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By Root 308 0

risk that that might happen. Most of his investors had agreed to a two-year "lockup" and could not pull their money out at will. But of the $555 million he had under management, $302 million was eligible to be withdrawn either at the end of 2006 or in the middle of 2007, and investors were lining up to ask for their money back. In October 2006, with U.S. house prices experiencing their greatest decline in thirty-five years, and just weeks before the ABX index of triple-B mortgage bonds experienced its first "credit event" (that is, loss), Michael Burry faced the likelihood of a run on his fund--a fund that was now devoted to betting against the subprime mortgage market. "We were clinically depressed," said one of the several analysts Burry employed but never figured out what to do with, as he insisted on doing all the analysis himself. "You'd go to work and you'd say, 'I don't want to be here.' The trade was moving against you and investors wanted out."

One night, as Burry was complaining to his wife about the complete absence of long-term perspective in the financial markets, a thought struck him: His agreement with his investors gave him the right to keep their money if he had invested it "in securities for which there is no public market or that are not freely tradable." It was left to the manager to decide if there was a public market for a security. If Michael Burry thought there wasn't--for instance, if he thought a market was temporarily not functioning or somehow fraudulent--he was permitted to "side-pocket" an investment. That is, he could tell his investors that they couldn't have their money back until the bet he'd made with it had run its natural course.

And so he did what seemed to him the only proper and logical thing to do: He side-pocketed his credit default swaps. The long list of investors eager to get their money back from him--a list that included his founding backer, Gotham Capital--received the news from him in a terse letter: He was locking up between 50 and 55 percent of their money. Burry followed this letter with his quarterly report, which he hoped might make everyone feel a bit better. But he had no talent for caring what others thought of him: It was almost as if he didn't know how to do it. What he wrote sounded less like an apology than an assault. "Never before have I been so optimistic about the portfolio for a reason that has nothing to do with stocks," it began, and then it went on to explain how he had established a position in the markets that should be the envy of any money manager. How he had placed a bet not on "housing Armageddon" (even though he suspected that was coming) but on "the worst 5% or so of loans made in 2005." How his investors should feel lucky. He wrote as if he was sitting on top of the world, when he was expected to feel as if the world was sitting on top of him. One of his biggest New York investors shot him an e-mail: "I'd be careful in the future using derogatory phrases such as 'we're short the mortgage portfolio everyone would want if they knew what they were doing' and 'sooner or later one of the big boys should really read a prospectus.'" One of his original two e-mail friends--both had stuck by him--wrote, "Nobody else except the North Korean dictator Kim Jong-Il would write a letter like that when they are down 17%."

Immediately, his partners at Gotham Capital threatened to sue him. They soon were joined by others, who began to organize themselves into a legal fighting force. What distinguished Gotham was that their leaders flew out from New York to San Jose and tried to bully Burry into giving them back the $100 million they had invested with him. In January 2006 Gotham's creator, Joel Greenblatt, had gone on television to promote a book and, when asked to name his favorite "value investors," had extolled the virtues of a rare talent named Mike Burry. Ten months later he traveled three thousand miles with his partner, John Petry, to tell Mike Burry he was a liar and to pressure him into abandoning the bet Burry viewed as the single shrewdest of his career.