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Inventing Money

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Inventing Money

The Story of Long-Term Capital Management and the Legends Behind It

Wiley,

15 min read
9 take-aways
Audio & text

What's inside?

The bigger (and more brilliant, sophisticated and arrogant) they are, the harder they fall.

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Editorial Rating

7

Qualities

  • Innovative

Recommendation

Author Nicholas Dunbar captures both the personalities and complex financial theories that built Long-Term Capital Management, the hedge fund that threatened to bring down world markets in its spectacular 1998 collapse. His explanation of arcane markets will be understandable to the lay reader, although the details may be hard to follow if you don’t have a solid grounding in statistics, math or economics. Our one wish would be for more attention to the aftermath and the unprecedented bail-out orchestrated by U.S. financial regulators. But even in light of this shortcoming,getAbstract recommends this fascinating real-life market saga to general and business readers, and to anyone who ever comes anywhere near the financial markets.

Summary

The Rise and Fall of LTCM

Former Salomon Brothers Vice Chairman John Meriwether formed Long-Term Capital Management with Myron Scholes and Robert Merton - two Nobel Laureates who won their prize for their theory of option pricing - and a team of arbitrage traders. It returned fantastic 40% profits in 1995 and 1996, rewarded investors with $2.7 billion in excess capital in 1997, and increased its portfolio to $130 billion in assets and $1.25 trillion in derivatives in 1998. It began to collapse in the autumn of 1998, losing 90% of its value. At the same time, world market assets dropped $3 trillion. The effects are still felt internationally.

To understand what happened, you need to know that capital managers use mathematical and computerized models to pull profits out of slight gaps in trading. LTCM’s model was based on certain assumptions about options, derivatives, futures and other obscure types of trading prices. It boomed because the world’s largest investment banks supported it, in part, because the bankers gave in to their greed and did not pay attention to potential risks. However, in 1998, Scholes and Merton’s theories stopped working, leaving government regulators...

About the Author

Nicholas Dunbar studied physics in the United Kingdom at Manchester and Cambridge and in the U.S. at Harvard University, where he received a Master’s in earth and planetary sciences. After he left academia in 1990, he worked in feature films and television, and launched Flicker Films, a television production company. In 1996, he turned to finance and science writing, focusing on the derivatives industry. In 1998, he joined Risk magazine as its technical editor. He lives in London.

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