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David:
I'll answer what I can while still speaking in a general way about the
positions. LTC was a large sized hedge fund. That being said, they normally were
not what other fund managers consider 'shooters,' meaning they did not normally
take large outright positions. Instead, they relied on complicated proprietary
formulas to find 'market inefficiencies' between related financial instruments.
Although I won't comment on specific actual positions, here's an example of the
type of risk they took: LTC would look at a foreign sovereign debt instrument [a
Russian government bond, for example] and its relationship to a more stable debt
instrument [most usually a US note or bond] and then when their models found
that that foreign instrument [against the US bond or note] was trading out of
the predicted bounds, they would build very large positions of bond [foreign]
against bond [US]. They would then add in a third leg, hedging out what they
considered the volatility portion of the cross [bond versus bond], in large
multiple derivative positions. The positions, on paper, in 'normal' markets, do
not have much outright risk; in practice, when the markets began to reflect a
crisis environment, LTC soon found that they were losing on both bond legs, as
well as the derivative hedge. If you look at any chart of the US bonds over the
past three months and then remember that LTC was short all the way up, and then
pick a smaller, less stable country's bond market and look at its chart, and
remember they were long all the way down, it's easy to see how they were in
trouble. It's mare difficult to portray the derivative losses, but just think of
it this way: If they thought they were trading in 'normal' markets, they would
be sellers of the volatility component that their spread positions generated--So
now just remember how much more volatile the markets have been over the past two
or three months. Then leverage that queasy feeling you get and you're
approaching their P&L.
Best,
Tim Morge
David (by way of David ) wrote:
>
> I'll answer a couple of my own questions. The Trader column in Barrons this
> week discusses some rumored positions for LTCM.
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