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While there were ready buyers for private option contracts, there were few takers when the value of the asset tanked. Thus, the price of the asset could continue to move downard, exposing LTCM to expensive payouts as the price of the asset continues its downward spiral..
4. Identify at least five reasons why LTCM ultimately failed.
It incorrectly assumed that historical relationships between asset classes would hold when in reality they could be highly volatile. Thus, LTCM had not factored in the Asian meltdown and the Russian bond default.
The company was too highly leveraged and couldn't recover when the market turned against them. The leverage had magnified their returns as desired, but it also magnified its losses, something LTCM did not fully consider.
Its liquidity was too low; it couldn't find buyers as the market turned south, particularly because of its equity vol trading.
As market opportunities had become scarcer, the traders increased their volume even further and sought out even...
They used their knowledge of LTCM's distress to make money for their own clients, making the situation even worse for LTCM.
5. Finally, do you think LTCM should have been rescued and Meriwether given the opportunity to start all over?
Rescuing LTCM was an unfortunate necessity because its collapse would have had disastrous consequences for the banking system of the magnitude of the collapse of Continental Bank in the 1980's. However, LTCM and hedge fund companies like it should not have been allowed to conduct business as usual. From the LTCM collapse, we should have seen improved transparency and regulation of leveraged hedge funds, but we haven't seen the meaningful change that LTCM's failure clearly demonstrates is needed.
Wall Street's traders knew that LTCM was in trouble in 1998 and they also knew many of the positions that LTCM had in the financial markets. They used their knowledge of LTCM's distress to make money for their own clients, making the situation even worse for LTCM.
5. Finally, do you think LTCM should have been rescued and Meriwether given the opportunity to start all over?
Rescuing LTCM was an unfortunate necessity because its collapse would have had disastrous consequences for the banking system of the magnitude of the collapse of Continental Bank in the 1980's. However, LTCM and hedge fund companies like it should not have been allowed to conduct business as usual. From the LTCM collapse, we should have seen improved transparency and regulation of leveraged hedge funds, but we haven't seen the meaningful change that LTCM's failure clearly demonstrates is needed.
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