5 ideas
In science and engineering, knowledge accumulates and each generation builds on the last. In finance, the lessons of one bust are forgotten by the time a new cohort of lenders and investors takes over, so the same errors of leverage and credulity recur. Innovation in financial instruments therefore does not reliably reduce risk; it often creates new ways to take the old risks.
A low and stable consumer price index can hide dangerous monetary excess, because cheap money can inflate asset prices such as stocks and houses instead of goods prices. Grant reads the growth of credit, leverage and asset valuations as the true measure of monetary ease. On this view the Federal Reserve can appear to be succeeding against inflation while it is feeding a bubble.
They then take on more leverage and pay higher prices, because the downside seems insured. This makes the next bust larger and the pressure for another rescue greater.
In the mid-2000s, years before the 2007–08 collapse, Grant's Interest Rate Observer examined how Wall Street pooled the lower-rated tranches of subprime mortgage securities into collateralized debt obligations. The newsletter argued that this structuring manufactured the appearance of safety from weak loans, and the losses on these securities later sat at the center of the crisis.
Grant looks for bubbles in how loans are written rather than in headline market prices. When lenders compete on terms instead of price, risk is being mispriced even if defaults are still low.