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The Lehman brothers bankruptcy was a huge cluster fuck! I don't think most people realize just how close it came to stopping the entire worlds economy. The pr

The Lehman brothers bankruptcy was a huge cluster fuck! I don't think most people realize just how close it came to stopping the entire worlds economy. The problem with Lehman was that it was a large prime broker for many hegde and pension funds. That essentially means its a bank that holds the holding(cash, stock and bonds) of these funds. When it went bankrupt in the US, what was expected was that each of the funds would pull out their holdings and move them to healthier prime brokers. This would have the double bonus of removing one unhealthy company(Lehman) and at the same time propping up other healthier companies by having them handle the assest of the funds pulling their holdings out of Lehman( sort of like letting a bank fail and having deposits put into other banks. Unfortunately the British financial regulators, who built London on a program of pretty much anything goes style regulation, woke up that day and decided that for the first time ever they needed to actually regulate and they declared Lehman's assets frozen, meaning that otherwise healthy funds (including pension, mutual, and hedge) now had no access to their own assets. So now hedge funds can't trade, pension funds can't pay people and mutual funds can't allow redemption's and the other banks can't take in these assets to prop themselves up. The equity markets started to seize up as funds had no assets to trade. The capital markets nearly seized up. Repo desks are the portion of banks that lend money to each other to ensure everyone has the money they need to operate, suddenly couldn't get money and weren't allowed to lend out money for fear of lending to a company who might go bankrupt. Almost all large companies these days operator on this over night borrowing, using this to smooth out cash flows, similar to using a line of credit. General Electric had 2 days of cash before they couldn't continue operations. We came really, really close to having the entire world stop working! Andrew Ross Sorkin has a great book called Too Big to Fail that goes into this. House of Cards is also a great book on the 2008 crash. The other big firm to go under in 2008 was Bear Sterns. If you like finance read "When Genius Failed" its the history of the rise and fall of Long Term Capital Management. In the book they detail how everyone except for Bear Sterns pitches in to bail out the fund. In 2008 Bear Sterns was the one who needed the bail out and the same people who pleaded with Bear to help with the LTCM bailout just turned their bask of Bear and let them go bankrupt and then get bought for $172 a share at the end of 2006 to being bought for $2 a share in 2008.

ethbro 11y ago
> Unfortunately the British financial regulators, who built London on a program of pretty much anything goes style regulation, woke up that day and decided that for the first time ever they needed to actually regulate and they declared Lehman's assets frozen, meaning that otherwise healthy funds (including pension, mutual, and hedge) now had no access to their own assets. I assume that there was reasoning behind this that's a little more nuanced, but even given that then I feel this was the main issue with the crisis. It seems like the financial system is continuously growing in complexity. In that while there were formerly N instruments, a year later there are N+z instruments. Coupled with the increased mobility of capital, and its tendency to seek the highest returns, you end up with large amounts of private money pooling fairly quickly in unexpected and not-broadly understood places (which is kind of self-evident: if everyone perfectly understood a particular instrument, you would not expect its use to outperform the market). And don't get me started on the continual improvement of ML systems: a closed loop where code constructs optimal instruments directly by parsing legislation and legal opinions no longer seems impossible. This seems like a problem in the event that something glitches from business as usual. You now have central bank officials (who while incredibly intelligent, by definition don't know as much about these specialized instruments) tasked with making quick decisions (because HFT and yay automated trading systems) without complete information. Summary: increased machine complexity and speed vs human decision as the only buffer to unintended emerging failure scenarios seems like a recipe for disaster
- auntienomen 11y ago
  You pivoted pretty quickly here from Lehman to HFT and automated trading. I think you're skipping over something very important by doing so: The mortgage backed securities and CDOs that Lehman and the other big banks got into trouble with are nearly bespoke contracts (more like a small town's bonds than an NYSE stock). Some fancy computing goes into determining what to sell any given contract for, but that's as far as it goes. They're traded by people who chat on the telephone, gather round the conference table, and then fax legalese back and forth. These contracts are not traded on the sorts of highly liquid public exchanges that have HFT. Nor is there much if any automated decision making in this corner of the financial industry. No point in paying nerds a fortune to get instant decisions when implementing said decisions is going to take days or weeks (if it's even possible). Which is to say: The 2008 financial crisis unfolded at human speeds. The public liquid markets didn't move any faster during the crisis than they in Herbert Hoover's day. (Investors already had telephones then.) Public markets react to data as it becomes available, and all the relevant data at the time was generated by humans. In particular, the central bank officials were forced to make quick decisions without complete information not 'because HFT and yay automated trading', but because there were a lot of well-informed and very scared humans telling them the economy was about to collapse.

ethbro 11y ago

> Unfortunately the British financial regulators, who built London on a program of pretty much anything goes style regulation, woke up that day and decided that for the first time ever they needed to actually regulate and they declared Lehman's assets frozen, meaning that otherwise healthy funds (including pension, mutual, and hedge) now had no access to their own assets. I assume that there was reasoning behind this that's a little more nuanced, but even given that then I feel this was the main issue with the crisis. It seems like the financial system is continuously growing in complexity. In that while there were formerly N instruments, a year later there are N+z instruments. Coupled with the increased mobility of capital, and its tendency to seek the highest returns, you end up with large amounts of private money pooling fairly quickly in unexpected and not-broadly understood places (which is kind of self-evident: if everyone perfectly understood a particular instrument, you would not expect its use to outperform the market). And don't get me started on the continual improvement of ML systems: a closed loop where code constructs optimal instruments directly by parsing legislation and legal opinions no longer seems impossible. This seems like a problem in the event that something glitches from business as usual. You now have central bank officials (who while incredibly intelligent, by definition don't know as much about these specialized instruments) tasked with making quick decisions (because HFT and yay automated trading systems) without complete information. Summary: increased machine complexity and speed vs human decision as the only buffer to unintended emerging failure scenarios seems like a recipe for disaster

auntienomen 11y ago
You pivoted pretty quickly here from Lehman to HFT and automated trading. I think you're skipping over something very important by doing so: The mortgage backed securities and CDOs that Lehman and the other big banks got into trouble with are nearly bespoke contracts (more like a small town's bonds than an NYSE stock). Some fancy computing goes into determining what to sell any given contract for, but that's as far as it goes. They're traded by people who chat on the telephone, gather round the conference table, and then fax legalese back and forth. These contracts are not traded on the sorts of highly liquid public exchanges that have HFT. Nor is there much if any automated decision making in this corner of the financial industry. No point in paying nerds a fortune to get instant decisions when implementing said decisions is going to take days or weeks (if it's even possible). Which is to say: The 2008 financial crisis unfolded at human speeds. The public liquid markets didn't move any faster during the crisis than they in Herbert Hoover's day. (Investors already had telephones then.) Public markets react to data as it becomes available, and all the relevant data at the time was generated by humans. In particular, the central bank officials were forced to make quick decisions without complete information not 'because HFT and yay automated trading', but because there were a lot of well-informed and very scared humans telling them the economy was about to collapse.