Reading Mike Mayo

When I first heard Mike Mayo had come out with a book called Exile on Wall Street, I was a little miffed, because I had thought of that as a potential title for a book of my own.  Now that I've made my way through his book, I think he's earned the title.

I was, truth be told, prepared to not fall in love with the book. Something about Mayo had always rubbed me the wrong way, maybe it was just the stridency with which he got his voice out there, or the sheer regularity of it. But as I read on, and understood the level of battles Mayo was fighting -- with bank CEOs on the pages of the Journal, and in the rumor and gossip mills of the Street -- it became clear that he needed a certain brashness and a thick skin just to be in the game. In the end, it's a good book, well-written and well worth the time it takes to read it, especially because it clocks in at a pretty lean 175 pages, well shorter than the thousand page reports he has apparently put out at times.

I was hoping to learn more about banks, and I did.  But I learned as much about the world of the sell-side analyst as I did about banks, and that's good too.  I found it pretty informative that, when Mayo started at UBS in 1992, the analysis of bank stocks was extremely rudimentary: 

"I wanted to dig into the financials and spot things that no one else had seen.  To that end, I came up with a new model for valuing banks, calling it an 'adjusted book value model' and later a 'bank franchise value model.  This approach involved going through a bank's balance sheet and correcting each item, up or down, for everything you could possibly know about it....  The approach didn't seem extremely radical to me but was considered a big advance for the process of analyzing banks (p. 32)"

Now, maybe I'm naive, but this is some 58 years after Ben Graham's Security Analysis was published, laying the groundwork for this kind of analysis, and over a quarter of a century since the efficient market hypothesis had come out, postulating that all known information should be reflected in stock prices, presumably because analysts and investors were actually working and digging into this kind of stuff.  It's not improbable that Mayo's exaggerating and self-aggrandizing here a little, but the speed with which he became a preeminent bank analyst kind of speaks for itself.

And so, disciplined, workaholic, bank-junky analyst Mike Mayo, living in Manhattan, Street denizen, should have known what was going on at the banks in the run-up to the Crisis, right?  Being privy to all of that information, and trained to dissect bank balance sheets and earnings, he should have understood their businesses and seen the crisis coming in 2005, 2006, 2007, no?  The thing is, he didn't.  He left a "buy" rating on Lehman right up till the end, and he frankly admits here in the book that it was a huge mistake. But why not, you may ask?  Why didn't Mayo understand the crap quality of all the loans being warehoused on and around bank balance sheets, this big game being played by thousands across Wall Street?

Partly because the game was too big for any one person, or any one team, to process it all. But it was partly as well because the information just wasn't there.  Strive as Mayo might to provide a window into the banks, they were too opaque to be seen into, like financial Kaabas.  I worked as a consultant at one of the big banks back in 2008, and I worked in functions close to information security, and I can tell you that InfoSec is gospel. Information is gold to the banks, and they monitor and control information flow across their borders as tightly as they can. The culture of that time and place is best summed up by a true story a guy told me about a couple of quants managing a strategy at a pretty well-known but particularly tight-lipped hedge fund.  One of them got married, and the other one didn't find out about it till months after the fact. When the ignorant one asked the newlywed why he had been kept in the dark, he was told "You didn't have a need to know."

And this is, in a nutshell, the paradox of the Efficient Market hypothesis in a nutshell.  The guy as well equipped as anyone in humanity to process information related to banks -- didn't have the information he needed. But we need guys like him around, because at least he tried, and tries, and he's got considerably more insight into banks than I have.