Book: 20230726 to 20231105, "When Genius Failed" by Roger Lowenstein

20230726 - Introduction xvii

LTCM, the famous Long-Term Capital Management.

Is Wall Street different now? When will investors realize that those genius are charlatans?

Is there anything better than passive Index Fund, such as SP500 and NASDAQ?

The Rise of Long-Term Capital Management
20230726 - 1 Meriwether 3

Any useless habits and personalities are bad sign, no matter what position the person is at, and what achievements he or she has.

When a social scientists claim they find some pattern, and so they can predict the near term future --- they are lying. Even Greenspan had no idea about it.

What percentage of cut a fund manager should take away as bonus? I would say, zero. If they take 1% away, and 5 or 10 years later the fund got huge loss which is larger than all profit the fund got in the past 10 years, will they return their bonus in the past 10 years?

"Antifragile" and "the Black Swan" help us a lot to understand this book.

20230829 - 2 Hedge Fund 23

Why those experts were so stupid? Why state owned funds, which supposed to be more conservative, actually took higher risk, which private fund such as Warren Buffett made wise choice?

Is it because those state owned funds lack "skin in the game"? Or because they trust authority more, such as David W. Mullins Jr.?

Where does real risk come from? Low risk gambling is still gambling. It's zero-sum game. Sooner or later we will meet the Black Swans, which are irrational, which would destroy the rational gamblings.

To avoid risk, we need to go with economical growth, or lose with economical recession. So Nasdaq index fund is the best choice for most of people.

https://en.wikipedia.org/wiki/Long-Term_Capital_Management

20231005 - 3 On the Run 40

Use leverage to increase profit from low risk investment? Why so many people believed that works?

Maybe, those people believe that LTCM have some knowledge and skill that no other people know. Something like superstition, more or less.

Even today, there are still many investors take high leverage.

10 year US treasury yield is close to 4.8% now, and the long term trend is surely zero. It seems that it's good bet to buy US government debt at the moment.

20231006 - 4 Dear Investors 61

"But this is the best model we have. You look at the old-timers who went with their gut. You had this model, you had these numbers, and in the end you thought they were a lot more powerful than a guy's gut." p75

Can we rely on bad data or analysis, if there is no good data or analysis? In that case, buffer is more important. That means, negative leverage: keep some percentage of cash in safe place and let it sleep. Warren Buffett did just that. He always keep 20% portofolio as cash.

In 1995, LTCM made 59% profit based on 28 times leverage. That's around 2% profit. If they lose more than 2% profit, then they would lose all capital.

I don't think this is similar to insurance business, although it's also about the Black Swans. Insurance companies don't utilize leverage, or do they? Their capital cannot cover all client's assets, but they still promise to cover them. LTCM didn't believe that all their transactions would crash at the same time, so their leverage is safe.

20231006 - 5 Tug-of-War 80

1996. Still over 50% profit.

Most of the banks are not idiots. They understand risk well. But, as it's not their own money, they care more about short term bonus.

LTCM partners left their own money in the pool. That's for reducing tax, but also means they didn't believe the potential huge risks. We do need to try errors to learn.

20231015 - 6 A Nobel Prize 96

Liquidity can reduce small scale volatility, but it will also increase large scale volatility.

This Nobel Prize is completely wrong. What a shame.

The Fall of Long-Term Capital Management
20231016 - 7 Bank of Volitility 123

The core of wealth is creativity. (long term, decided by political institutions)

The core of economy is supply and demand. (mid term, decided by economical institutions)

The core of finance is credit. (short term, decided by market emotion)

LTCM made mistakes at all three levels.

In short term, it's all about credit, which is heavily impacted by market emotion.

But at that moment, LTCM is also hit at middle term level: there were too much foreign investment, which caused financial bubble.

The reason that LTCM can make so much money, is mainly because of financial bubble. For example, they got fund with no "haircut".

20231024 - 8 The Fall 143

If there is plenty of credit in the market, it's better to invest in high risk asset; or else, low risk asset.

That means, when the interest rate is low, it's good timing to sell shares and to buy property.

Bell curve does have fat tail. Black Swan is more often than we think.

20231025 - 9 The Human Factor 161

LTCM is just like other Wall Street companies: they don't admit failure unless bust.

$4B capital, 50 times leverage ($200B investment), $1.4T contracts. Even in good year, they can only get around 0.1% profit based on the contract volume.

20231105 - 10 At the Fed 185

It's surprising that LTCM got extra money in the end. I guess there are a lot of stuff not mentioned in this chapter. For example, the partners of LTCM may get sued, and the potential huge reward to the banks.

Warren Buffett is more greedy than I thought. Or maybe he was just objective?

20231105 - Epilogue 219

JVM failed again in 2009. That means, the theory from Myron Scholes and Robert Merton is completely wrong.

Fund and bank managers pursue short term goal to get high commision fee and bonus. If they are unlucky, it's the investors pay for it. Those people would just set up another fund or bank.

The best choice for normal finance investors is passive index fund. My favorite one is Nasdaq-100 ETF.