Michael Burry Investments | How Michael Burry Made Millions in the US Crisis

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Big Short Investor Michael Burry: The Million Dollar Bet

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5 Min Read    |    April 09, 2021

Someone's loss is always another's gain.

Don’t you think it is true?

Let me tell you a story that proves it is true.

The story is about Michael Burry - the American investor, and how he made $700 million in the US subprime crisis while almost every investor went bankrupt.

Michael Burry is the man who had bet against America & won. He is the one who accurately forecasted the bubble that would burst by 2007. His billion-dollar bet against the US subprime mortgage crisis earned him $100 million and $700 million to his investors. From novice investor to becoming the Big Short investor, his unmitigated success is all about ick investments.

Here’s more about Michael Burry and his uncanny ability to predict the market.

You probably knew Michael Burry as a value investor. A value investor is the one who always looks for stocks that trade at less than the book value. So, value investors buy the stocks that the market is undervaluing. 

Read on to know more about this American value investor.

Michael Burry: Early Life

Born in 1971, Michael Burry suffered from cancer at the age of two and lost an eye during the surgery. He also suffered from Asperger’s Syndrome. Michael responded to these problems in a distinct way that made him see the world differently and learned to see the patterns that many of us else couldn’t focus on.

Michael Burry was a doctor but his passion for investments made him focus more on value investing. He used to spend more time studying Warren Buffet's teachings.

His writings on the stock discussion site Silicon Investor and ability in stock picking were analytical and unconventional that amazed the entire investment industry. 

Michael Burry: Investment Journey

He started his hedge fund, Scion Capital, in the year 2000. Initially, he invested his own money along with his brother’s. Michael Burry’s father died because of a medical error and he got compensation that was used in Scion Capital.

His messages on Silicon Investor made him grab the attention of companies.

He got investments from Vanguard, an investment management company. He also got funds from one of the prominent investors, Joel Greenblatt who owns Gotham Capital. 

An insurance company, White Mountains Insurance Group also invested $600,000 and pledged to invest $10 million. 

In the first year, Michael Burry returned 55% ahead of the S&P 500 which fell by 12%. While S&P fell 522% in the dot-com bubble, he made 16% returns in 2002 following 50% returns in 2003.

MIchael Burry investment returns in 2008 US Crisis

While studying investments around 2003-04, Burry noticed some unusual things were going on around the real estate industry. This made him tackle the US subprime crisis.

At that time, the stock market was not performing well and interest rates had reached zero because of the dot com bubble. So, all the people went and invested in real estate as it was giving good returns. The Indian real estate market was also in boom during that period.

After performing a depth analysis, Michael Burry came to know that the banks were providing bad quality loans that are often termed as subprime loans i.e., issuing loans to the people without doing any analysis. They lent money to people who did not even have jobs and income.

Don’t you find it shocking?

Burry felt the same and went on to a thorough analysis as to why banks were giving such loans.

He later came to know that banks are receiving incentives for giving such loans. Once again, he was stuck with the same question – why would anyone give incentive for issuing such loans?

He was shocked after knowing that there is a proper system behind it and is supported by investment banks with a business model.

As per the model, banks give out subprime loans. These loans are then bought by the investment banks who use them to create CDOs i.e., Collateralized Debt Obligations. These investment banks even got false AAA ratings from the rating agencies for CDOs. The small investors went after CDOs thinking they are giving good returns and also have AAA ratings.

So many investors did not know that CDOs were made with subprime loans. 

Initially, CDOs were giving good returns. The demand for CDOs increased and investment banks were also happy because their business was increasing. Banks increased the subprime loans activity and sold those to the investment banks and investment banks selling those to investors in the form of CDOs.

US Subprime Crisis - CDO

Here the risk is transferring from banks to investment banks and from investment banks to investors.

Michael Burry knew that this was a bubble and it was going to burst when people were unable to repay the loans. He also knew that the country cannot run on low-interest rates for so long. Interest rates are going to increase and it adds more fuel to the possibility of loan defaults.

Under this kind of scenario, people cannot repay the loans and banks will have no money. CDOs will not be able to collect the money and this leads to the CDOs default.

Along with the people who invested in CDOs, Countrywide Financial Corporation and Ameriquest Mortgage were also going to get losses as they gave loans worth $177 billion to the people who are unable to repay.

After analyzing the entire scenario, Michael Burry’s thoughts went on to how to capitalize on this opportunity.

While studying credit derivatives, he read about CDS. CDS (Credit default swaps) is the instrument that works exactly like insurance.  It gives insurance against default risk.

For example, if you think CDOs may get the default, you can buy insurance for that. For Rs. 1 crore worth CDO, you need to pay a premium of Rs. 1 lakh p.a. for 5 years, i.e., a total of Rs. 5 lakh for 5 years. 

If the CDO defaults, you are going to claim Rs. 1 crore. Otherwise, you will lose Rs. 5 lakhs.

You can see that like insurance, CDS also has low downside risk.

Michael Burry decided to buy CDS. He did not approach banks like the Lehman Brothers and Bear Stern as they issued CDOs and if CDOs default, there were more chances for them to went bankrupt. To avoid such things, he focused on investment banks like Goldman Sachs which has a strong financial backup.

When Burry went to Goldman Sachs and asked for CDS for CDOs, everyone laughed at him and sold as many CDS as possible. Goldman Sachs even called Burry to buy CDS worth $10 million. But he did not have the money to utilize the opportunity.

Michael Burry decided to start another fund called Milton’s Opus. He approached many clients and no one believed him to bet on the CDOs default. Hence, it remained an unutilized opportunity.

The United States was in a housing bubble that peaked in mid-2007.

From May 2007, the interest rates began to rise and the people also stopped repaying the loans. The time Michael Burry was waiting for had arrived. 

The bubble burst and the value of loans people took was quite higher than the value of their houses.

US Housing Bubble: What Happened When it Burst?

US Subprime Lending Crisis Effect

Banks started auctioning the loan defaulters' houses. Because of this, the supply increased and demand decreased. Hence, real estate prices fell by around 32%.

Its direct impact was on CDOs. Many investment banks bought CDOs but failed to sell to the investors. In this way, both common investors and investment banks went bankrupt.

Some of the US investment banks that went bankrupt at the time of the subprime crisis are Lehman Brothers, Bear Stearns, Merrill Lynch, and AIG (American International Group). Later Bear Stearns bought by JPMorgan Chase & Co, Merrill Lynch bought by Bank of America, AIG (American International Group) bailed out by the government with $182 billion. 

Burry’s billion-dollar bet against the US subprime mortgage crisis earned him $100 million and $700 million to his investors. Hence, in this US subprime crisis, only Michael Burry and his investors are the ones who benefited.


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