Aug 28, 2020
Welcome to Finance and Fury, the Furious Friday edition, where we will continue to look at some derivative disasters.
Last week – went through some of the basics – and a few Australian specific examples -
In todays episode – want to look at the Long Term Capital Management crash in the late 1990s
Similar to some of the cases last week – wouldn’t be surprised if you haven’t heard of this – but it had the potential to spark a larger crisis –
The story is very similar to the GFC- almost like a mini-or pre GFC – and an event that likely created the moral hazard that lead to the GFC - so what happened
The trading strategy – put simply – it was to buy or sell bonds when prices deviated from the norm using borrowed funds and additional leverage - often in the form of derivatives - then wait for prices to converge again to make a profit
Summary
LTCM’s demise was an example of the failure of a hedge fund and a classic example of the failure of ‘genius’ – having very smart people (Nobel Prize winners) in theory behind the wheel can still go horribly wrong in practicality
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