4 ms·

This article seems like it was "borrowed" very heavily from this book: http://www.amazon.com/Inventing-Money-Long-Term-Capital-Management/dp/0471498114/ http:/

This article seems like it was "borrowed" very heavily from this book: http://www.amazon.com/Inventing-Money-Long-Term-Capital-Management/dp/0471498114/ http://www.amazon.com/Inventing-Money-Long-Term-Capital-Mana... Most people read this book but I think the above book is much better. http://www.amazon.com/When-Genius-Failed-Long-Term-Management/dp/0375758259 http://www.amazon.com/When-Genius-Failed-Long-Term-Managemen... I'd recommend reading both if this sort of thing interests you, in the order that they are listed. Since this article is mostly about LTCM, its kindof interesting to look at their downfall and realize that in the end they were right, their trades ended up being profitable, they were just so leveraged that when the markets started to diverge they couldn't make their margin calls. Interestingly the reason things went south so fast was that LTCM and the banks had different risk models. To LTCM they would do spread trades, where you take 2 very similar instruments, the article mentions 29.5 and 30 year bonds. You short the one you think is expensive and buy the one you think is cheap and hold them until the prices converge. This has a nice risk management feature that the risk on both cancel each other out almost as if the markets move up, your long leg covers the loss on your short leg and visa versa if markets move down. Unfortunately, partially due to secrecy(trying to hide what they were doing) and partially due to just who had the bond inventory to short from, they often ended up having the long leg and the sort leg at two different banks. So to LTCM they were perfectly hedged, while to the bank with the short positions, if the market went up they needed LTCM to send them more margin. So LTCM, which was already heavily leveraged was required to send their prime brokers margin that they never figured they'd need to. Couple that with markets that started move in an unprecedented manner caused too many of their spreads to diverge beyond what they could cover. The firm ends up getting a margin call it can't afford, liquidates everything to its prime brokers and other investment banks and those banks end up making money off their trades in a time frame from 6 months (for Goldman) to 3 years for the longer term bonds. Even when your models are right the market can still rip you to shreds:( EDIT As to book recommendations below is a picture of my work bookshelf. Id' recommend most of the books on the shelf: https://imgur.com/OdzB4aW https://imgur.com/OdzB4aW https://imgur.com/zdLSEek https://imgur.com/zdLSEek

henrik_w 11y ago
Thanks for the book recommendations! As a SW dev who recently (a year and a half ago) moved into finance (from telecom), I’ve been trying to educate myself as much as possible in the domain - I find it quite fascinating. Below is a list of books I’ve read and MOOCs I’ve taken, but it would be great to hear what your top recommendations are for books to read (I’ve noticed that your high-quality comments here on HN). Thanks. Books: Liar’s Poker, The Quants, Flash Boys, Against the Gods, The Complete Guide to Capital Markets for Quantitative Professionals MOOC courses: Financial Markets (Coursera), Computational Investing (Coursera), Mathematical Methods for Quantitative, Option Pricing (EdEx - got too difficult at the end) EDIT: Thanks for the pics, really great! Lots of good CS books there too! Sidenode: I just finished "Ghost in the Wires" a week ago - great read. My bookshelf is shown here: http://henrikwarne.com/2015/04/16/lessons-learned-in-software-development/ http://henrikwarne.com/2015/04/16/lessons-learned-in-softwar...
- Cshelton 11y ago
  Ah, I moved from finance into software, although I write financial software. Great books, some embellish the truth a bit though, take it as entertainment value. They all provide great insight though! I've been re-reading the big short by Michael Lewis for the movie coming out this month. I recommend that for insight into the 07-08 collapse. It's a really good book
- osullivj 11y ago
  Frank Partnoy's FIASCO, Das' Traders, Guns & Money. Also Victor Niederhoffer's Education of a Speculator.
nissimk 11y ago
That's because most of the risk models aren't modeling the most important and real risk in financial business: the risk of receiving margin calls in excess of your capital, or in other words, the risk of ruin. Models generate valuation under various conditions and sometimes these valuations are compared to available capital, but that is not enough. Especially when your securities are held at banks that determine their valuations based on factors not included in your model. If actual trdes are posting in similar securities at values that are very far from the model due to a liquidity or some other event then the margin calls will come in. This is how almost all spectacular failures have happened. If you don't use excessive leverage (> 2:1) it's not important, but for highly leveraged portfolios the most important risks are market moves that are unrelated to fancy models.

henrik_w 11y ago

Thanks for the book recommendations! As a SW dev who recently (a year and a half ago) moved into finance (from telecom), I’ve been trying to educate myself as much as possible in the domain - I find it quite fascinating. Below is a list of books I’ve read and MOOCs I’ve taken, but it would be great to hear what your top recommendations are for books to read (I’ve noticed that your high-quality comments here on HN). Thanks. Books: Liar’s Poker, The Quants, Flash Boys, Against the Gods, The Complete Guide to Capital Markets for Quantitative Professionals MOOC courses: Financial Markets (Coursera), Computational Investing (Coursera), Mathematical Methods for Quantitative, Option Pricing (EdEx - got too difficult at the end) EDIT: Thanks for the pics, really great! Lots of good CS books there too! Sidenode: I just finished "Ghost in the Wires" a week ago - great read. My bookshelf is shown here: http://henrikwarne.com/2015/04/16/lessons-learned-in-software-development/ http://henrikwarne.com/2015/04/16/lessons-learned-in-softwar...

Cshelton 11y ago
Ah, I moved from finance into software, although I write financial software. Great books, some embellish the truth a bit though, take it as entertainment value. They all provide great insight though! I've been re-reading the big short by Michael Lewis for the movie coming out this month. I recommend that for insight into the 07-08 collapse. It's a really good book
osullivj 11y ago
Frank Partnoy's FIASCO, Das' Traders, Guns & Money. Also Victor Niederhoffer's Education of a Speculator.

nissimk 11y ago

That's because most of the risk models aren't modeling the most important and real risk in financial business: the risk of receiving margin calls in excess of your capital, or in other words, the risk of ruin. Models generate valuation under various conditions and sometimes these valuations are compared to available capital, but that is not enough. Especially when your securities are held at banks that determine their valuations based on factors not included in your model. If actual trdes are posting in similar securities at values that are very far from the model due to a liquidity or some other event then the margin calls will come in. This is how almost all spectacular failures have happened. If you don't use excessive leverage (> 2:1) it's not important, but for highly leveraged portfolios the most important risks are market moves that are unrelated to fancy models.