GPOM

THE GIANT POOL OF MONEY
THIS AMERICAN LIFE EPOSODE TRANSCRIPT # 355
IRA GLASS

[VERY LIGHTLY EDITED Google This American Life Ira Glass Public Radio]]

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This American Life Episode Transcript
Program #355

The Giant Pool of Money [Part 1]

Ira Glass: So Adam, where are we?

Adam Davidson: I recorded this at the Ritz Carlton in lower Manhattan. It’s a black
tie dinner, just a few weeks ago.

Ira Glass: And you, by the way, are NPR’s International Business and Economics
correspondent.

Adam Davidson: That’s right. I was there for my job. They’re giving out awards for
all these financial securities, including the one that nearly brought down the global
financial system. You know, the whole sub prime mortgage crisis.

Jim Finkel: This guy is a legend. He’s a granddaddy of our industry.

Adam Davidson: I’m sitting at this dinner with Jim Finkel. He’s kind of nervous
because he’s up for CDO of the Year for the CDO he created, Monterrey. Now, the
CDO, that’s what we’re talking about, that’s the financial instrument that was central
to this global credit crisis we’re in.

Ira Glass: And they’re giving awards for this? These guys are giving each other
awards for doing that?

Adam Davidson: Let me just say, they’re aware that there’s a certain irony, giving
awards to the instrument that almost destroyed the world’s economy. They did
consider canceling this year but it’s been a really tough year, it’s been really gloomy
for them.

Jim Finkel: Honestly, I know this sounds...I was happy to see there were no
major suicides, people weren’t jumping off bridges, there weren’t personal
disasters.

Adam Davidson: That same week, a few days earlier across the river in Brooklyn, I
went to a completely different kind of gathering. It was not black tie. It was put on
by the Neighborhood Assistance Corporation of America. It was people on the
opposite side of the mortgage crisis. People facing foreclosure, trying to figure out
how to keep their homes. I met this one guy Richard, he’s a Marine. This big guy,
over six feet tall. When he came back from Iraq a few years ago he bought one of
these fancy new mortgages with an adjustable rate. Recently his rate reset. It’s gone
up by more than $2,000 a month and he’s fallen behind on his payments.

Richard Campbell: At one point, my son had $7,000 in a CD and I had to
break it. That really hurt. I was saving that money for his college. I put
$2,000 back but it’s like you can’t have a future. They put you in a situation
where after a while you’re going to fail. It’s hard.

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Adam Davidson: It’s clear these two groups are connected. Jim at the black tie
dinner and Richard the marine. The sub prime crisis has connected them.

Ira Glass: Right. And I know this is what sent you and one of the producers of our
show, Alex Blumberg, on a big reporting mission these last few months. You saw
that. That there’s this long chain of people that starts with these Wall Street guys
and ends with people who stand to lose their houses. All along that chain there were
bankers and brokers and investors and homeowners. Everybody deluded themselves,
thinking they could throw out the old rules of banking.

Adam Davidson: Right. In all the coverage of this we hadn’t heard much from the
people all along the chain. We wanted to know what where they thinking when they
were doing all this? And why did they think it would work? And simply, how did it all
work?

Ira Glass: So, this is what we’re devoting our program to today. From WBEZ
Chicago, it’s This American Life distributed by Public Radio International. I’m Ira
Glass. And today’s show is a special co-production we’re doing with NPR News – your
place of employment Adam.

Adam Davidson: Very proudly so.

Ira Glass: You and Alex Blumberg are going to be explaining step by step how this
all worked and we’ll meet some of the people who created this economic disaster.
Let me turn the show over to the two of you, which is great for me because I’ve
pretty much lost my voice anyway. Alex Blumberg will kick things off.

Alex Blumberg: The thing that got me interested in all this was something called a
NINA loan. Back when the housing crisis was still a housing bubble. A guy on the
phone told me that a NINA loan stands for No Income, No Asset, as in, someone will
lend you a bunch of money without first checking if you have any income or any
assets. And it was an official, loan product. Like, you could walk into a mortgage
broker’s office and they would say, well, we can give you a 30 year fixed rate, or we
could put you in a NINA. He said there were lots of loans like this, where the bank
didn’t actually check your income, which I found confusing. It turns out even the
people who got them found them confusing. For example, a guy I met named
Clarence Nathan. He worked 3 part time, not very steady jobs, and made a total of
roughly 45 thousand dollars a year. He got himself into trouble and needed
money, so he took out a loan against his house. A big one.

Clarence Nathan: Call it 540 for round figures

Alex Blumberg: And you basically borrowed that from the bank and they
didn’t check your income?

Clarence Nathan: Right. It’s a no-income verification loan. They don't do
that. It's almost like you pass a guy in the street and say: lend me 540,000
dollars? He says, what do you do? Hey, I got a job. OK. It seems that casual
even though there are a lot of papers that get filled out and stuff flies all over
with the faxed and emails. Essentially, that's ... that the process.

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Alex Blumberg: Would you have loaned you the money?

Clarence Nathan: I wouldn't have loaned me the money. And nobody that I
know would have loaned me the money. I know guys who are criminals who
wouldn't loan me that and they break your knee-caps. I don’t know why the
bank did it. I’m serious ... 540 thousand dollars to a person w/bad credit.

Alex Blumberg: As it turns out, Clarence's friends, acquaintances and shadowy
criminal contacts would have been right not to lend him money. At the time I talked
to him, Clarence hadn’t made a payment in almost a year, and his house was in the
process of foreclosure.

Stories like this have been in the news for months. They often feature an innocent
homeowner who was duped by a lying, greedy mortgage banker. Or, if you’re more
of a Wall Street Journal editorial page type, an innocent mortgage banker who was
duped by lying, greedy homeowner. No doubt, both categories exist, but Clarence's
case is more nuanced...and much more common:

Clarence Nathan: Nobody came and told me a lie: just close your eyes and
the problem will go away. That's wasn’t the situation. I needed the money.
I'm not trying to absolve myself of anything. I thought I could do this and get
out of it within 6 to 9 months. The 6 to 9 month plan didn’t work so I’m stuck.
If somebody had told me I couldn’t borrow the money I probably would’ve
had to do something else more drastic and dramatic and not be in this
situation now. The bank made an imprudent loan. I made an imprudent loan.
We’re partners in this.

Alex Blumberg: This imprudent partnership is new, and is at the heart the current
housing crisis. For most of the history of banking, bankers wouldn’t have loaned
Clarence their money either. They didn’t let people like Clarence near their money, in
fact, people with part-time employment, and unpaid debts in their past. And then,
suddenly, in the early 2000’s, everything changed, banking turned on its head and
went out looking for partnerships with people like Clarence...loaning him half a
million dollars without even checking to see if he had a job. What happened?

Alex Blumberg: To help explain out what happened, here's my partner for this
hour, Adam Davidson, the international business reporter for NPR. Hey Adam.

Adam Davidson: Hey Alex.

Alex Blumberg: So, I guess the first thing we have to talk about is the global pool
of money, right?

Adam Davidson: Right. The global pool of money. That's where our story begins.
Most people don’t think about it but there’s this huge pool of money out there, which
is basically all the money the world is saving now. Insurance companies saving for a
catastrophe, pension funds saving money for retirement, the central bank of England
saving for whatever central banks save for. All the world’s savings.

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Ceyla Pazarbasioglu: It's a lot of money. It's about 70 trillion.

It's a lot of money. It's about 70 trillion.

Adam Davidson: That is the head of capital market research at the International
Monetary Fund, the place to go if you want know how much money is in the world.

Adam Davidson: How do we pronounce your name?

Ceyla Pazarbasioglu: That will take two minutes at least. It's Pazarbasioglu.
Ceyla Pazarbasioglu. I'm very impressed.

Adam Davidson: And, by the way, before you finance enthusiasts start writing any
letters, we do know that 70 trillion technically refers to that subset of global savings
called fixed-income securities. Everyone else can just ignore what I just said. Let’s
put 70 trillion dollars in perspective. Do this. Think about all the money that people
spend everywhere in the world. Everything you bought in the last year, all of it. Then
add everything Bill Gates bought. And all the rice sold in China and that fleet of
planes Boeing just sold to South Korea. All the money spent and earned in every
country on earth in a year: that is LESS than 70 trillion, less than this global pool of
money.

Alex Blumberg: Wow, that is a lot of money.

Adam Davidson: It is a lot of money. And that money comes with an army of very
nervous men and women watching over the pool of money: investment managers.
This army is nervous because they don't want to lose any of that money and they
also want to make it grow bigger. But to make it grow, they have to find something
to invest in. So, for most of modern history, they bought really, really safe, really
boring investments: things called treasuries and municipal bonds. Boring things. But
then, right before our story starts, something changed, something happened to that
global pool of money.

Ceyla Pazarbasioglu: This number doubled since 2000. In 2000 this was
about 36 trillion dollars.

Adam Davidson: So, it took several hundred years for the world to get to 36
trillion. Then, in six years, to get another 36 trillion.

Ceyla Pazarbasioglu: Yeah. There has been a very sharp increase.

Adam Davidson: How's the world get twice as much money to invest? Lots of
things happened, but the main headline is all sorts of poor countries became kind of
rich making TVs and selling us oil: China, India, Abu Dhabi, Saudi Arabia. Made a lot
of money and banked it. China, for example, has over a trillion dollars in its central
bank, and there are office buildings in Beijing filled with math geniuses-real math
geniuses-looking for a place to invest it. And the world was not ready for all this
money. There's twice as much money looking for investments, but there are not
twice as many good investments. So, that global army of investment managers was
hungrier and twitchier than ever before. They all wanted the same thing: a nice low
risk investment that paid some return.

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But then something happened to make matters worse, at this precise moment, one
guy took one of that army's favorite investments and made it a lot less attractive.

Alex Blumberg: So, this is where we have to talk about Alan Greenspan, right?

Adam Davidson: We have to.

Alex Blumberg: Alright. But I'm going to promise the people here that this is the
last time you're going to hear Alan Greenspan in this story. So bear with us.

Adam Davidson: Here is one of his speeches that really drove that army of
investment managers crazy.

Alan Greenspan: The FOMC stands prepared to maintain a highly
accommodative stance of policy for as long as needed to promote satisfactory
economic performance.

Adam Davidson: You might not believe me, but that little statement: that is Central
Banker speak for “Hey, global pool of money -- screw you.”

Alex Blumberg: Come on, that’s not what he said

Adam Davidson: It is! I speak central banker and that’s what he’s saying.

What he’s technically saying is he’s going to keep the Fed Funds rate at the absurdly
low level of one percent. It tells every investor in the world: you are not going to
make any money at all on US treasury bonds for a very long time. Go somewhere
else. We can’t help you.

And so the global pool of money looked around for some low-risk, high-return
investment. And among the many things they put their money into, there was one
thing they fell in love with. To get it, they called Wall Street -- a guy like this:

Mike Francis: My name is Mike Francis. During the beginning of the mortgage
implosion, I was an executive director at Morgan Stanley on the residential
mortgage trading desk.

Adam Davidson: Mike was one link in a chain that connected the global pool of
money to its new favorite investment, these residential mortgages, the US housing
market, and guys like Clarence Nathan.

Think how attractive a mortgage loan is to that 70 trillion dollar pool of money.
Remember, they're desperate to get any kind of interest return. They want to beat
that miserable 1 percent interest Greenspan is offering them.

And here are these homeowners, they're paying 5, 7, 9 percent to borrow money
from some bank. So what if the global pool could get in on that action?

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There are problems: Individual mortgages are too big a hassle for the global pool of
money. They don't wanna get mixed up with actual people and their catastrophic
health problems or debilitating divorces, and all the reasons which might stop them
from paying their mortgages.

Problems: Individual mortgages are too big a hassle for the global pool of
money. They don't wanna get mixed up with actual people and their catastrophic
health problems or debilitating divorces, and all the reasons which might stop them
from paying their mortgages.

So what Mike and his peers on Wall Street did, was to figure out how to give the
global pool of money all the benefits of a mortgage – basically higher yield – without
the hassle or the risk.

So picture the whole chain. You have Clarence. He gets a mortgage from a broker.
The broker sells the mortgage to a small bank, the small bank sells the mortgage to
a guy like Mike at a big investment firm on Wall Street.

Then Mike takes a few thousand mortgages he’s bought this way, he puts them in
one big pile. Now he’s got thousands of mortgage checks coming to him every
month. It’s a huge monthly stream of money, which is expected to come in for the
next thirty years, the life of a mortgage.

And he then sells shares of that monthly income to investors. Those shares are
called mortgage backed securities. And the 70 trillion dollar global pool of money
loved them.

Mike Francis: it was unbelievable. We almost couldn’t produce enough to
keep the appetite of the investors happy. More people wanted bonds than we
could actually produce. That was our difficult task, was trying to produce
enough. They would call and ask “Do you have any more fixed rate? What
have you got? What’s coming?” From our standpoint it's like, there's a guy
out there with a lot of money. We gotta find a way to be his sole provider of
bonds to fill his appetite. And his appetite’s massive.

Alex Blumberg: The problem was, to make a mortgage backed security. You
needed mortgages, lots of them. So for Mike Francis to satisfy his demand, and take
his quite hefty fee from the global pool of money, he needed to buy up as many
mortgage pools as possible.

And to do that, he called a guy one link below him, on the mortgage backed security
chain, a guy named Mike Garner, who worked at the largest private mortgage bank
in Nevada, called Silver State Mortgage. And to give you a sense of how fast this
business was growing, Mike got into the mortgage business straight from his
previous job as a bartender.

Mike Garner: One of my regulars in the bar, he actually hired me from the
bar. He said he needed some guys, and we started talking about how much I
made. He beat what I was making. I didn’t know anything about the
mortgage business. I was as green as you could be.

Alex Blumberg: Mike Garner’s job was to buy up individual mortgages, mainly from
brokers, bundle two or three hundred of them together, and sell them up the chain
to wall street, to guys like Mike Francis.

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Adam Davidson: Too many Mikes here. Too many Mikes here.

Alex Blumberg: So many Mikes. Actually just two. Mike Francis on Wall Street and
Mike Garner, the guy we’re talking about now.

Adam Davidson: He’s in Nevada.

Alex Blumberg: And in the beginning, he'd only buy mortgages that were pretty
standard and pretty safe. Mortgages where people had come up with a down
payment and proven they had a steady income and money in the bank.

And they sold so many mortgages that there came a point in 2003 where just about
everybody who wanted a mortgage and was qualified to get one .... had gotten one.

But the pool of money had just gotten started. They wanted more mortgage backed
securities.

So Wall Street had to find more people to take out mortgages. Which meant lending
to people who never would’ve qualified before.

And so Mike noticed that every month, the guidelines were getting a little looser.
Something called a stated income, verified asset loan came out, which meant you
didn't have to provide paycheck stubs and w-2 forms, as they had in the past. You
could simply state your income, as long as you showed that you had money in the
bank.

Mike Garner: The next guideline lower is just stated income, stated
assets. Then you state what you make and state what’s in your bank account.
They call and make sure you work where you say you work. Then an
accountant has to say for your field it is possible to make what you said you
make. But they don’t say what you make, just say it’s possible that they
could make that.

Alex Blumberg: It’s just so funny that instead of just asking people to prove
what they make there’s this theater in place of you have to find an
accountant sitting right in front of me who could very easily provide a W2, but
we’re not asking for a W2 form, but we do want this accountant to say yeah,
what they’re saying is plausible in some universe.

Mike Garner: Yeah, and loan officers would have an accountant they could call
up and say “Can you write a statement saying a truck driver can make this
much money?” Then the next one, came along, and it was no income, verified
assets. So you don't have to tell the people what you do for a living. You don’t
have to tell the people what you do for work. All you have to do is state you
have a certain amount of money in your bank account. And then, the next
one, is just no income, no asset. You don't have to state anything. Just have
to have a credit score and a pulse.

Alex Blumberg: Actually that pulse thing. Also optional. Like the case in Ohio where
23 dead people were approved for mortgages.

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Adam Davidson: An interesting fact, here. Mike Garner's bank did not care how
risky these mortgages were. This was the new era: banks didn't have to hold on to
these mortgages for 30 years. They didn’t have to wait and see if they’d be paid
back. Bank's like Garner's just owned them for a month or two and then sold them
on to Wall Street. Wall Street would sell them on to the global pool of money.

An interesting fact, here [-- so I repeat it ] : Mike Garner's bank did not care how
risky these mortgages were. This was the new era: banks didn't have to hold on to
these mortgages for 30 years. They didn’t have to wait and see if they’d be paid
back. Bank's like Garner's just owned them for a month or two and then sold them
on to Wall Street. Wall Street would sell them on to the global pool of money.

Alex Blumberg: Which is how we get half-million dollar, no income, no asset loans.

Adam Davidson: And loans to dead people. So there's another thing going on:
housing prices were rising, fast. Lots of people in the mortgage industry had this
faith that housing prices, in the US, simply never go down. So, from the bank's
perspective, even if the worst happens and someone defaults, the bank would then
own the house which is now worth even more than when they gave out the loan.

So, all Mike cared about was whether or not his customers--the Wall Street
investment banks -- would buy those mortgages from him. And he was under
pressure to approve more and more loans. Because other guys in his company -- the
actual guys cruising strip malls all across Nevada buying mortgages from brokers,
their commission depended on selling more loans. And occasionally, those guys
would hear about some loan that some other mortgage company offered that they
weren’t allowed to offer. And they'd complain to Mike.

Mike Garner: Three of them would show up at your door first thing in the
morning and say, I lost 10 deals last week to Meritius bank. They've got this
loan. Look at the guidelines for this loan. Is there any way we can do this?
We're losing deals left and right. I'd get on the phone and start calling all
these street firms or Countrywide and say “Would you buy this loan?” Finally,
you’d find out who was buying them.

Alex Blumberg: So, Merrill Lynch would say no. And Goldman Sachs would
say no. And you'd finally hit on somebody and they be like “Yeah, we’ll buy
that loan.”

Mike Garner: Yeah, and once I got a hit, I'd call back and say, “Hey, Bear
Stearns is buying this loan. I’d like to give you the opportunity to buy it too.”
Once one person buys them, all the rest of them follow suit.

Alex Blumberg: So, what were you thinking when you're turning around and
selling those to Wall Street. Were you ever thinking, “What are you guys
doing?”

Mike Garner: Yeah. And my boss was in the business for 25 years. He hated
those loans. He hated them and used to rant and say, “It makes me sick to
my stomach the kind of loans that we do.” He fought the owners and sales
force tooth and neck about these guidelines. He got same answer. Nope,
other people are offering it. We're going to offer them too. We’re going to get
more market share this way. House prices are booming, everything’s gonna
be good. And ... the company was just rolling in the cash. The owners and the
production staff were just raking it in.

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Insert Tape –

– Glen Pizzolorusso: At the height I was making between 75 and 100
grand a month.

Alex Blumberg: This is Glen Pizzolorusso, who was an area sales manager at an
outfit called WMC mortgage in upstate New York. Just to repeat, he was making 75
to a 100 grand a month. That's over a million dollars a year. Glen was just out of
college. His job was a lot like Mike Garner's, he was the same link in the chain, and
Glen loved his job.

Glen Pizzolorusso: What is that movie? Boiler Room? That's what it's like. I
mean, it's the cooling thing ever. Cubicle, cubicle, cubicle for 150,000 sq.
ft. The ceilings were probably 25 or 30 feet high. The elevator had a big
graffiti painting. Big open space. And it was awesome. We lived mortgage.

That’s all we did. This deal, that deal. How we gonna get it funded?
What’s the problem with this one? That's all everyone's talking about.

Alex Blumberg: And when Glen wasn't working, he was doing his next favorite
thing, spending ... preferably in the company of, and this is his term, b-list
celebrities:

Glen Pizzolorusso: We rolled up to Marquee at midnight with a line, 500
people deep out front. Walk right up to the door: Give me my table. Sitting
next to Tara Reid and a couple of her friends. Christina Aguilera was doing
some, I’m-Christina-Aguilera-and-I’m-gonna-get-up-and-sing kind of thing.
Who else was there? Cuba Gooding and that kid from Filthy Rich: Cattle
Drive. What was that kids name? Fabian Barabia? We ordered 3, 4 bottles of
Cristal at $1000 per bottle. They bring it out, you know hey're walking
through the crowd, they're holding the bottles over their heads. There's fire
crackers , sparklers. You know, the little cocktail waitresses. You know so you
order 3 or 4 bottles of those and they’re walking through the crowd and
everyone’s like: Whoa, who's the cool guys? We were the cool guys. They
gave me the black card with my name on it. There’s probably 10 in
existence. You know? And that meant that I spent way too much money
there.

Alex Blumberg: Glen had five cars, a 1.5 million dollar vacation house in
Connecticut, and penthouse that he rented in Manhattan. And he made all this
money making very large loans to very poor people with bad credit.

Glen Pizzolorusso: We looked at loans. These people didn't have a pot to piss
in. They can barely make a car payment and we're giving them a 300, 400
thousand dollar house.

Alex Blumberg: But Glen didn't worry about whether the loans were good. That's
someone else's problem. And this way of thinking thrived at every step of this
mortgage security chain. A guy like Mike Francis, from Morgan Stanley, he told me
he bought loans, lots of loans, from Glen's company, and he knew in his gut they
were bad loans. Like these NINA loans. were bad loans.

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Mike Francis: No income no asset loans. That's a liar's loan. We are telling
you to lie to us. We're hoping you don't lie. Tell us what you make, tell us
what you have in the bank, but we won't verify? We’re setting you up to lie.
Something about that feels very wrong. It felt wrong way back when and I
wish we had never done it. Unfortunately, what happened ... we did it
because everyone else was doing it.

Alex Blumberg: It's easy to ignore your gut fear when you are making a fortune in
commissions. But Mike had other help in rationalizing what he was doing.
Technological help. Mike sat at a desk with six computer screens, connected
to millions of dollars worth of fancy analytic software designed by brilliant Ivy league
math geniuses hired by his firm, which analyzed all the loans in all the pools that he
bought and then sold. And the software, the data ... [they] didn’t seem worried at all:

Mike Francis: All the data that we had to review, to look at, on loans in
production that were years old, was positive. They performed very well. All
those factors, when you look at the pieces and parts. A 90% NINA loan from
3 years ago is performing amazingly well. Has a little bit of risk. Instead of
defaulting 1.5% of the time it defaults at 3.5% of the time. That’s not so bad.
If I’m an investor buying that, if I get a little bit of return, I’m fine.

Adam Davidson: Wait Alex. I want to step in for a moment because this is a very
important piece of tape. A big part of this story, of this whole crisis, is that a lot of
really smart people, people who knew better, fooled themselves with this data. It
was the triumph of data over common sense. Can you play that tape again?

Mike Francis: All the data that we had to review to look at, on loans in
production, that were years old, was positive.

Adam Davidson: As we now know, they were using the wrong data. They looked at
the recent history of mortgages and saw that foreclosure rate is generally below 2
percent. So they figured, absolute worst-case scenario, the foreclosure rate may go
to 8 or 10 or 12 percent. But the problem with is there were all these new kinds of
mortgages, given out to people who never would have gotten them before. So the
historical data was irrelevant. Some mortgage pools, today, are expected to go
beyond 50 percent foreclosure rates.

Alex Blumberg: To be fair, they knew there were risks. But investors have a system
to assess those risks. They’re these special companies. Credit rating agencies.
Moody’s, Standard & Poor’s, Fitch. Their job, their main job, is to assess risk for Wall
Street and the global pool of money. They rate every kind of bond according to its
risk. Triple A is the safest, then there’s double A, single A, all the way down to single
B and below.

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And that’s all most investors look at -- the letter grade. They trust the credit rating
agencies. And these agencies blessed most of these mortgage-backed securities.
Gave them AAA ratings -- which means they were considered as safe as a US
government bond.

[Repeat] The letter grade. They trust the credit rating agencies.
And these agencies blessed most of these mortgage-backed securities.
Gave them AAA ratings -- which means they were considered as safe as a US
government bond.

This was the magic of this whole system. You could take a pool of thousands of risky
mortgages, and create a security that was called money-good, as safe as any
investment out there. At least that's what people thought.

But now we know those agencies relied on the wrong data. That same historic data
that had nothing to do with these new kinds of mortgages.

Adam Davidson: And then things got even worse. The thing that took this problem
and turned it into a crisis was something else that was new, something called a
Collateralized Debt Obligation. A CDO. And that brings us back to the guy we met at
the awards dinner in the beginning, Jim Finkel.

Jim Finkel: We’re heading to the trading floor of Dynamic Credit, where we
have all of our mortgage analysts, our head trader, our CIO.

Adam Davidson: Jim Finkel runs this CDO shop, Dynamic Credit. It takes up three
modified apartments on the upper East Side of Manhattan. The trading room is like a
factory floor for CDOs, it’s where they make the things. And this is what it sounds
like:

ROOM TONE.

Adam Davidson: Maybe factory is the wrong term. But this is where he makes
CDOs. But what is a CDO? He shows us on a computer screen.

Jim Finkel: Here’s our deal Monterey...

Adam Davidson: To start with, every CDO has its own name. Finkel loves his
country house in the Berkshires, so he always names his CDOs after towns in
western Mass. Like Monterey.

Jim Finkel: Monterey CDO limited. 189 assets...189 tranches of different MB
pools

Alex Blumberg: Let’s translate some of that. A mortgage-backed security, you
remember, is a pool of thousands of different mortgages. These are all put together
and divided into different slices. Jim used the word tranche. Tranche is just French
for slice -- some of these slices are risky, some are not. OK, a CDO is a pool of those
tranches. A pool of pools.

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And Jim and most companies like his weren’t buying the top-rated tranches -- the
safest ones, the AAAs. They were buying the lower-rated stuff. The high-risk stuff.
Jim’s company was buying tranches that came from Glen Pizzolorusso’s company.
The guy who hung out at nightclubs with B-list celebrities. The guy who said he was
selling mortgages to people who didn’t have a pot to piss in.

Adam Davidson: There's another term the industry uses, no joke, they call these
lower-rated tranches toxic waste. They're so high-risk, they're toxic.

Alex Blumberg: So, a CDO is sort of a financial alchemy. Jim takes that toxic stuff,
these low-rated, high-risk tranches, puts them all together. Re-tranches them, and
presto: he has a CDO whose top tranche is rated AAA, rock-solid, good as money.

If this seems too good to be true to you, you're in good company. Guys like
billionaire investor Warren Buffet said the very logic was ridiculous. But back in
2005, 2006, the global pool of money couldn't get enough of these things.

And the CDO industry was facing the same pressures everyone else was at every
other step of this chain. To loosen their standards. To make CDOs out of lower and
lower rated pools. This is Jim's partner, Tonko Gast.

Tonko Gast: In 2005, we had an internal debate here because there were
two banks coming to us, why don’t you do a deal with us, BBB securities, you
get paid a million bucks in management fees per year. Very clear, just like
that, in 2005. And we declined those deals. We just don't believe those BBB
RMBS assets are money-good. And we thought if we do a CDO of those, that's
gonna blow up completely.

We were early in '05 by not wanting to do those deals.
People were laughing at us. Saying you're crazy. You’re hurting your
business. Why don’t you want to make ... Per deal, you could make a million
dollars a year.

Adam Davidson: Did someone do that deal?

Tonko Gast: Absolutely! Everybody. Not everybody, but a lot of people did.

Ira Glass: Coming up, how 5 million dollars can get you into 100 million dollars of
trouble. In a minute, from Chicago Public Radio and Public Radio International, when
our program continues.

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