馃攳
The INSANE Story of How a Hedge Fund Collapsed the Wall Street | Long Term Capital Management (LTCM) - YouTube
Channel: Vic
[3]
have you heard about the story of icarus
[5]
he was given a pair of wings that
[7]
allowed him to fly and he took full
[9]
advantage
[10]
unfortunately for him he got a little
[12]
carried away
[13]
despite warnings not too he tried to fly
[15]
as high as he could
[17]
so high that the sun started to melt the
[18]
wax that held his swings together
[20]
within seconds his wings fell apart and
[23]
he plunged to his death
[25]
this famous fable of the dangers of
[27]
hubris can be easily applied to the
[29]
story of long-term capital management
[32]
a huge hedge fund which dominated the
[34]
financial market in the 1990s
[36]
like icarus they found themselves riding
[38]
high with profits through the roof
[40]
and eventually they went too far and
[42]
plunged their collapse
[44]
in this video we will go through the
[46]
amazing story of long-term capital
[48]
management and discover the incredible
[50]
lessons we can learn from the rise and
[52]
fall
[52]
of this former wall street giant
[58]
long-term capital management or the ltcm
[61]
was a hedge fund founded in 1994 by
[64]
trader
[65]
john merryweather hedge funds managed
[68]
the pooled investments of small groups
[70]
of mostly wealth investors unlike mutual
[73]
funds
[74]
hedge funds are subject to very little
[76]
regulation
[77]
meaning that there are virtually no
[79]
limits to the size of the fund or
[80]
where it can be invested this lack of
[83]
regulation makes hedge funds a ripe
[85]
environment for investment in riskier
[87]
financial products
[88]
such as derivatives like all other hedge
[91]
funds
[92]
ltcm manage their investments with a
[94]
strategy called
[95]
arbitrage to demonstrate this imagine
[98]
that one company sells different stocks
[100]
in
[100]
two markets as both stocks represent the
[103]
same company you'd expect them to be the
[105]
same price
[106]
however sometimes the price of the stock
[108]
in one market may dip below the other
[110]
due to market overreaction when this
[112]
occurs you have an
[113]
opportunity to quickly buy the stock
[115]
before the price reach equilibrium again
[118]
after which you can sell that stock at a
[120]
profit
[121]
although it's a common strategy ltcm
[124]
took it to another whole new level
[126]
they used academic calculations and
[128]
predictions as well as the latest
[130]
computer software to recognize the
[132]
opportunities and exploit them quickly
[134]
using this strategy ltcm became the
[137]
largest hedge fund ever
[142]
hedge funds bet on tiny discrepancies
[144]
between the present and the future
[145]
which means that they need large
[147]
position size to make significant
[149]
profits
[150]
despite the huge amount of funds ltcm
[153]
received from their investors
[154]
it wasn't enough to earn the greatest
[156]
profits they need to leverage
[159]
so ltcm borrowed heavily and encouraged
[162]
investors to make even larger
[164]
investments
[165]
many banks were more than happy to lend
[167]
huge amounts of loans to ltcm
[169]
because they have a pretty good track
[171]
record and arbitrary strategy
[173]
seems to carry a little risk to give you
[175]
just a small example of how much
[177]
ltcm could borrow through leveraging
[179]
consider that with only 1 billion
[181]
dollars
[182]
as the investment capital they could
[184]
leverage up to 30 billion dollars to
[186]
trade
[187]
institutions like investment banks were
[189]
glad to issue big loans
[191]
because they thought profits were almost
[193]
guaranteed as history tells over and
[195]
over again
[196]
banks made such investments because
[198]
their greed are bigger than the
[200]
underlying risks
[201]
as more and more banks were rushing in
[203]
to issue loans
[205]
ltcm's leverage rate skyrocketed leaving
[208]
the company at enormous risk if things
[210]
started to go wrong
[215]
many people believe there is a gap
[217]
between the knowledge of high-minded
[218]
academics and the conditions
[220]
of the real world but ltcm sees it
[223]
differently their plan was to apply the
[225]
expert knowledge and theories of
[227]
mathematicians
[228]
and economists to the real wall street
[231]
so they recruited some of the biggest
[232]
names in economics and trading hiring
[234]
people like nobel prize winner
[236]
myron scholes and robert merton to sit
[239]
on their board of directors
[240]
this approach worked well more and more
[243]
investors were enticed into investing in
[244]
ltcm
[245]
even universities were persuaded to
[248]
invest in the fund
[249]
one of the main reasons people were so
[251]
interested in investing in
[252]
ltcm was because the rocks are
[254]
mathematicians and economists in
[256]
ltcm believe they had eliminated all the
[259]
risk
[260]
altogether and investing with ltcm is
[263]
virtually risk-free
[264]
their arrogance was filled by incredibly
[266]
complex mathematical formulas
[268]
based on careful historical analysis of
[271]
the market
[271]
by scrutinizing how the market had
[273]
reacted to events in the past
[276]
they hoped to predict how it would react
[278]
in the future
[279]
this gave them the ability to recognize
[281]
the circumnavigate risks
[283]
and crisis before they even occurred
[286]
this academic approach was a major lure
[289]
for investors
[290]
and contributed to ltcm's enormous
[292]
success
[293]
at the early stage
[298]
in the 1990s it was a fashionable thing
[301]
on wall street to invest in hedge funds
[303]
investors saw them as new exciting and
[305]
most importantly
[306]
incredibly profitable financial products
[309]
yet
[310]
even in this love affair with hedge
[311]
funds fever ltcm stood out
[314]
both in terms of popularity and
[316]
leveraging
[317]
during the mid-1990s ltcm was four times
[320]
larger than its closest hedge fund rival
[322]
they also controlled more assets than
[324]
huge investment banks like
[326]
brothers and morgan stanley banks around
[330]
the world were practically fighting to
[331]
lend to ltcm for their trading leverages
[334]
everyone wanted to get a piece of their
[336]
pie so they all fought to offer
[338]
leveraged packages with ridiculously low
[340]
interest rates
[341]
only for ltcm even with such special low
[344]
interest rates to borrow
[346]
ltcm was still paying 200 million
[348]
dollars a year
[349]
just as the interest payment for all the
[351]
love ltcm was getting on wall street it
[354]
appears much healthier than it actually
[356]
was
[356]
part of this was simple deception
[359]
although they reported their assets and
[360]
liabilities quarterly
[362]
these reports weren't always transparent
[364]
and often provided only generalized
[366]
summaries
[367]
and hit important key points ltcm
[370]
success could not
[371]
last forever and soon the signs of
[374]
danger become unmistakable
[378]
[Music]
[379]
despite the popularity of academic
[381]
models used by ltcm they had
[383]
one fatal flaw human errors
[386]
the models assumed the financial system
[388]
was the rational predictable entity
[390]
directed by rational predictable people
[393]
but it's not by our nature humans are
[395]
irrational and panicked easily a fact
[397]
which caused enormous problems for ltcm
[401]
these problems began in the 1997 asian
[404]
financial crisis
[405]
as the booming tiger economies like
[407]
taiwan and south korea took a big
[410]
downturn
[410]
in times of uncertainty the normal thing
[413]
to do would be to invest in bonds
[415]
ltcm decided to walk a different path
[418]
their models were telling them to
[419]
increase their share of riskier assets
[421]
like equities
[422]
so instead of buying more safety hedges
[424]
they started adding more risky stocks
[427]
they had already seen a slight dip in
[429]
profits once the crisis hit in the
[431]
summer of 1997
[433]
but they continued to follow their
[434]
models ltcm never had a losing year
[437]
since it was founded but now
[439]
they didn't even know they were not far
[441]
from the brink of collapse
[447]
the models that the mathematicians and
[449]
economists at ltcm develop were based on
[452]
one single principle if disrupted
[454]
markets will always revert to their mean
[456]
or the natural position
[458]
this was the reason that ltcm chose
[460]
risky strategies during the asian
[462]
financial crisis
[464]
they saw the downturn as a small blip in
[466]
the market which would always
[467]
eventually stabilize and earn them a
[470]
whole lot of money in the process
[472]
however this didn't happen as models
[474]
suggested the market didn't return to
[476]
normal
[476]
and instead most people continued to act
[479]
irrationally
[480]
selling more stocks and buying more
[482]
bonds
[483]
but ltcm's models told them to continue
[485]
taking risks
[486]
so they did and it cost them a lot ltcm
[489]
suffered several months worth of losses
[491]
for the first time in its history
[493]
as problems and losses started to mount
[495]
up the ridiculously high leverage rate
[497]
of ltcm became a millston they had to
[500]
follow the models and take even more
[502]
risks and hope of earning enough just to
[504]
pay back their mounting fees and debts
[506]
because of their high leverage reversing
[508]
cores was no longer an option they had
[510]
to keep pressing on
[512]
eventually the models failed completely
[514]
and reality
[515]
set in
[520]
according to ltcm's models the
[522]
probability of losing
[523]
everything in a single year was only one
[525]
in septillion
[527]
or 10 to the power of 24 in other words
[530]
it was virtually impossible and yet in
[533]
august 1998
[534]
the impossible has happened the russian
[536]
government defaulted on its debts and
[538]
devalued its currency
[540]
this sent shockwaves through the market
[542]
it wasn't just that the russian economy
[544]
was tanking
[544]
but no one not even the imf has stepped
[547]
in to help them
[549]
this incident caused a massive sell-off
[551]
in the global financial markets
[553]
especially the stock market this was
[555]
catastrophic news for ltcm
[557]
because their models heavily invested in
[559]
global equity markets
[561]
in one single day on august 17 1998
[564]
ltcm lost 533 million dollars
[568]
due to their huge debts and lack of
[570]
capital ltcm needed to sell quickly
[573]
to stay solvent but no one wanted what
[575]
they had to offer
[576]
the fewer buyers there are in the market
[578]
the more severe the loss is for the
[580]
seller
[581]
by the end of august ltcm had lost 45
[584]
of its capital on top of that they had
[586]
reached a leverage rate of 55 times more
[589]
than the original capital and stuck with
[591]
125 billion in assets which they
[593]
couldn't sell
[594]
as the fund started to lose money banks
[597]
demanded to raise the interest rates as
[599]
ltcm is at a higher risk to default but
[602]
obviously
[602]
ltcm couldn't afford a higher rate when
[605]
more and more banks discovered just how
[607]
many risk the fund had been running
[609]
they started to bet against ltcm by
[611]
shorting their stock in order to
[613]
recuperate banks losses on the massive
[615]
loans they issued
[620]
as ltcm started to topple the banks many
[623]
of whom had recently bet against the
[624]
fund
[625]
had a realization if ltcm goes bankrupt
[628]
we lose our loan investments
[630]
and because so many of the greedy banks
[632]
had issued loans
[633]
and invested in ltcm a collapse of the
[636]
fund would
[636]
wreck the entire financial market many
[640]
banks and investors began looking into
[642]
ways of taking control of ltcm
[644]
and rescuing it ltcm wasn't eager to let
[647]
banks bail out of the fund
[648]
and give them full control but as time
[650]
passed they were so broke that they were
[652]
left with no other choice but to sell
[654]
their entire fund
[656]
but who could even afford such a large
[658]
fund the ridiculous size of ltcm
[660]
meant that no single bank could bail it
[662]
without others help
[663]
so the federal reserve understanding the
[666]
dangers of the situation
[667]
especially willing to rebuild the
[669]
investor confidence in the middle of
[671]
financial crisis
[672]
stepped in to bail out the ltcm fund the
[675]
biggest hedge fund on wall street
[677]
long-term capital management fund has
[679]
officially collapsed
[681]
as witnessing the rise and fall of one
[683]
of the largest hedge funds in our
[684]
history
[685]
even the best financial models can't
[687]
protect investors against the irrational
[689]
behavior
[690]
of their fellow human beings
Most Recent Videos:
You can go back to the homepage right here: Homepage