| |
 |
|
| Science Forum Index » Economy Forum » LTCM and the Financial Crisis of '08... |
|
Page 1 of 1 |
|
| Author |
Message |
| 2.7182818284590...... |
 Posted: Thu Nov 05, 2009 9:01 am |
|
|
|
Guest
|
LTCM required governmental bailouts, but this only required around
$4B. However, in '08, the bailouts required $100Bs. Why is it that a
$4B failure would require bailouts, when we see companies of this
magnitude go bankrupt quite often (i.e. once a few years or so)?
1998 bailout
On September 23, 1998, the titans of Wall Street – the chiefs of
Bankers Trust, Bear Stearns, Chase Manhattan, Goldman Sachs, J.P.
Morgan, Lehman Brothers, Merrill Lynch, Morgan Stanley Dean Witter and
Salomon Smith Barney – met on the 10th floor conference room of the
Federal Reserve Bank of New York (pictured) to rescue LTCM.
Long-Term Capital Management did business with nearly everyone
important on Wall Street. As LTCM teetered, Wall Street feared that
Long-Term's failure could cause a chain reaction in numerous markets,
causing catastrophic losses throughout the financial system. After
LTCM failed to raise more money on its own, it became clear it was
running out of options. On September 23, Goldman Sachs, AIG, and
Berkshire Hathaway offered then to buy out the fund's partners for
$250 million, to inject $3.75 billion and to operate LTCM within
Goldman's own trading division. The offer was stunningly low to LTCM's
partners because at the start of the year their firm had been worth
$4.7 billion. Buffett gave Meriwether less than one hour to accept the
deal; the time period lapsed before a deal could be worked out.[20]
Seeing no options left the Federal Reserve Bank of New York organized
a bailout of $3.625 billion by the major creditors to avoid a wider
collapse in the financial markets.[21] The contributions from the
various institutions were as follows: [22][23]
* $300 million: Bankers Trust, Barclays, Chase, Credit Suisse
First Boston, Deutsche Bank, Goldman Sachs, Merrill Lynch, J.P.Morgan,
Morgan Stanley, Salomon Smith Barney, UBS
* $125 million: Société Générale
* $100 million: Lehman Brothers, Paribas
* Bear Stearns declined to participate.
In return, the participating banks got a 90% share in the fund and a
promise that a supervisory board would be established. LTCM's partners
received a 10% stake, still worth about $400 million, but this money
was completely consumed by their debts. The partners once had $1.9
billion of their own money invested in LTCM, all of which was wiped
out.[24]
The fear was that there would be a chain reaction as the company
liquidated its securities to cover its debt, leading to a drop in
prices, which would force other companies to liquidate their own debt
creating a vicious cycle.
The total losses were found to be $4.6 billion. The losses in the
major investment categories were (ordered by magnitude):[25]
* $1.6 bn in swaps
* $1.3 bn in equity volatility
* $430 mn in Russia and other emerging markets
* $371 mn in directional trades in developed countries
* $286 mn in equity pairs (such as VW, Shell)
* $215 mn in yield curve arbitrage
* $203 mn in S&P 500 stocks
* $100 mn in junk bond arbitrage
* no substantial losses in merger arbitrage
Long Term Capital was audited by Price Waterhouse LLP.
Unsurprisingly, after the bailout by the other investors, the panic
abated, and the positions formerly held by LTCM were eventually
liquidated at a small profit to the bailers.
Some industry officials said that Federal Reserve Bank of New York
involvement in the rescue, however benign, would encourage large
financial institutions to assume more risk, in the belief that the
Federal Reserve would intervene on their behalf in the event of
trouble. Federal Reserve Bank of New York actions raised concerns
among some market observers that it could create moral hazard.[26]
LTCM's strategies were compared (a contrast with the market efficiency
aphorism that there are no $100 bills lying on the street, as someone
else has already picked them up) to "picking up nickels in front of a
bulldozer"[27] – a likely small gain balanced against a small chance
of a large loss, like the payouts from selling an out-of-the-money
option.
[edit] Aftermath
After the bailout, Long-Term Capital Management continued operations.
In the year following the bailout, it earned 10%. By early 2000, the
fund had been liquidated, and the consortium of banks that financed
the bailout had been paid back; but the collapse was devastating for
many involved. Goldman Sachs CEO Jon Corzine, who had been closely
involved with LTCM, was forced out of the office in a boardroom coup
led by Henry Paulson. Mullins, once considered a possible successor to
Alan Greenspan, saw his future with the Reserve dashed. The theories
of Merton and Scholes took a public beating. In its annual reports,
Merrill Lynch observed that mathematical risk models "may provide a
greater sense of security than warranted; therefore, reliance on these
models should be limited."[28]
After helping unwind LTCM, Meriwether launched JWM Partners. Haghani,
Hilibrand, Leahy, and Rosenfeld all signed up as principals of the new
firm. By December 1999, they had raised $250 million for a fund that
would continue many of LTCM's strategies—this time, using less
leverage.[29] Unfortunately, with the Credit Crisis, JWM Partners LLC
has been hit with 44% loss since September 2007 to February 2009 in
its Relative Value Opportunity II fund. As such, JWM Hedge Fund is to
be shut down in July 2009.[30] |
|
|
| Back to top |
|
|
|
| 2.7182818284590...... |
| Posted: Thu Nov 05, 2009 3:18 pm |
|
|
|
Guest
|
[quote]Essentially because chosing to not bail out Lehmans came
very close to producing another great depression or worse.
[/quote]
Not true.
Also, giving unemployment benefits stimulates the economy anyways. |
|
|
| Back to top |
|
|
|
| Rod Speed... |
| Posted: Thu Nov 05, 2009 3:21 pm |
|
|
|
Guest
|
2.7182818284590... wrote:
[quote]LTCM required governmental bailouts, but this only required around
$4B. However, in '08, the bailouts required $100Bs. Why is it that
a $4B failure would require bailouts, when we see companies of this
magnitude go bankrupt quite often (i.e. once a few years or so)?
[/quote]
Essentially because chosing to not bail out Lehmans came
very close to producing another great depression or worse.
The cost of those in unemployment etc is much worse than the cost of the bailouts.
[quote]1998 bailout
On September 23, 1998, the titans of Wall Street – the chiefs of
Bankers Trust, Bear Stearns, Chase Manhattan, Goldman Sachs, J.P.
Morgan, Lehman Brothers, Merrill Lynch, Morgan Stanley Dean Witter and
Salomon Smith Barney – met on the 10th floor conference room of the
Federal Reserve Bank of New York (pictured) to rescue LTCM.
Long-Term Capital Management did business with nearly everyone
important on Wall Street. As LTCM teetered, Wall Street feared that
Long-Term's failure could cause a chain reaction in numerous markets,
causing catastrophic losses throughout the financial system. After
LTCM failed to raise more money on its own, it became clear it was
running out of options. On September 23, Goldman Sachs, AIG, and
Berkshire Hathaway offered then to buy out the fund's partners for
$250 million, to inject $3.75 billion and to operate LTCM within
Goldman's own trading division. The offer was stunningly low to LTCM's
partners because at the start of the year their firm had been worth
$4.7 billion. Buffett gave Meriwether less than one hour to accept the
deal; the time period lapsed before a deal could be worked out.[20]
Seeing no options left the Federal Reserve Bank of New York organized
a bailout of $3.625 billion by the major creditors to avoid a wider
collapse in the financial markets.[21] The contributions from the
various institutions were as follows: [22][23]
* $300 million: Bankers Trust, Barclays, Chase, Credit Suisse
First Boston, Deutsche Bank, Goldman Sachs, Merrill Lynch, J.P.Morgan,
Morgan Stanley, Salomon Smith Barney, UBS
* $125 million: Société Générale
* $100 million: Lehman Brothers, Paribas
* Bear Stearns declined to participate.
In return, the participating banks got a 90% share in the fund and a
promise that a supervisory board would be established. LTCM's partners
received a 10% stake, still worth about $400 million, but this money
was completely consumed by their debts. The partners once had $1.9
billion of their own money invested in LTCM, all of which was wiped
out.[24]
The fear was that there would be a chain reaction as the company
liquidated its securities to cover its debt, leading to a drop in
prices, which would force other companies to liquidate their own debt
creating a vicious cycle.
The total losses were found to be $4.6 billion. The losses in the
major investment categories were (ordered by magnitude):[25]
* $1.6 bn in swaps
* $1.3 bn in equity volatility
* $430 mn in Russia and other emerging markets
* $371 mn in directional trades in developed countries
* $286 mn in equity pairs (such as VW, Shell)
* $215 mn in yield curve arbitrage
* $203 mn in S&P 500 stocks
* $100 mn in junk bond arbitrage
* no substantial losses in merger arbitrage
Long Term Capital was audited by Price Waterhouse LLP.
Unsurprisingly, after the bailout by the other investors, the panic
abated, and the positions formerly held by LTCM were eventually
liquidated at a small profit to the bailers.
Some industry officials said that Federal Reserve Bank of New York
involvement in the rescue, however benign, would encourage large
financial institutions to assume more risk, in the belief that the
Federal Reserve would intervene on their behalf in the event of
trouble. Federal Reserve Bank of New York actions raised concerns
among some market observers that it could create moral hazard.[26]
LTCM's strategies were compared (a contrast with the market efficiency
aphorism that there are no $100 bills lying on the street, as someone
else has already picked them up) to "picking up nickels in front of a
bulldozer"[27] – a likely small gain balanced against a small chance
of a large loss, like the payouts from selling an out-of-the-money
option.
[edit] Aftermath
After the bailout, Long-Term Capital Management continued operations.
In the year following the bailout, it earned 10%. By early 2000, the
fund had been liquidated, and the consortium of banks that financed
the bailout had been paid back; but the collapse was devastating for
many involved. Goldman Sachs CEO Jon Corzine, who had been closely
involved with LTCM, was forced out of the office in a boardroom coup
led by Henry Paulson. Mullins, once considered a possible successor to
Alan Greenspan, saw his future with the Reserve dashed. The theories
of Merton and Scholes took a public beating. In its annual reports,
Merrill Lynch observed that mathematical risk models "may provide a
greater sense of security than warranted; therefore, reliance on these
models should be limited."[28]
After helping unwind LTCM, Meriwether launched JWM Partners. Haghani,
Hilibrand, Leahy, and Rosenfeld all signed up as principals of the new
firm. By December 1999, they had raised $250 million for a fund that
would continue many of LTCM's strategies—this time, using less
leverage.[29] Unfortunately, with the Credit Crisis, JWM Partners LLC
has been hit with 44% loss since September 2007 to February 2009 in
its Relative Value Opportunity II fund. As such, JWM Hedge Fund is to
be shut down in July 2009.[30][/quote] |
|
|
| Back to top |
|
|
|
| Bill Reid... |
| Posted: Thu Nov 05, 2009 3:30 pm |
|
|
|
Guest
|
On Nov 5, 5:18 pm, "2.7182818284590..." <tangent1... at (no spam) gmail.com> wrote:
[quote]
Also, giving unemployment benefits stimulates the economy anyways.
[/quote]
Imagine how great we'd be doing if there was 90% unemployment
rather than the current anemic 10%...
---
William Ernest Reid
Post count: about 15 million less than all the people that are doing
their part to stimulate the economy by being unemployed |
|
|
| Back to top |
|
|
|
| Rod Speed... |
| Posted: Thu Nov 05, 2009 9:27 pm |
|
|
|
Guest
|
2.7182818284590... wrote:
[quote]Essentially because chosing to not bail out Lehmans came
very close to producing another great depression or worse.
Not true.
[/quote]
Corse it is.
[quote]Also, giving unemployment benefits stimulates the economy anyways.
[/quote]
Nothing like as effectively as not producing the unemployment in the first place. |
|
|
| Back to top |
|
|
|
|
|
All times are GMT - 5 Hours
The time now is Sat Nov 21, 2009 9:23 am
|
|