Liar's Poker: Rising through the Wreckage of Salomon Brothers.

Liar's Poker: Rising through the Wreckage of Salomon Brothers 

DURING THE 1980s, there was a "modern Gold Rush" on Wall Street, a "rare and amazing glitch in the fairly predictable history of getting and spending," writes Michael Lewis, bond salesman and participant/observer at the feast.

There was a lot going on there, a lot of literary capital to be acquired, but the subject somehow evaded most writers. The thing even confounded those masters of excess, the newsmagazine reporters. Until now, the only one who had got it right was Tom Wolfe in The Bonfire of the Vanities.

Mr. Lewis grew up believing in the "faith" of money, taught to him by his father--that the amount of money one earns is a rough guide to one's contribution to the welfare and prosperity of society. "It took watching his son being paid 225 grand at the age of 27, after two years on the job, to shake his faith in money," he writes in an epilogue.

A degree in art history from Princeton, which gives him just the right air of ironic detachment, obviously did not translate into a job on the Street, but a stop at the London School of Economics and a chance encounter with the wife of a Salomon Brothers managing director at a state dinner in St. James's Palace did. She quickly dissuaded him from entering investment banking: real men, she told him, go into bond sales and trading. In short order, her husband hired him, and off he went to the Salomon Brothers training program in New York.

It is difficult to remember now, but in the heady days before 1987, there was an air of invincibility about Salomon Brothers. They were big dogs in trading and underwriting. They had invented the mortgage-backed securities market. They had Henry Kaufman on the payroll, Dr. Doom, who could and did move markets with his economic forecasts. They never spoke to the press. They were arrogant, and they had the earnings to back it up.

For want of a better word, Mr. Lewis, in the course of a very funny--and serious--book, demystifies the bond market of the 1980s. "The biggest myth about bond traders," he writes, "and therefore the greatest misunderstanding about the unprecedented prosperity on Wall Street in the 1980s, is that they make their money by taking large risks. A few do. And all traders take small risks. But most act simply as toll takers." Not quite as felicitous as Tom Wolfe's image of bond men taking the crumbs of cake that fall between the cracks, but still good and accurate in its way.

Two forces fueled the Eighties bond boom, according to Lewis. The first was Paul Volcker's Federal Reserve, which decided on a policy encouraging floating interest rates. This led to more volatility in the market, which is what traders and salesmen rely on to sell bonds. The second was America's borrowers, federal, municipal, corporate, and consumer, who loaded up on debt. Trades exploded in both size and frequency, with salesmen moving, Mr. Lewis writes, not $5 million per week, but $300 million in bonds each day.

Our bond market was setting the tone and the pace on Wall Street in the 1980s. Salomon Brothers was at the crossroads of change, gorging itself on the windfall from being at the right place at the right time, priding itself, justifiably, on its superior bond-trading skills. But all the time wearing a blindfold. It lacked an accurate vision of where this explosion in the bond market would lead. There was no shortage of opinions on what to do with the windfall gains. A trader always has a view. But the opinions were both arbitrary and self-indulgent. And Salomon Brothers, from 1980 onward, took what must be one of the most expensive and fanciful commercial rides in the history of the American corporation. For most of that ride it patted itself on the back.

Mr. Lewis takes the reader through his schoolboy's progress as trainee and geek in the trading room, to high-powered swashbuckler. The author has a puckish appreciation for the comic. Yet he also has the knack of explaining precisely how complex deals really work. He provides the most readable explanation I've seen anywhere of the origin within Salomon Brothers of the mortgage-backed securities market, and at the same time includes an irreverent profile of one of its fathers, Lewis Ranieri: "Ranieri created a trading desk in his own image: Italian, self-educated, loud, and fat." Of that trading desk he writes, "For each step forward in market technology they took a step backward in human evolution. As their numbers grew from six to 25 they became louder, ruder, fatter, and less concerned with their relations with the rest of the firm. Their culture was based on food, and as strange as that sounds, it was stranger still to those who watched mortgage traders eat."

Mr. Lewis details how Salomon's inadequate compensation plan doomed its monopoly position in the mortgage-backed securities market, and harmed its position in other markets: "From the point of view of other firms, Salomon mortgage traders were cheap at any price. They provided entry to an enormous market from which a firm was otherwise excluded. They were often paid, therefore, far more than expected." When they left for other firms, that is. In one notable scene, Lewis is informed that his bonus will be $45,000, bringing his total salary for the previous year to $90,000. At first, he is delighted. But upon reflection,

I decided, in the end, I had been taken for a ride, a view I still think is strictly correct. I wasn't sure how many millions I had made for Salomon Brothers, but by any fair measure I deserved much more than $90,000. By the standards of our Monopoly-money business, ninety grand was like being on welfare. I felt cheated, genuinely indignant. How else could I feel? I looked around and saw people getting much more money when they hadn't generated a penny of the revenues themselves.

Salomon subsequently broke its own compensation rules, and Lewis saw his earnings more than double.

It's only a small part of his story, but he covers in nice detail eight days before the 1987 crash that finished the myth of Salomon's invincibility, beginning with the weekend someone at the top leaked a rumor to the New York Times that the firm was about to fire a thousand employees. Among the casualties were five hundred in two entire departments, municipals and money markets:

Neither municipal bonds nor money markets were profitable. Does that mean we should have dropped them completely? The firm could, at little expense, have kept a small staff in both markets. That would have appeased the customers who had come to depend on us in these areas and were now furious with us. And it would have enabled us to profit in the event that either of the two markets recovered.

Mr. Lewis ultimately attributes the bad times at Salomon Brothers to management's taking its eye off the ball, and behaving not like managers but like traders, trading experienced professionals for trainees, cutting losses by cutting entire lines of business. He quotes a colleague's theory: "Wall Street makes its best producers into managers. The best producers are cutthroat, competitive, and often neurotic and paranoid. You turn those people into managers, and they go after each other. They no longer have the outlet for their instincts that producing gave them. They usually aren't well suited to be managers." Ruthless people, he thought, are bad for the business but can only be washed out by proven failure.

Liar's Poker--the title is from a game played with the serial numbers on dollar bills--presents a voice not often heard, from a place most writers have ignored. It is good history, and a good story. Voices from the Gold Rush are always haunting.

Mr. Mysak is managing editor of the daily Bond Buyer.