When Genius Failed: The Rise and Fall of Long Term Capital Management

Product Information

Jacque, Laurent L. (2010). Global Derivative Debacles: From Theory to Malpractice. Singapore: World Scientific. ISBN 978-981-283-770-7. . Chapter 15: Long-Term Capital Management, pp.245–273 Coy, Peter; Wooley, Suzanne (21 September 1998). "Failed Wizards of Wall Street". Business Week. Archived from the original on January 29, 1999 . Retrieved 2006-09-04. thoughts on “ “When Genius Failed”: 9 timeless lessons from LTCM, the biggest investing failure in history!” his company was on the verge of failing due to its supposed overexposure to Long-Term. David Solo, who represented the giant Swiss bank Union Bank of Switzerland (UBS), thought his bank was already in far too deeply, According to LTCM’s models, the probability of losing everything in a single year was only one in a septillion (or ten to the power of 24). In other words, it was virtually impossible.

In mid-September 1998, understanding the spillover risks from this event, the Fed (US Federal Reserve) intervened to save the collapse of LTCM, as well as to save the stability of the financial system. world itself. The Fed establishes a chain of banks that can mobilize resources to rescue LTCM. Recently, I read the book “ When Genius Failed”, written by Roger Lowenstein. This book is the story of rise & fall of Long Term Capital Management (LTCM), the largest hedge fund of its time. LTCM was started in 1994 by John Meriwether who was a Wall Street veteran and once a part of Salomon Brothers, an old Wall Street investment bank. However, the fund drew its real fame from its investment management team that constituted of many Nobel laureates. LTCM was a hedge fund founded in 1994 by trader John Meriwether. Hedge funds manage the pooled investments of small groups of mostly wealthy investors. Unlike their cousins, mutual funds, which manage the investments of a larger, more economically diverse group of investors, hedge funds are subject to very little regulation, meaning that there are virtually no limits to the size of the fund or where it can be invested.The lessons Lowenstein draws from this story are relevant for any investor or financial institution today." hundred investors, it employed not quite two hundred people, and surely not one American in a hundred had ever heard of it. Indeed, five years earlier, LTCM had not even existed.

Investors realize they don't always get relief. There will be times when bad things happen, they have to stand on their own two feet. The LTCM was meant to be the ultimate fund, the ultra-leveraged, mega-sophisticated, derivatives-based machine that would make rich anyone worthy of investing in it. It went well for a while, thrusted by a couple of its principals given the Noble Prize of Economics in 1997 (bravo for the Swedish Academy) and presentations of yearly accounts filled with dizzying amounts of zeroes and the newest formulas to make more and more money for those who had already a lot of money. Tom Wolfe had it right when he defined as "masters of the universe" the new breed of finance's executives who counted millions like candy. There was no end to the yearly profits, or the folly it created. People decide the prices in the markets. People have emotions and they become euphoric and panic at unpredictable times. These behaviors take asset prices over the peaks and then down in troughs. Mathematical models cannot predict the timing of such periods and therefore, they should not replace human judgment.

Become a Member

LTCM is said to have leveraged its equity even up to 1:55 levels using direct leverage at one point of time with 1:30 to 1:40 being the norm. It means that it put USD 1 of its own money and raised USD 55 by debt and invested USD 56 in its own name (at USD 4.6 billion of own equity, this asset size amounts to USD 253 billion, which is 4.6*55). If the value of the investment increased by USD 1 i.e. from USD 56 to USD 57 (a return of 1.7% on total assets), then after deducting debt of USD 55, its equity increased to USD 2, which is 100% return on its own equity.