Lessons from Confidence Game

Thursday December 25, 2014

As exciting as the tech world is, it's good to know something about the world that goes on outside that bubble. I just finished reading Confidence Game on the recommendation of my friend @JakeCahan. If you never understood in-depth the financial crisis of the last decade, it's an entertaining book and well worth the read.

In a sentence, the book explores the financial crisis by telling the story of Bill Ackman, who made bets against certain financial institutions (bond and credit insurers) starting in 2002 and campaigned for the market to realize the instability of those institutions, ultimately leading to fruition in the 2008 collapse.

While his bets could have been worth upwards of $2.5 billion, he eventually sold the bets for $1.1 billion, with a personal take of $140 million. However, the gains were wiped out by losses in the rest of his portfolio. To be clear, the portfolio lost 11 percent in 2008, when the market lost 40 percent.

But probably the biggest idea that struck me after reading the book is that he waged this 6 year campaign, suffered criminal investigations, was branded as an outsider, essentially won the biggest bet that you could possible make (the collapse of the entire financial market) and didn't even take any money at the end of the day. I feel like I'm missing something, because that seems like a terrible return on your time. The real winners were still the CEOs that led companies to take massive risks, only to not feel the downside by getting bailed out by the government.

To put this another way, a start-up CEO with such a revolutionary idea (the entire market is fucked) would presumably walk away a billionaire and join the ranks of the Forbes list. I don't know of any Wall Street executives that are on the list.

The other eye-opening part was reading about how so many financial instruments were created in such an adhoc fashion. That is to say, I traditionally conceive of the financial markets as buying shares in a company, maybe buying futures on commodities, bonds, or currency exchange. But really, the financial markets can encompass any kind of contract. As long as you can provide something of value, you can initiate a contract and create a market. Rather than creating a product, you can be buying and selling risk or access to capital, and those are products that have value in the same way that building a website or app (can have) value.

Another lesson from the book just involves doing your homework. Bill Ackman did the work of the analysis, found these companies to be insecure, and executed a bet against them. Elon Musk espouses this same idea of using first principles. Basically, if you do your research, it doesn't matter what other people say. If you find something contrary to popular opinion, you've discovered a Secret, and your next step is to determine some way to profit from that.

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