Changes...

Hello everyone,

My website has a new look!

www.umarsaeed.ca/

I've also just posted a piece about the unintended consequences of Wind Farms in Ontario.

If you'd like to continue with your subscription, just click on the subscription box at the bottom of the new webpage. You won't be receiving double subscriptions, as this site will be disabled soon.

Thank you,

Umar

The Big Picture

[This is the second piece on protesting at the G20. Part 1 is here.]

You see this picture? I know the kid that did that. He and his friends waited until Waterloo was completely asleep, and they set out to spray-paint the town with their words. Since he was driving, the kid was completely sober that night, although it was anything but a sober operation. What they realized as they stumbled through the night, whispering, looking out, keeping the car running, was that their footsteps would go unnoticed because the people of this town rested deeply at night.



He was on a high the next day when he took this picture. But as he retraced his steps from the previous night, he noticed that most of the graffiti had already been wiped clean off the glass. The town had seen this before.



As the kid continued to class, he paused at the words “Moderation Kills The Spirit,” painted with bold black lines on a white wall near the University bookstore, a high traffic area. Students walked by without noticing it. It would appear that this town slept deeply during the day too.


Why did he do it? What was his point? He had a different answer, depending on who asked. He was trying to make art. He was trying to make people think. He was trying to make reality TV. He was trying to make a difference. If you ask me, I think he was just trying to be heard.


Whenever he looks back at this picture, it reminds the kid that despite pulling a unique stunt in a quaint town, the people of Waterloo had been conditioned to categorize his actions with the actions of others, a general all-encompassing movement of frustration and protest against all things corporate. It didn’t actually matter that his intentions were different. That’s how everyone else had perceived it, and that’s why it was dismissed with such ease – they had heard it all before.



The kid’s story is a reminder of how society can dismiss any kind of message that even remotely resembles a protest. Even carefully placed words to inspire thought and skepticism of the world around us were simply signs of another protest, as far as the town was concerned. Some anti-corporate punks trying to destroy property, that’s all. 



I understand how much a large part of protesting is the need to be heard. But we must recognize that protesting is a medium, just like the walls were for spray-painting. It’s just a channel to communicate the message, and people are tuning out. Increasingly, protesters believe making a bigger bang is the answer because they aren’t being heard. But what if they did the opposite?



They have spent billions building a fence, securing the core, closing roads, hiring and housing police and security, creating relief centres, the list goes on. Why not hold a massive, all-encompassing Protest Bazaar at Downsview Park on the weekend? It would completely undermine this government’s actions and show the entire country, perhaps even the world, exactly what a waste of money this was. Let the media tape the hoards of cops simply loitering the empty streets of the Toronto core, riding around to coffee shops in packs, aimlessly, looking for something that will never come. I can’t imagine making a louder bang.



This plays on the forgotten benefits of protesting, the gathering, the mingling, the pamphlets, the lectures, the cross-linking, the recruiting, and in general, making people aware. Not only would the media cover it, ordinary citizens wouldn’t be afraid to participate in it. This stunt would nestle itself into the hearts of the massive Canadian majority that is angry at the cost of the entire program.



Whenever I look at this picture, I think about how hard the kid tried to make a difference. He slaved over choosing the right words. I think about all the students who never paid any attention to it. I think about how if he hadn’t done this, he would never have known what to do next.



It’s a mistake to think that there’s no point in protesting, in the same way as it’s a mistake to think protesting alone will bring about change.

Protest State

I have received a few comments on the increased swear words, but I wouldn't be doing the true spirit of the G20 any justice without this language. It would be like writing an episode of Trailer Park Boys without using the F word. Hopefully, I can set it aside and be my professional self once this is all over, but I do apologize for it in the meantime. This is the first part of two on protesting.

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Line up! Barricade! Single File! Where’s your buddy! Move out! We’re going to need more people down here! Who’s that?! Keep them together! Make them go west!

Bikes and Blue, every officer with shades, everywhere we went, all around us, every corner, in the distance, along the sidewalks, collapsing and recreating themselves over and over again, providing a Bike and Blue path for the protesters to march through, funneling protesters along the streets of Toronto, containing them. Andy and I were relieved that the police could distinguish us, two simple observers of the exercise, from the actual protesters. He wore a collared shirt and I stayed off to the side with my hands in my pockets. We basically just moved with the crews from CTV, CBC, CP24, SUN TV, OMNI, and some other channels I didn’t recognize.

This was my first time being out to a real live protest, and I wasn’t impressed.

More childcare! Help the Unemployed! Gay rights! Immigration Rights! Free Palestine! Aboriginal Rights! Who’s Streets? Our Streets! Who’s Esso? Our Esso!

I’ll classify this one as a hodgepodge of protests to kick off the G20. There was no real message. I was right beside the CBC guy when he arrived at the scene, asking the CTV lady casually, “what’s going on?” while preparing his boom mic.

“I don’t know what the fuck they’re trying to do,” she said, flipping through her notes. “Abortion, Aboriginal rights, Unemployment…basically fuck the police, I don’t know,” she sighed.

At this point, I was laughing, because she looked frantic trying to find a story. I saw it right there in her notes, she had actually tried to write down all the chants, as if it would come together on paper. As far as protests go, this can’t be good. I would think you need the media to understand what your message is. The big “win” with a peaceful march is for the media to pick up your message. These protesters didn’t come close, and the media was left to make the story whatever they wanted.

The only thing that had happened that justified any of us being there was that occasionally a police officer would take a protester, bring him off to the side, hold him and shove him around a little, you know, ask him some questions. My guess is that the protester tried to take the protest outside the Bike and Blue path, and the police said no.

Let me be clear: there may very well have been proper organizations with an actual message to propagate, but they were completely undermined by what actually transpired, which was perceived to be a large gathering of generic protesters that didn’t like police presence. Andy noticed I was angered by the “Police State” chants, and asked me what exactly a police state was. I told him I didn’t know, but this definitely wasn’t it.

When I think of a Police State, I think about Pakistan in 1999 when the nation was actually under Marshall Law under General Musharraf’s rule. He managed to democratically elect himself as the president in order to legitimize his reign, but my grandmother told me that when she went to vote that day, there was a military officer with a rifle standing outside the voting booth, telling everyone to go home because they had already voted. People like my father leave places like Pakistan because they want to be free. He would never consider Toronto to be a police state, and I tend to believe him because he has lived in a much crappier place. I suppose if you’re comparing Toronto this week, to Toronto any other week, it probably looks like a Police State.

All these cops will be gone by the end of the week. But this kind of protest wouldn’t work any other week of the year. Without the police presence, without an actual message, and without true organization, this is really just a bunch of people yelling, “Who’s Esso? My Esso!” And here’s where we need to address a particular distinction when it comes to freedom.

When the protesters were like, “We’re allowed to walk!” the police backed off because it’s true, you are free to walk. But when the protesters decide to go into the Esso station and occupy the building, preaching their yelling on private property, then freedom gets slightly more complicated.

We live in a free society, but only to a certain extent. Which is to say, you are free to do whatever you want, provided that it doesn’t interfere with the freedom of others. Certain freedoms take precedent, especially when it comes to private property. Someone could read this post and hate everything I’ve said, and he’s free to disagree with it, but what he can’t do is show up outside my door and start chanting, “Who’s Blog? My Blog!” In that case, I would call the police, and I would fully expect him to be removed from my premises. Let’s not mix up a Police State with the protection of our private property laws, something we all enjoy thoroughly as Canadians.

Something else I want to point out is how much the police were being antagonized, and they all stood there and simply took it with a straight face. Pigs! Assholes! Police State! Fuckin’ Cops! Fuck You!

It reminds me of one particular drunken night during my University days. We were desperately trying to hail a cab, and we accidentally hailed a police cruiser. It slowed down as it drove by, and one of my friends was a little slow to recognize it was a police cruiser, and said “Ah Cops,” waiving his hand at them, “What are you good for?” The cruiser hit the breaks. We froze. The cruiser reversed, and the two cops both got out of the car and approached us. One particular cop was clearly angered by what my friend had said. This “bad” cop looked each one of us in the eye and asked us who had said it. We stayed silent for a bit, until one of my friends claimed that he had done it.

The “bad” cop started to push my friend around, who had his hands behind his back the whole time, showing everyone including the “good” cop that he wasn’t participating in the exchange. At the same time, my friend was vocal that he hadn’t done anything wrong. We got lucky. So freaking lucky. An actual fight broke out at the bar across the street, and all of us boys started pointing it out to the cops with a sense of urgency. The “good” cop was relieved that he could pull his partner away from us and towards McMullin’s Pub.

Of course that cop shouldn’t have pushed my friend around, who by the way didn’t actually say it, and took the punishment for all of us. That cop was completely out of line. Yet, to me, the moral of that story is that when you antagonize someone, you should be ready to pay the price. What if it was a tow-truck driving by instead of a cop, and my friend had said a similar thing about tow-truckers, and the driver got out of the car and beat the shit out of my friend? Who cares if it’s assault? We all learn in grade school, that although “he started it” rarely has any bearing when it comes to justice, it has everything to do with the consequences we face as humans. When you antagonize someone, you should be ready to pay the price. This isn’t about laws or rights or the G20 – this is about how humans deal with each other.

I must admit, the shop owners and bystanders did pause for a moment out of their every day lives, and it got people talking to each other, and watching, and it maybe even made them think about something. But with so much police presence trying to contain the rage, there’s a huge potential for an anger collision that simply isn’t worth a moment of confused reflection by surrounding civilians.

There’s one sound bite that has stuck with me. It was a lady cop standing among her peers forming the lines of Bike and Blue, shaking her head as the protesters occupied the gas station, whispering to the cop right beside her, probably someone from out of town, “I’m so ashamed of my city right now.”

Why Are We Here?

Crap. I just realized I don’t want to be at the G20. Sure, I’m not working like everyone else, but I really don’t feel prepared for the giant clusterfu** they’re arranging for us. They picked some of the most commercially dense land to host this thing, right in the core of the city. If you asked me to name the big 3 of Toronto transportation, I would say: Gardiner, Union Station, Yonge Street. These pathways spew out thousands of commuters into the core, and then suck them back up at night. Good idea, guys. Let’s have the G20 right near the heart of that whole process.

Which begs the question; why not make the hectic conference-heavy days statutory holidays? Like a one-time G20 exception? We wouldn’t have to worry nearly as much about innocent bystanders in some stupid protester/police mishap. It’s guaranteed to reduce injury, and if they had thought of it on time, they could have reduced costs on safety and security too.

I used to be one of those people, zipping around the subway to work each day, and I know if I was still working in an office, I would definitely be taking these days off. However, I would be pissed that I was being expected to use my own personal vacation days, which is the same as using my money, for something that I didn’t ask for and provides me no discernable benefit.

But I wouldn’t just sit there and blame the government, though. I would go to my bosses and tell them why shutting down the office for two days is the financially correct decision. Then, my bosses would call an emergency board meeting. I would present my argument with an incredibly zippy powerpoint presentation, especially considering I had virtually no time to prepare it. "Thank you, Umar," they would say, and once I had left the room, they would throw their papers up in the air with jubilation, "he's done it again!"

Because of the spectacle, you’re going to get about as much work done as when it’s a snow day. People will show up around noon, and talk for an hour about how bad it was getting into work. Then they’ll take lunch. Coffee break. Probably turn on the computer at this point. Settle in. Hey! It’s 3pm already! Gotta get a headstart getting home – G20 factor, you know?

In the end, it’s going to cost companies plenty to supply the office with power and other “overhead,” for what will be a handful of largely unproductive days. Employers could treat it like a weekend: if people want to come in for any reason, they’ll get credit for those hours. Others can choose to stay home. It’s not so much that workers will remember their employers with reverence for giving them this time off; it’s that workers will never forget the employers that screwed them over by making them work during the G20 shit-show.

But who knows? Maybe people will convince their bosses to award them a couple of “sick” days off. If I were still working at an office, I would think the G20 was a perfect opportunity to take a break. Why not disrupt your everyday routine and try to use the free time to listen to the issues, opinions, and learn about why the whole world is going to hell? Too many people have opinions but don’t know why.

I get it. The government spent a lot of money on this thing and it would be nice if we paid attention. But instead of having the time to reflect on the issues and happenings, we’re going to be plowing through it in order to get to work on time. Hey Government! They! Whatever you are! Don’t go and create a very substantial physical barrier right in the core of Toronto and then ask us to deal with it during office hours!

Well, luckily for me I don’t work in an office anymore. Great. It appears I’m here voluntarily. It’s probably a good thing I don’t have to go to the office during the G20. I won’t have to speed walk through tight crowds, sighing and cursing, throwing my arms up in the air at every single barrier, person or thing that presents itself, pointlessly trying to get somewhere on time. Instead, I’ll be the guy you keep running into that doesn’t know what he’s looking for.

G20 Interruption

Sorry about this. That last final piece of this epic Goldman Sachs series, where I tell you exactly what to do with your money is going to have to wait. It's time to drop everything and witness what is one of the strangest spectacles in the world: the G20. The most important closed-door meeting ever to be held in Toronto.

My friend Andy has invited me to be the Yin to his Yang on this page: G20 Balance Sheet

Although Andy and I have a lot in common, we don't always see eye-to-eye on many of the contentious political issues. But together, we figured we'll provide balance on a lot of the issues at play. This is complete coverage, we'll get into the issues tabled at the actual meeting, as well as the shit-show that's taking place outside. In this blog I try my best to avoid politics, but over the next couple of weeks I'll have to drop all of that, because everything is contentious and everything is political. There will be a giant crowd and every single person will be standing for a reason and I want to know why.

Here's a little excerpt from our G20 website about my relationship with Andy, where we are coming from and what we're setting out to do:
_____________________________

Umar, speaking about Andy

Somewhere under the ownership of Ernst & Young, one of the largest accounting firms in the world, in their Bermuda office security tapes, there are telephone conversations that went like this (think Borat):

- Andy speaking.

- Naaaaace!

- Yekshemesh!

- Successsss

- Naace.

- May I speak to a one man they call Andy?

- Naaace! That is me! Please talk.

- Success! Are you naaace?

- Yes! Riiaaaaaight! I have a laaaeeemp at my desk! I am very naaaace.”

- Chenkoui.

- Chenkwaaay

This was the typical phone conversation between Andy and myself while at work. In Bermuda, Andy and I lived together while working for different companies. I was an auditor chasing hedge funds and wagging my finger all the way, while Andy learned the finer points of relating to big-time investors and their bags of money. Luck and circumstance brought us together, but the thing that truly unites us is that gut feeling that we didn’t belong in the industry of money. We had always felt like outsiders.

Here we are, almost a decade later, and a very expensive private meeting about global money matters is coming to our City. I am honoured to work with The Schnerg, a most insightful and witty writer, and as I recall, once a savvy street-smart VP in the investment industry. I’m excited to cover what is already becoming a spectacle without an event. It’s fairly obvious the G20 Summit of 2010 is important. We’re going to try and show you why.

Andy, speaking about Umar:

I first met Umar when he moved to Bermuda and was looking for a place to stay. It’s entirely possible that when I found out a Brown Canadian Chartered Accountant (Umar Saeed, BCAA) was interested in renting a room in my apartment, I thought to myself, “Zzzzzzzzz. At least the rent will get paid on time.” But I would never admit that publicly.

As it happened, all my preconceptions were wrong (except the one about the rent). Umar isn’t your typical accountant. For one, he has interests beyond adding and subtracting. Interests like art, music, writing, and having open conversations about current affairs. Hell, the guy wrote a novel about post 9-11 Washington and anti-Muslim sentiment. Does your guy at H&R Block do that?

Whether he’s debating the finer points of Cito Gaston’s coaching decisions, explaining for the umpteenth time how the sub-prime collapse happened, swimming in the ocean at midnite, writing for his blog, or just enjoying a bucket of fried chicken, the dude stays level-headed and open-minded at all times, and always seems to enjoy the moment. These are qualities that I admire, and wish I had more of myself.

So it was no surprise to me that we found ourselves leaving the financial services industry at the same time. We are birds of a feather, and don’t understand the beast that is big banking. Working for a giant, faceless corporation that thrives on conformity, waste and inefficiency had its perks for a while, but just wasn’t worth the pain and suffering in the long run.

In his mind, I think Umar sees himself as a middle of the road, moderate kind of guy, with firm but fair views. To me, he’s an idealist who hasn’t lost sight of reality. Somebody that knows an anarchist state isn’t likely to happen, and even less likely to succeed. Somebody that would love for all of us to share wealth equally, but is too wise to the game to think the guys at the top will allow it. So rather than beat his head against a wall, he looks for practical, workable solutions that could help as many people as possible to life’s problems, big and small.

Goldman on Trial - Part 3

We left off talking about Rating Agencies and how it was their blessing that allowed the public pools of money to invest in anything, from shares in Apple to Mortgage Bonds created by Goldman. We uncovered the junk bond logic that taught us that by pooling a bunch of risky assets together, the sum of those assets are worth more than the individual parts.

But does this logic truly extend to personal loans, like mortgages, credit-lines and credit cards? It is true: by pooling mortgages together, the risk that a handful of people will default is mitigated by the diversity of the pool. But because these are personal loans, there’s a conflicting economic principle that prevents the entire pool being worth more than its individual parts.

In the summer of 1998, I worked as a bank teller at the Royal Bank in Streetsville. It was me and a collection of middle-aged women that enjoyed pinching my cheeks and sharing their lunch with me when I forgot mine. As Autumn approached, the bank knew I was leaving for school, and they gave me an incredible parting gift. It was a $20,000 unsecured line of credit at the prime rate. “Use it if you need it.” Oh man, did I ever need it!

Let’s be clear: they didn’t just trust me; they believed in me. I wasn’t going to be paying this back for at least five years. In the end, it was a profitable loan for the bank. I paid every single penny of interest and principal back. But what if someone like Goldman wanted to pluck the loan and make it a part of a larger credit derivative transaction? What did my loan look like to a third party?

Immediately, it’s not looking good. No assets, no reliable source of income, and an insufficient credit history. Dig a little deeper and analyze the activity of the loan, and we discover that I was using the loan itself to pay the interest, and there was an “incident” on my record where I had gone over the maximum, for which my bank called my mother and let her know that they cleared my payments anyway.

I’m not saying the loan is worthless, but with an unsecured loan like this, a third party would be able to command a considerable discount when purchasing the loan. The Royal Bank in Streetsville, the original issuer of the credit line, is always in the best position to know what the loan is worth. Third parties don’t care about what a good guy I am, or what I plan to be when I grown up. When you summarize the stats, details like that fall off the table. This is why personal loans are always worth more to the issuing bank than a third party. Third parties can command serious discounts, because they will constantly stress they don’t know who the hell I am.

Collection agencies make a living like this. They buy other peoples’ loans in exchange for cash, but they always pay you less. That’s how they make their money - discounts. They are taking on the risk of collection.

But somehow, under the confused logic of Wall Street, our money managers weren’t under the impression that they were taking on collection risk. Oh no! This is a derivative! Have you seen what a shiny, fancy, black box that spews money from every direction even looks like??? We’re not a collection agency! Haha-LOL!!! We are sophisticated money managers!!!

The public pools of money bought these securities blindly, and overpaid for personal mortgages with our money. The packaged credit securities were too complicated to evaluate or understand, as our money managers demonstrated. It’s been well documented that surging house values was holding up everyone’s confidence in these Mortgage Bonds, while the ability of the borrower to pay back the loan was largely ignored. Needless to say, a personal loan is very much backed by the person who is borrowing the money. Which is to say, a drop in housing prices does not affect a person's ability to repay the loan. In hindsight, defaults/foreclosures have had a tremendous impact on housing prices.

As much as third parties try and objectify personal lending by calculating credit scores and appraising assets held for collateral, it can never compensate for a borrower that feels obliged to repay the loan. The junk bond logic falls apart with personal loans, because once you translate a person into a credit score with an asset, you have lost the most important piece of information: Trust.

So why did our money managers fall into a hysterical buying binge when it’s clear they didn’t understand what the product was? The popular answers are: corporate greed, short-term thinking, personal greed, bonuses, faulty valuation models, rating agencies, stock market madness in general, sub-prime loans, excessive risk-taking, the science of bubbles, Freddy and Fannie, Jim Cramer, Capitalism, Greenspan, Ayn Rand, CNBC, and now Goldman Sachs. Basically all things we can’t do anything about. These are all symptoms of the problem, but to see the problem itself we need to take a step back.

The problem is that we have propped up too many money managers who stand to benefit from other peoples’ money.

"Nobody spends somebody else's money as carefully as he spends his own. Nobody uses somebody else's resources as carefully as he uses his own. So if you want efficiency and effectiveness, if you want knowledge to be properly utilized, you have to do it through the means of private property."- Milton Friedman

When Friedman said this, he wasn’t talking about the Investment Management industry. His point was that big, bureaucratic institutions like the government didn't spend our money well. They still don't. And I'm saying Mutual Funds, Pension Funds and Insurance Funds act like big, bureaucratic institutions. I can't think of a single more bureaucratic organization than a corporation that has no true owner and is made up entirely of other peoples' money: the Fund. The essence of the quote is that if you want money to be spent wisely, the owners of capital (that's us! private individuals) have to stay close to the money.

We have allowed large private corporations to spend our money for us, expecting them to have the same sense of duty and responsibility as we would with our own money. This crisis wasn’t a failure in government regulation, nor was it a failure of capitalism. It was a failure of Funds to act in a capitalistic way. We are guilty too. We don't want to think about it. Just make my money grow, okay?

Combine that with our fear of the complex financial world, and it's only natural that we handed off the burden of personal financial decisions to “experts,” who represented us in a game they had no idea they were a part of. They played because they were being paid to, not because they were good at it. This is a game that we financed every step of the way. We paid the Fund to invest our money in Mortgage Bonds. We paid Goldman through the Fund, for the privilege of investing in Mortgage Bonds. Sometimes, we pay one group of Funds to invest in other Funds. We signed off on all of this.

In the fourth and final installment, we'll explore our big pools of money more specifically and see if we can get any of our money out of this ridiculous game. Perhaps more importantly, we'll try and determine what the hell to do with the money once we get it out.

Goldman on Trial - Part 2

In Part I, we discussed how the lawsuit against Goldman would serve more as a distraction than a resolution to the massive loss of wealth the world experienced. To fully understand what happened, it’s important to remember a couple of lessons we learned back in the 1980s.

Do you remember at the end of the Breakfast Club, when Claire started making out with Bender? It’s easy to understand why she did it. They had been cooped up in that library all day, revealing their cigarette burned souls to each other. Plus, if you're Claire, there's no better way to piss off your parents than to make out with a guy right in front of their car, as they come to pick you up from detention. Claire was feeling good; she was breaking the rules. But come Monday, you knew it was going to be awkward. How was Claire going to explain this to her friends? She didn't need this – not in her senior year.

That’s where the rating agencies come in. Our public pools of money can often act irrationally, in a way that has consequences in the long run. For decades, our public money sat in the safest types of bonds: Federal, Provincial, State, Municipal, and certain commercial bonds. A combination of regulation and ratings created a fence around the money, so it can't chase Benders.

The rating agencies issue a rating for each bond, and pensions are permitted to invest in only those bonds that have a high "investment grade" rating. In the past, the our pensions never invested in derivatives; they were real bonds that belonged to a single business. Ultimately, it is the rating agency’s blessing that allows our large pools of public money to be invested in anything.

There is something else from the 1980s that is critical to the story: Junk Bond trading. Investment banks were making a ton of money trading Junk Bonds. Traders discovered a profitable phenomenon. Because these bonds were rated poorly by the agencies, it meant that public pools couldn't buy junk bonds. But the public pools of money were so large and they represented such enormous demand, that it created a large disparity in the bond market. The demand for investment grade bonds was inflated in value, while the market for junk bonds thinned out so as to provide ample buying opportunities. Throughout the eighties, traders would buy junk on the cheap and profit with patience. Then a man named Fred Carr did something crazy.

In 1989, Fred Carr created a Collateralized Bond Obligation that changed the landscape of junk bonds forever. Carr worked at First Executive bank, and like every other bank at that time, they held a large portfolio of junk bonds. At the time, regulations required Carr to fully finance his reserves for these junk bonds. In other words, regulators were concerned that these junk bonds might default, so they made First Executive keep cash on hand, in case they failed. For every dollar of junk you hold, you must set aside a dollar in your vault. This was to ensure that First Executive could continue operations in case the bonds defaulted, or could not be sold due to market conditions.

Carr took all his junk bonds and pooled them together into a new corporation (Special Purpose Entity). Once all the junk bonds were in a separate entity, that SPE issued three types of shares. Class A would be guaranteed a return of 4%. Class B would get a return of 6%. The final class would get whatever was left over, and was by far the riskiest class since it was not guaranteed to get anything.

Carr knew that the risk of all the junk bonds defaulting at once was low. By pooling all the junk bonds together, he created a new financial instrument. Sure, maybe one or two bonds in the pool might default, but most of them would be fine. In the new pooling scheme he created, he could easily promise the first two share classes a reasonable return, while leaving the risk to the final share class that may or may not benefit - the risk of those few bonds defaulting fell entirely on the last share class.

After creating this new corporation that was made up entirely of junk bonds, First Executive proceeded to purchase 100% of the SPE. In reality, First Executive had the exact same portfolio as it did before the transaction. However, the way he had designed the shares of the new corporation (A & B shares being promised a fixed return, while the final share class bore all the risk of default), he was able to get around the reserve requirements. The first two share classes of the CBO would be rated highly by the rating agencies, and only the riskiest share class (aptly referred to as “toxic waste”), would receive a junk rating.

Previously, First Executive had to keep cash on hand for the entire pool of junk bonds. Now, they only had to set aside money for the riskiest share class. As a bank, there is an inherent advantage to keeping fewer reserves. It means they can lend more of their cash on hand, which means they can make more money. The risk to First Executive was exactly the same as before, yet by changing the legal form of their portfolio, they had persuaded the rating agencies using the junk bond logic of the 1980s.

For the next 20 years, everyone is doing what Carr did, except they're using mortgages, car loans and credit cards. Because the first two share classes receive the good credit rating, the public pools of money could now buy these products. And buy it they would. That public money has an insatiable appetite for above-average returns with investment grade risk. Add to that, it was in the bank's interest to facilitate these deals because they were incredibly profitable.

Rating agencies, often thought of as gatekeepers, opened the doors so our money could participate in credit pools that were previously restricted. Imagine, if you were Claire, and you showed up to school on Monday to discover that all your friends suddenly had a big crush on Bender. At that point, you don’t ask why; you just go for it.