'How much do you short?'" recalled Charlie. "And we said not very much. So they ask, 'How often do you trade?' We say, not very often. And there was this long silence. Then, 'Let me talk to my boss.' And we never heard back from them."

They had no better luck with Morgan Stanley or Merrill Lynch and the rest. "They would say, 'Show us your marketing materials,'" said Charlie, "and we would say, 'Uh, we don't have those.' They'd say, 'Okay, then show us your offering doc.u.ments.' We didn't have any offering doc.u.ments because it wasn't other people's money. So they'd say, 'Okay, then just show us your money.' We'd say, 'Um, we don't exactly have enough of that, either.' They'd say, 'Okay, then just show us your resumes.'" If Charlie and Jamie had any connection to the world of money management--former employment, say--it might have lent some credibility to their application, but they didn't. "It always ended with them sort of asking, 'So what do you do you have?'" have?'"

Chutzpah. Plus $30 million with which they were willing and able to do anything they wanted to do. Plus a former derivatives trader with an apocalyptic streak who knew how these big Wall Street firms worked. "Jamie and Charlie had been asking for an ISDA for two years, but they really just didn't know how to ask," said Ben. "They didn't even know the term 'ISDA.'"

Charlie never completely understood how Ben did it, but he somehow persuaded Deutsche Bank, which required an investor to control $2 billion to be treated as an inst.i.tution, to accept Cornwall Capital on their "inst.i.tutional platform." Ben claimed that it was really only a matter of knowing the right people to call, and the language in which to address their concerns. Before they knew it, a team from Deutsche Bank agreed to pay a call on Cornwall Capital to determine if they were worthy of the distinction: Deutsche Bank inst.i.tutional customer. "Ben gives good bank," said Charlie.

Deutsche Bank had a program it called KYC (Know Your Customer), which, while it didn't involve anything so radical as actually knowing their customers, did require them to meet their customers, in person, at least once. Hearing that they were to be on the receiving end of KYC, it occurred to Charlie and Jamie, for the first time, that working out of Julian Schnabel's studio in the wrong part of Greenwich Village might raise more questions than it answered. "We had an appearance problem," said Jamie delicately. From upstairs wafted the smell of fresh paint; from downstairs, the site of the lone toilet, came the sounds of a sweatshop. "Before they came," said Charlie, "I remember thinking, If anyone has to go to the bathroom, we're in trouble. If anyone has to go to the bathroom, we're in trouble." Cornwall Capital's own little s.p.a.ce inside the larger s.p.a.ce was charmingly unfinancial--a dark room in the back with red brick walls that opened onto a small, junglelike garden in which it was easier to imagine a seduction scene than the purchase of a credit default swap. "There was an awkward moment or two, due to the fact that our offices had a tailor working downstairs, and they could hear her," said Jamie. But no one from Deutsche Bank had to go to the bathroom, and Cornwall Capital Management got its ISDA.

This agreement, in its fine print, turned out to be long on Cornwall Capital's duties to Deutsche Bank and short on Deutsche Bank's duties to Cornwall Capital. If Cornwall Capital made a bet with Deutsche Bank and it wound up "in the money," Deutsche Bank was not required to post collateral. Cornwall would just have to hope that Deutsche Bank could make good on its debts. If, on the other hand, the trade went against Cornwall Capital, they were required to post the amount they were down, daily. At the time, Charlie and Jamie and Ben didn't worry much about this provision, or similar provisions in the ISDA they landed with Bear Stearns. They were happy just to be allowed to buy credit default swaps from Greg Lippmann.

Now what? They were young men in a hurry--they couldn't believe the trade existed and didn't know how much longer it would--but they spent several weeks arguing among themselves about it. Lippmann's sales pitch was as alien to them as it was intriguing. Cornwall Capital had never bought or sold a mortgage bond, but they could see that a credit default swap was really just a financial option: You paid a small premium, and, if enough subprime borrowers defaulted on their mortgages, you got rich. In this case, however, they were being offered a cheap ticket to a drama that looked virtually certain to happen. They created another presentation to give to themselves. "We're looking at the trade," said Charlie, "and we're thinking, like, this is too good to be true. Why the h.e.l.l should I be able to buy CDSs on the triple-Bs [credit default swaps on the triple-B tranche of subprime mortgage bonds] at these levels? Who in their right mind is saying, 'Wow, I think I'll take two hundred basis points to take this risk?' It just seems like a ridiculously low price. It doesn't make sense." It was now early October 2006. A few months earlier, in June, national home prices, for the first time, had begun to fall. In five weeks, on November 29, the index of subprime mortgage bonds, called the ABX, would post its first interest-rate shortfall. The borrowers were failing to make interest payments sufficient to pay off the riskiest subprime bonds. The underlying mortgage loans were already going sour, and yet the prices of the bonds backed by the loans hadn't budged. "That was the part that was so weird," said Charlie. "They'd already started going bad. We just kept asking, 'Who the h.e.l.l is taking the other side of this trade?' And the answer that kept coming back to us was, 'It's the CDOs.'" Which of course just raised another question: Who, or what, was a CDO?

Typically when they entered a new market--because they'd found some potential accident waiting to happen that seemed worth betting on--they found an expert to serve as a jungle guide. This market was so removed from their experience that it took them longer than usual to find help. "I had a vague idea what an ABS [a.s.set-backed security] was," said Charlie. "But I had no idea what a CDO was." Eventually they figured out that language served a different purpose inside the bond market than it did in the outside world. Bond market terminology was designed less to convey meaning than to bewilder outsiders. Overpriced bonds were not "expensive" overpriced bonds were "rich," which almost made them sound like something you should buy. The floors of subprime mortgage bonds were not called floors--or anything else that might lead the bond buyer to form any sort of concrete image in his mind--but tranches. The bottom tranche--the risky ground floor--was not called the ground floor but the mezzanine, or the mezz, which made it sound less like a dangerous investment and more like a highly prized seat in a domed stadium. A CDO composed of nothing but the riskiest, mezzanine layer of subprime mortgages was not called a subprime-backed CDO but a "structured finance CDO." "There was so much confusion about the different terms," said Charlie. "In the course of trying to figure it out, we realize that there's a reason why it doesn't quite make sense to us. It's because it doesn't quite make sense."

The subprime mortgage market had a special talent for obscuring what needed to be clarified. A bond backed entirely by subprime mortgages, for example, wasn't called a subprime mortgage bond. It was called an ABS, or a.s.set-backed security. When Charlie asked Deutsche Bank exactly what a.s.sets secured an a.s.set-backed security, he was handed lists of abbreviations and more acronyms--RMBS, HELs, HELOCs, Alt-A--along with categories of credit he did not know existed ("midprime"). RMBS stood for residential mortgage-backed security. HEL stood for home equity loan. HELOC stood for home equity line of credit. Alt-A was just what they called c.r.a.ppy mortgage loans for which they hadn't even bothered to acquire the proper doc.u.ments--to verify the borrower's income, say. "A" was the designation attached to the most creditworthy borrowers; Alt-A, which stood for "Alternative A-paper," meant an alternative to the most creditworthy, which of course sounds a lot more fishy once it is put that way. As a rule, any loan that had been turned into an acronym or abbreviation could more clearly be called a "subprime loan," but the bond market didn't want to be clear. "Midprime" was a kind of triumph of language over truth. Some crafty bond market person had gazed upon the subprime mortgage sprawl, as an ambitious real estate developer might gaze upon Oakland, and found an opportunity to rebrand some of the turf. On Oakland's fringe there was a neighborhood, masquerading as an entirely separate town, called Rockridge. Simply by refusing to be called Oakland, Rockridge enjoyed higher property values. Inside the subprime mortgage market there was now a similar neighborhood known as midprime. Midprime was subprime--and yet somehow, ineffably, not. "It took me a while to figure out that all of this stuff inside the bonds was pretty much exactly the same thing," said Charlie. "The Wall Street firms just got the ratings agencies to accept different names for it so they could make it seem like a diversified pool of a.s.sets."

Charlie, Jamie, and Ben entered the subprime mortgage market a.s.suming they wanted to do what Mike Burry and Steve Eisman had already done, and find the very worst subprime bonds to lay bets against. They quickly got up to speed on FICO scores and loan-to-value ratios and silent seconds and the special madness of California and Florida, and the shockingly optimistic structure of the bonds themselves: The triple-B-minus tranche, the bottom floor of the building, required just 7 percent losses in the underlying pool to be worth zero. But then they wound up doing something quite different from--and, ultimately, more profitable than--what everyone else who bet against the subprime mortgage market was doing: They bet against the upper floors--the double-A tranches--of the CDOs.

After the fact, they'd realize they'd had two advantages. The first was that they had stumbled into the market very late, just before its collapse, and after a handful of other money managers. "One of the reasons we could move so fast," said Charlie, "is that we were seeing a lot of compelling a.n.a.lysis that we didn't have to create from scratch." The other advantage was their quixotic approach to financial markets: They were consciously looking for long shots. They were combing the markets for bets whose true odds were 10:1, priced as if the odds were 100:1. "We were looking for nonrecourse leverage," said Charlie. "Leverage means to magnify the effect. You have a crowbar, you take a little bit of pressure, you turn it into a lot of pressure. We were looking to get ourselves into a position where small changes in states of the world created huge changes in values."

Enter the CDO. They may not have known what a CDO was, but their minds were prepared for it, because a small change in the state of the world created a huge change in the value of a CDO. A CDO, in their view, was essentially just a pile of triple-B-rated mortgage bonds. Wall Street firms had conspired with the rating agencies to represent the pile as a diversified collection of a.s.sets, but anyone with eyes could see that if one triple-B subprime mortgage went bad, most would go bad, as they were all vulnerable to the same economic forces. Subprime mortgage loans in Florida would default for the same reasons, and at the same time, as subprime mortgage loans in California. And yet fully 80 percent of the CDO composed of nothing but triple-B bonds was rated higher than triple-B: triple-A, double-A, or A. To wipe out any triple-B bond--the ground floor of the building--all that was needed was a 7 percent loss in the underlying pool of home loans. That same 7 percent loss would thus wipe out, entirely, any CDO made up of triple-B bonds, no matter what rating was a.s.signed it. "It took us weeks to really grasp it because it was so weird," said Charlie. "But the more we looked at what a CDO really was, the more we were like, Holy s.h.i.+t, that's just f.u.c.king crazy. That's fraud Holy s.h.i.+t, that's just f.u.c.king crazy. That's fraud. Maybe you can't prove it in a court of law. But it's fraud."

It was also a stunning opportunity: The market appeared to believe its own lie. It charged a lot less for insurance on a putatively safe double-A-rated slice of a CDO than it did for insurance on the openly risky triple-B-rated bonds. Why pay 2 percent a year to bet directly against triple-B-rated bonds when they could pay 0.5 percent a year to make effectively the same bet against the double-A-rated slice of the CDO? If they paid four times less to make what was effectively the same bet against triple-B-rated subprime mortgage bonds, they could afford to make four times more of it.

They called around big Wall Street firms to see if anyone could dissuade them from buying credit default swaps on the double-A tranche of CDOs. "It really looked just too good to be true," said Jamie. "And when something looks too good to be true, we try to find out why." A fellow at Deutsche Bank named Rich Rizzo, who worked for Greg Lippmann, gave it a shot. The ISDA agreement that standardized CDSs on CDOs (a different agreement than the ISDA agreement that had standardized CDSs on mortgage bonds) had only been created a few months before, in June 2006, Rizzo explained. No one had as yet bought credit default swaps on the double-A piece of a CDO, which meant there wasn't likely to be a liquid market for them. Without a liquid market, they were not a.s.sured of being able to sell them when they wanted to, or to obtain a fair price.

"The other thing he said," recalled Charlie, "was that [things] will never get so bad that CDOs will go bad."

Cornwall Capital disagreed. They didn't know for sure that subprime loans would default in sufficient numbers to cause the CDOs to collapse. All they knew was that Deutsche Bank didn't know, either, and neither did anybody else. There might be some "right" price for insuring the first losses on pools of bonds backed by pools of dubious loans, but it wasn't one-half of 1 percent.

Of course, if you are going to gamble on a CDO, it helps to know what, exactly, is inside a CDO, and they still didn't. The sheer difficulty they had obtaining the information suggested that most investors were simply skipping this stage of their due diligence. Each CDO contained pieces of a hundred different mortgage bonds--which in turn held thousands of different loans. It was impossible, or nearly so, to find out which pieces, or which loans. Even the rating agencies, who they at first a.s.sumed would be the most informed source, hadn't a clue. "I called S&P and asked if they could tell me what was in a CDO," said Charlie. "And they said, 'Oh yeah, we're working on that.'" Moody's and S&P were piling up these triple-B bonds, a.s.suming they were diversified, and bestowing ratings on them--without ever knowing what was behind the bonds! There had been hundreds of CDO deals--400 billion dollars' worth of the things had been created in just the past three years--and yet none, as far as they could tell, had been properly vetted. Charlie located a reliable source for the contents of a CDO, a data company called Intex, but Intex wouldn't return his phone calls, and he gathered they didn't have much interest in talking to small investors. At length he found a Web site, run by Lehman Brothers, called LehmanLive.*

LehmanLive didn't tell you exactly what was in a CDO, either, but it did offer a crude picture of its salient characteristics: what year the bonds behind it had been created, for instance, and how many of those bonds were backed chiefly by subprime loans. Projecting data onto the red brick wall of Julian Schnabel's studio, Charlie and Jamie went searching for two specific traits: CDOs that contained the highest percentage of bonds backed entirely by recent subprime mortgage loans, and CDOs that contained the highest percentage of other CDOs. Here was another bizarre fact about CDOs: Often they simply repackaged tranches of other CDOs, presumably those tranches their Wall Street creators had found difficult to sell. Even more amazing was their circularity: CDO "A" would contain a piece of CDO "B" CDO "B" would contain a piece of CDO "C" and CDO "C" would contain a piece of CDO "A"! Looking for bad bonds inside a CDO was like fis.h.i.+ng for c.r.a.p in a Port-O-Let: The question wasn't whether you'd catch some but how quickly you'd be satisfied you'd caught enough. Their very names were disingenuous, and told you nothing about their contents, their creators, or their managers: Carina, Gemstone, Octans III, Glacier Funding. "They all had these random names," said Jamie. "A lot of them for some reason we never figured out were named for mountains in the Adirondacks."

They made a hasty list of what they hoped was the worst c.r.a.p and called up several brokers. It had been hard for them to wriggle free of the brokers who covered rich people and to get into the arms of brokers who covered big, stock market-investing inst.i.tutions. It was hard all over again to escape the big-time stock market brokers and win acceptance from the people inside the subprime mortgage bond market. "A lot of people when we called them said, 'Hey, why don't you guys buy some stocks!'" said Charlie. Bear Stearns couldn't believe that these young guys with no money wanted to buy not just credit default swaps but a credit default swap so esoteric that no one else had bought it. "I remember laughing at them," said the Bear Stearns credit default swap salesman who took their first inquiry.

At Deutsche Bank they were pa.s.sed off to a twenty-three-year-old bond salesman who had never had a customer of his own. "The reason I got to know Ben and Charlie," says this young man, "was that no one else at Deutsche Bank would deal with them. They had, like, twenty-five million bucks, which for Deutsche Bank was not really significant. No one wanted to pick up their calls. People were making fun of their name--they'd say, like, 'Oh, it's Cornhole Capital calling again.'" Still, Deutsche Bank proved, once again, the most willing to deal with them. On October 16, 2006, they bought from Greg Lippmann's trading desk $7.5 million in credit default swaps on the double-A tranche of a CDO named, for no apparent reason, Pine Mountain. Four days later, Bear Stearns sold them $50 million more. "They knew Ace somehow," said the Bear Stearns credit default swap salesman. "So we wound up dealing with them."

Charlie and Jamie continued to call everyone they could think of who was even remotely connected to this new market, in hopes of finding someone who could explain what appeared to them to be its sheer madness. A month later they finally found, and hired, their market expert--a fellow named David Burt. It was a measure of how much money people were making in the bond market that the magazine Inst.i.tutional Investor Inst.i.tutional Investor was about to create a hot list of people who worked in it, called The 20 Rising Stars of Fixed Income. It was a measure of how much money people were making in the subprime mortgage market that David Burt made the list. Burt had worked for the $1 trillion bond fund BlackRock, owned, in part, by Merrill Lynch, evaluating subprime mortgage credit. His job was to identify for BlackRock the bonds that were going to go bad before they went bad. Now he had quit in hopes of raising his own fund to invest in subprime mortgage bonds, and, to make ends meet, he was willing to rent his expertise for $50,000 a month to these oddb.a.l.l.s at Cornwall Capital. Burt had the most sensational information, and models to a.n.a.lyze that information--he could tell you, for example, what would happen to mortgage loans, zip code by zip code, in various house price scenarios. He could then take that information and tell you what was likely to happen to specific mortgage bonds. The best way to use this information, he thought, was to buy what appeared to be the sounder mortgage bonds and simultaneously sell the unsound ones. was about to create a hot list of people who worked in it, called The 20 Rising Stars of Fixed Income. It was a measure of how much money people were making in the subprime mortgage market that David Burt made the list. Burt had worked for the $1 trillion bond fund BlackRock, owned, in part, by Merrill Lynch, evaluating subprime mortgage credit. His job was to identify for BlackRock the bonds that were going to go bad before they went bad. Now he had quit in hopes of raising his own fund to invest in subprime mortgage bonds, and, to make ends meet, he was willing to rent his expertise for $50,000 a month to these oddb.a.l.l.s at Cornwall Capital. Burt had the most sensational information, and models to a.n.a.lyze that information--he could tell you, for example, what would happen to mortgage loans, zip code by zip code, in various house price scenarios. He could then take that information and tell you what was likely to happen to specific mortgage bonds. The best way to use this information, he thought, was to buy what appeared to be the sounder mortgage bonds and simultaneously sell the unsound ones.

The insider's artful complexity didn't much interest Cornwall Capital. Spending a lot of time trying to pick the best subprime mortgage bonds was silly, if you suspected that the entire market was about to blow up. They handed Burt the list of CDOs they had bet against and asked him what he thought. "We always looked for someone to explain to us why we didn't know what we were doing," said Jamie. "He couldn't." What Burt could tell them was that they were probably the first people ever to buy a credit default swap on the double-A tranche of a CDO. Not rea.s.suring. They a.s.sumed there was a lot about the CDO market they didn't understand; they had selected the CDOs they had bet against inside of a day, and a.s.sumed they could do a craftier job of it. "We were already throwing darts," said Jamie. "We said, 'Let's throw darts a little better.'"

The a.n.a.lysis Burt gave them a few weeks later surprised them as much as it did him: They'd picked beautifully. "He said, like, 'Wow, you guys did great. There are a lot of really c.r.a.ppy bonds in these CDOs,'" said Charlie. They didn't realize yet that the bonds inside their CDOs were actually credit default swaps on the bonds, and so their CDOs weren't ordinary CDOs but synthetic CDOs, or that the bonds on which the swaps were based had been handpicked by Mike Burry and Steve Eisman and others betting against the market. In many ways, they were still innocents.

The challenge, as always, was to play the role of market generalist without also playing the role of fool at the poker table. By January 2007, in their tiny $30 million fund, they owned $110 million in credit default swaps on the double-A tranche of a.s.set-backed CDOs. The people who had sold them the swaps still didn't know what to make of them. "They were putting on bets that were multiples of the capital they had," said the young Deutsche Bank broker. "And they were doing it in CDSs on CDOs, which probably, like, three or four guys in the whole bank could speak intelligently about." Charlie and Jamie and Ben sort of understood what they had done, but sort of didn't. "We're kind of obsessed about this trade," said Charlie. "And we've exhausted our network of people to talk to about it. And we still can't totally figure out who is on the other side. We kept trying to find people who could explain to us why we were wrong. We just kept wondering if we were crazy. There was this overwhelming feeling of, Are we going out of our minds Are we going out of our minds?"

It's just weeks before the market will turn, and the crisis will commence, but they don't know that. They suspect that this empty theater into which they've stumbled is preparing to stage the most fantastic financial drama they'll ever see, but they don't know that, either. All they know is that there is a lot they don't know. On the phone one day, their Bear Stearns credit default swap salesman mentioned that the big annual subprime conference would be held five days hence, in Las Vegas. Every big cheese in the subprime mortgage market would be there, with a name tag, and wandering around The Venetian hotel. Bear Stearns was planning a special outing for its customers, at a Vegas firing range, where they could learn to shoot everything from a Glock to an Uzi. "My parents were New York City liberals," said Charlie. "I wasn't even allowed to have, like, a toy gun." Off he flew, with Ben, to Las Vegas, to shoot with Bear Stearns, and to see if they could find anyone to explain to them why they were wrong to bet against the subprime mortgage market.

CHAPTER SIX.

Spider-Man at The Venetian Golfing with Eisman wasn't like golfing with other Wall Street people. The round usually began with a collective discomfort on the first tee, after Eisman turned up wearing something that violated the Wall Street golfer's notion of propriety. On January 28, 2007, he arrived at the sw.a.n.ky Bali Hai Golf Club in Las Vegas dressed in gym shorts, t-s.h.i.+rt, and sneakers. Strangers noticed; Vinny and Danny squirmed. "C'mon, Steve," Danny pleaded with a man who, technically, was his boss, "there's an etiquette here. You at least have to wear a collared s.h.i.+rt." Eisman took the cart to the clubhouse and bought a hoodie. The hoodie covered up his t-s.h.i.+rt and made him look a lot like a guy who had just bought a hoodie to cover up his t-s.h.i.+rt. In hoodie, gym shorts, and sneakers, Eisman approached his first shot. Like every other swing of the Eisman club, this was less a conclusive event than a suggestion. Displeased with where the ball had landed, he pulled another from his bag and dropped it in a new and better place. Vinny would hit his drive in the fairway; Danny would hit his in the rough; Steve would hit his in the bunker, march into the sand, and grab the ball and toss it out, near Vinny's. It was hard to accuse him of cheating, as he didn't make the faintest attempt to disguise what he was doing. He didn't even appear to notice anything unusual in the pattern of his game. The ninth time Eisman retrieved a ball from some sand trap, or pretended his shot had not splashed into the water, he acted with the same unapologetic aplomb he had demonstrated the first time. "Because his memory is so selective, he has no scars from prior experience," said Vinny. He played the game like a child, or like someone who was bent on lampooning a sacred ritual, which amounted to the same thing. "The weird thing is," said Danny, "he's actually not bad." Street people. The round usually began with a collective discomfort on the first tee, after Eisman turned up wearing something that violated the Wall Street golfer's notion of propriety. On January 28, 2007, he arrived at the sw.a.n.ky Bali Hai Golf Club in Las Vegas dressed in gym shorts, t-s.h.i.+rt, and sneakers. Strangers noticed; Vinny and Danny squirmed. "C'mon, Steve," Danny pleaded with a man who, technically, was his boss, "there's an etiquette here. You at least have to wear a collared s.h.i.+rt." Eisman took the cart to the clubhouse and bought a hoodie. The hoodie covered up his t-s.h.i.+rt and made him look a lot like a guy who had just bought a hoodie to cover up his t-s.h.i.+rt. In hoodie, gym shorts, and sneakers, Eisman approached his first shot. Like every other swing of the Eisman club, this was less a conclusive event than a suggestion. Displeased with where the ball had landed, he pulled another from his bag and dropped it in a new and better place. Vinny would hit his drive in the fairway; Danny would hit his in the rough; Steve would hit his in the bunker, march into the sand, and grab the ball and toss it out, near Vinny's. It was hard to accuse him of cheating, as he didn't make the faintest attempt to disguise what he was doing. He didn't even appear to notice anything unusual in the pattern of his game. The ninth time Eisman retrieved a ball from some sand trap, or pretended his shot had not splashed into the water, he acted with the same unapologetic aplomb he had demonstrated the first time. "Because his memory is so selective, he has no scars from prior experience," said Vinny. He played the game like a child, or like someone who was bent on lampooning a sacred ritual, which amounted to the same thing. "The weird thing is," said Danny, "he's actually not bad."

After a round of golf, they headed out to a dinner at the Wynn hotel hosted by Deutsche Bank. This was the first time Eisman had ever been to a conference for bond market people and, not knowing what else to do, he had put himself in Greg Lippmann's hands. Lippmann had rented a private room in some restaurant and invited Eisman and his partners to what they a.s.sumed was something other than a free meal. "Even when he had an honest agenda, there was always something underneath the honest agenda," said Vinny. Any dinner that was Lippmann's idea must have some hidden purpose--but what?

As it turned out, Lippmann had a new problem: U.S. house prices were falling, subprime loan defaults were rising, yet subprime mortgage bonds somehow held firm, as did the price of insuring them. He was now effectively short $10 billion in subprime mortgage bonds, and it was costing him $100 million a year in premiums, with no end in sight. "He was obviously getting his nuts blown off," said Danny. Thus far Lippmann's giant bet had been subsidized by investors, like Steve Eisman, who paid him a toll when they bought and sold credit default swaps, but investors like Steve Eisman were losing heart. Some of Lippmann's former converts suspected that the subprime mortgage bond market was rigged by Wall Street to insure that credit default swaps would never pay off; others began to wonder if the investors on the other side of their bet might know something that they didn't; and some simply wearied of paying insurance premiums to bet against bonds that never seemed to move. Lippmann had staged this great game of tug-of-war, a.s.sembled a team to pull on his end of the rope, and now his teammates were in full flight. He worried that Eisman might quit, too.

The teppanyaki room inside the Okada restaurant consisted of four islands, each with a large, cast-iron hibachi and dedicated chef. Around each island Lippmann seated a single hedge fund manager whom he had persuaded to short subprime bonds, along with investors who were long those same bonds. The hedge fund people, he hoped, would see see just how stupid the investors on the other side of those bets were, and cease to worry that the investors knew something they did not. This was shrewd of him: Danny and Vinny never stopped worrying if they were the fools at Lippmann's table. "We understood the subprime lending market and knew the loans were going bad," said Vinny. "What we didn't have any comfort in was the bond market machine. The whole reason we went to Vegas was we still felt we needed to learn how we were going to get screwed, if we were going to get screwed." just how stupid the investors on the other side of those bets were, and cease to worry that the investors knew something they did not. This was shrewd of him: Danny and Vinny never stopped worrying if they were the fools at Lippmann's table. "We understood the subprime lending market and knew the loans were going bad," said Vinny. "What we didn't have any comfort in was the bond market machine. The whole reason we went to Vegas was we still felt we needed to learn how we were going to get screwed, if we were going to get screwed."

Eisman took his a.s.signed seat between Greg Lippmann and a fellow who introduced himself as Wing Chau and said that he ran an investment firm called Harding Advisory. When Eisman asked exactly what Harding Advisory advised, Wing Chau explained that he was a CDO manager. "I had no idea there was such a thing as a CDO manager," said Eisman. "I didn't know there was anything to manage." Later Eisman would fail to recall what Wing Chau looked like, what he wore, where he'd come from, or what he ate and drank--everything but the financial idea he represented. But from his seat across the hibachi, Danny Moses watched and wondered about the man Lippmann had so carefully seated next to Eisman. He was short, with a Wall Street belly--not the bleacher b.u.m's boiler but the discreet, necessary pouch of a squirrel just before winter. He'd graduated from the University of Rhode Island, earned a business degree at Babson College, and spent most of his career working sleepy jobs at sleepy life insurance companies--but all that was in the past. He was newly, obviously rich. "He had this smirk, like, I know better I know better," said Danny. Danny didn't know Wing Chau, but when he heard that he was the end buyer of subprime CDOs, he knew exactly who he was: the sucker. "The truth is that I didn't really want to talk to him," said Danny, "because I didn't want to scare him."

When they saw that Lippmann had seated Eisman right next to the sucker, both Danny and Vinny had the same thought: Oh no. This isn't going to end well Oh no. This isn't going to end well. Eisman couldn't contain himself. He'd figure out the guy was a fool, and let him know it, and then where would they be? They needed fools; only fools would take the other side of their trades. And they wanted to do more trades. "We didn't want people to know what we were doing," said Vinny. "We were spies, on a fact-finding mission." They watched Eisman double-dip his edamame in the communal soy sauce--dip, suck, redip, resuck--and waited for the room to explode. There was nothing to do but sit back and enjoy the show. Eisman had a curious way of listening; he didn't so much listen to what you were saying as subcontract to some remote region of his brain the task of deciding whether whatever you were saying was worth listening to, while his mind went off to play on its own. As a result, he never actually heard what you said to him the first time you said it. If his mental subcontractor detected a level of interest in what you had just said, it radioed a signal to the mother s.h.i.+p, which then wheeled around with the most intense focus. "Say that again," he'd say. And you would! Because now Eisman was so obviously listening to you, and, as he listened so selectively, you felt flattered. "I keep looking over at them," said Danny. "And I see Steve saying over and over, Say that again. Say that again. Say that again. Say that again."

Later, whenever Eisman set out to explain to others the origins of the financial crisis, he'd start with his dinner with Wing Chau. Only now did he fully appreciate the central importance of the so-called mezzanine CDO--the CDO composed mainly of triple-B-rated subprime mortgage bonds--and its synthetic counterpart: the CDO composed entirely of credit default swaps on triple-B-rated subprime mortgage bonds. "You have to understand this," he'd say. "This was the engine of doom." He'd draw a picture of several towers of debt. The first tower was the original subprime loans that had been piled together. At the top of this tower was the triple-A tranche, just below it the double-A tranche, and so on down to the riskiest, triple-B tranche--the bonds Eisman had bet against. The Wall Street firms had taken these triple-B tranches--the worst of the worst--to build yet another tower of bonds: a CDO. A collateralized debt obligation. The reason they'd done this is that the rating agencies, presented with the pile of bonds backed by dubious loans, would p.r.o.nounce 80 percent of the bonds in it triple-A. These bonds could then be sold to investors--pension funds, insurance companies--which were allowed to invest only in highly rated securities. It came as news to Eisman that this s.h.i.+p of doom was piloted by Wing Chau and people like him. The guy controlled roughly $15 billion, invested in nothing but CDOs backed by the triple-B tranche of a mortgage bond or, as Eisman put it, "the equivalent of three levels of dog s.h.i.+t lower than the original bonds." A year ago, the main buyer of the triple-A-rated tranche of subprime CDOs--which is to say the vast majority of CDOs--had been AIG. Now that AIG had exited the market, the main buyers were CDO managers like Wing Chau. All by himself, Chau generated vast demand for the riskiest slices of subprime mortgage bonds, for which there had previously been essentially no demand. This demand led inexorably to the supply of new home loans, as material for the bonds. The soy sauce in which Eisman double-dipped his edamame was shared by a man who had made it possible for tens of thousands of actual human beings to be handed money they could never afford to repay.

As it happened, FrontPoint Partners had spent a lot of time digging around in those loans, and knew that the default rates were already sufficient to wipe out Wing Chau's entire portfolio. "G.o.d," Eisman said to him. "You must be having a hard time."

"No," Wing Chau said. "I've sold everything out."

Say that again.

It made no sense. The CDO manager's job was to select the Wall Street firm to supply him with subprime bonds that served as the collateral for CDO investors, and then to vet the bonds themselves. The CDO manager was further charged with monitoring the hundred or so individual subprime bonds inside each CDO, and replacing the bad ones, before they went bad, with better ones. That, however, was mere theory; in practice, the sorts of investors who handed their money to Wing Chau, and thus bought the triple-A-rated tranche of CDOs--German banks, Taiwanese insurance companies, j.a.panese farmers' unions, European pension funds, and, in general, ent.i.ties more or less required to invest in triple-A-rated bonds--did so precisely because they were meant to be foolproof, impervious to losses, and unnecessary to monitor or even think about very much. The CDO manager, in practice, didn't do much of anything, which is why all sorts of unlikely people suddenly hoped to become one. "Two guys and a Bloomberg terminal in New Jersey" was Wall Street shorthand for the typical CDO manager. The less mentally alert the two guys, and the fewer the questions they asked about the triple-B-rated subprime bonds they were absorbing into their CDOs, the more likely they were to be patronized by the big Wall Street firms. The whole point of the CDO was to launder a lot of subprime mortgage market risk that the firms had been unable to place straightforwardly. The last thing you wanted was a CDO manager who asked lots of tough questions.

The bond market had created what amounted to a double agent--a character who seemed to represent the interests of investors when he better represented the interests of Wall Street bond trading desks. To a.s.sure the big investors who had handed their billions to him that he had their deep interests at heart, the CDO manager kept owners.h.i.+p of what was called the "equity," or "first loss" piece, of the CDO--the piece that vanished first when the subprime loans that ultimately supplied the CDO with cash defaulted. But the CDO manager was also paid a fee of 0.01 percent off the top, before any of his investors saw a dime, and another, similar fee, off the bottom, as his investor received their money back. That doesn't sound like much, but, when you're running tens of billions of dollars with little effort and no overhead, it adds up. Just a few years earlier, Wing Chau was making $140,000 a year managing a portfolio for the New York Life Insurance Company. In one year as a CDO manager, he'd taken home $26 million, the haul from half a dozen lifetimes of working at New York Life.

Now, almost giddily, Chau explained to Eisman that he simply pa.s.sed all the risk that the underlying home loans would default on to the big investors who had hired him to vet the bonds. His job was to be the CDO "expert," but he actually didn't spend a lot of time worrying about what was in CDOs. His goal, he explained, was to maximize the dollars in his care. He was now doing this so well that, from January 2007 until the market crashed in September, Harding Advisory would be the world's biggest subprime CDO manager. Among its other achievements, Harding had established itself as the go-to buyer for Merrill Lynch's awesome CDO machine, notorious not only for its rate of production (Merrill created twice as many of the things as the next biggest Wall Street firm) but also for its industrial waste (its CDOs were later proven to be easily the worst). "He 'managed' the CDOs," said Eisman, "but managed what? I was just appalled that the structured finance market could be so insane as to allow someone to manage a CDO portfolio without having any exposure to the CDOs. People would pay up to have someone 'manage' their CDOs--as if this moron was helping you. I thought, You p.r.i.c.k, you don't give a f.u.c.k about the investors in this thing You p.r.i.c.k, you don't give a f.u.c.k about the investors in this thing." Chau's real job was to serve as a new kind of front man for the Wall Street firms he "hired" investors felt better buying a Merrill Lynch CDO if it didn't appear to be run by Merrill Lynch.

There was a reason Greg Lippmann had picked Wing Chau to sit beside Steve Eisman. If Wing Chau detected Eisman's disapproval, he didn't show it; instead, he spoke to Eisman in a tone of condescension. I know better. I know better. "Then he says something that blew my mind," said Eisman. "He says, 'I love guys like you who short my market. Without you I don't have anything to buy.'" "Then he says something that blew my mind," said Eisman. "He says, 'I love guys like you who short my market. Without you I don't have anything to buy.'"

Say that again.

"He says to me, 'The more excited that you get that you're right, the more trades you'll do, and the more trades you do, the more product for me.'"

That's when Steve Eisman finally understood the madness of the machine. He and Vinny and Danny had been making these side bets with Goldman Sachs and Deutsche Bank on the fate of the triple-B tranche of subprime mortgage-backed bonds without fully understanding why those firms were so eager to accept them. Now he was face-to-face with the actual human being on the other side of his credit default swaps. Now he got it: The credit default swaps, filtered through the CDOs, were being used to replicate bonds backed by actual home loans. There weren't enough Americans with s.h.i.+tty credit taking out loans to satisfy investors' appet.i.te for the end product. There weren't enough Americans with s.h.i.+tty credit taking out loans to satisfy investors' appet.i.te for the end product. Wall Street needed his bets in order to synthesize more of them. "They weren't satisfied getting lots of unqualified borrowers to borrow money to buy a house they couldn't afford," said Eisman. "They were creating them out of whole cloth. One hundred times over! That's why the losses in the financial system are so much greater than just the subprime loans. That's when I realized they needed us to keep the machine running. I was like, Wall Street needed his bets in order to synthesize more of them. "They weren't satisfied getting lots of unqualified borrowers to borrow money to buy a house they couldn't afford," said Eisman. "They were creating them out of whole cloth. One hundred times over! That's why the losses in the financial system are so much greater than just the subprime loans. That's when I realized they needed us to keep the machine running. I was like, This is allowed? This is allowed?"

Wing Chau didn't know he'd been handpicked by Greg Lippmann to persuade Steve Eisman that the people on the other end of his credit default swaps were either crooks or morons, but he played the role anyway. Between shots of sake he told Eisman that he would rather have $50 billion in c.r.a.ppy CDOs than none at all, as he was paid mainly on volume. He told Eisman that his main fear was that the U.S. economy would strengthen, and dissuade hedge funds from placing bigger bets against the subprime mortgage market. Eisman listened and tried to understand how an investor on opposite ends of his bets could be hoping for more or less the same thing he was--and how any insurance company or pension fund could hand its capital to Wing Chau. There was only one answer: The triple-A ratings gave everyone an excuse to ignore the risks they were running.

Danny and Vinny watched them closely through the hibachi steam. As far as they could tell, Eisman and Wing Chau were getting along famously. But when the meal was over, they watched Eisman grab Greg Lippmann, point to Wing Chau, and say, "Whatever that guy is buying, I want to short it." Lippmann took it as a joke, but Eisman was completely serious: He wanted to place a bet specifically against Wing Chau. "Greg," Eisman said, "I want to short his paper. Sight unseen." Thus far Eisman had bought only credit default swaps on subprime mortgage bonds; from now on he'd buy specifically credit default swaps on Wing Chau's CDOs. "He finally met the enemy, face-to-face," said Vinny.

In what amounted to a brief attempt to live someone else's life, Charlie Ledley selected from the wall a Beretta pistol, a sawed-off shotgun, and an Uzi. Not long before he'd walked out the door for Las Vegas, he'd dashed an e-mail off to his partner Ben Hockett, who planned to meet him there, and Jamie Mai, who didn't. "Do you guys think we're screwed since we haven't preregistered for anything?" he asked. It wasn't the first time Cornwall Capital had heard about some big event in the markets to which they hadn't been formally invited and more or less invited themselves, and it wouldn't be the last. "If you just kind of show up at these things," said Jamie, "they almost always let you in." The only people Charlie knew in Vegas were a few members of the subprime mortgage machine at Bear Stearns, and he'd never actually met them in person. Nevertheless, they had sent him an e-mail telling him, after he landed in Las Vegas, to meet them not at the conference but at this indoor shooting range, a few miles from the strip. "We goin' shootin on Sunday...," it began. Charlie was so taken aback, he called to ask them what it meant. "I was like, 'So you're going to go shoot... amounted to a brief attempt to live someone else's life, Charlie Ledley selected from the wall a Beretta pistol, a sawed-off shotgun, and an Uzi. Not long before he'd walked out the door for Las Vegas, he'd dashed an e-mail off to his partner Ben Hockett, who planned to meet him there, and Jamie Mai, who didn't. "Do you guys think we're screwed since we haven't preregistered for anything?" he asked. It wasn't the first time Cornwall Capital had heard about some big event in the markets to which they hadn't been formally invited and more or less invited themselves, and it wouldn't be the last. "If you just kind of show up at these things," said Jamie, "they almost always let you in." The only people Charlie knew in Vegas were a few members of the subprime mortgage machine at Bear Stearns, and he'd never actually met them in person. Nevertheless, they had sent him an e-mail telling him, after he landed in Las Vegas, to meet them not at the conference but at this indoor shooting range, a few miles from the strip. "We goin' shootin on Sunday...," it began. Charlie was so taken aback, he called to ask them what it meant. "I was like, 'So you're going to go shoot...guns?'"

That Sunday afternoon of January 28, at The Gun Store in Las Vegas, it wasn't hard to spot the Bear Stearns CDO salesmen. They came dressed in khakis and polo s.h.i.+rts and were surrounded by burly men in tight black t-s.h.i.+rts who appeared to be taking the day off from hunting illegal immigrants with the local militia. Behind the cash register, the most sensational array of pistols and shotguns and automatic weapons lined the wall. To the right were the targets: a photograph of Osama bin Laden, a painting of Osama bin Laden as a zombie, various hooded al Qaeda terrorists, a young black kid attacking a pretty white woman, an Asian hoodlum waving a pistol. "They put down the Bear Stearns credit card and started buying rounds of ammunition," said Charlie. "And so I started picking my guns." It was the Uzi that made the biggest impression on him. That, and the giant photograph of Saddam Hussein he selected from the wall of targets. The shotgun kicked and bruised your shoulder, but the Uzi, with far more killing power, was almost gentle; there was a thrilling disconnect between the pain you experienced and the damage you caused. "The Beretta was fun but the Uzi was totally awesome," said Charlie, who left The Gun Store with both a lingering feeling of having broken some law of nature, and an unanswered question: Why had he been invited? The Bear Stearns guys had been great, but no one had uttered a word about subprime mortgages or CDOs. "It was totally weird, because I'd never met the guys before and I'm the only Bear Stearns customer who's there," said Charlie. "They were paying for all this ammo and so I'm like, 'Guys, I can buy a few rounds for myself if you want,' but they insisted on treating me like the customer." Of course, the safest way to expense to one's Wall Street firm a day of playing Full Metal Jacket was to invite some customer along. And, of course, the most painless customer to invite was one whose business was so trivial