LTCM

1
Long-Term Capital Management
4.50
4.00
3.00
2.00
1.00
0.00
Gross value of 1 invested March 1994 - October
1998 in LTCMWhen Genius Failed pp. xiv
3/1994 1/1995 1/1996
1/1997 1/1998

Bailouts Seminar Karen Bradshaw, Molly Grovak,
Drew Navikas, Asha Spencer
2
Agenda

• Background
• Framework for analysis
• Was LTCM a bailout?
• Was LTCM successful (as a bailout)?
• Relevance to Current Crisis
• Conclusions
• Questions

3
Bond trading experience
Black
LOANS
BAILOUT 3.6B
PRESSURE
Up to 40 returns
Scholes
Meriwether
INVESTMENTS
Merton
Up to 1 trillion in derivatives
Mullins
LTCM
1.25 billion up to 7B down to 555M
PRESSURE
LOANS
4
Background
5
Background
6
Background
Russia defaults
80 loss over 5 weeks
4.50
4.00
3.00
2.00
1.00
0.00
3/1994 1/1995 1/1996
1/1997 1/1998
Gross value of 1 invested March 1994 - October
1998 in LTCMWhen Genius Failed pp. xiv
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Background
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Background
MISFIRE
Wall Streets Rocket Scientists thought they had
a surefire way to bear the markets. Boy, were
they wrong! -Business Week, Sept 21, 1998
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Framework for Analysis
Was LTCM a bailout?
ASK
Was LTCM successful (as a bailout)?

1. Use case studies from class to define the
   criteria for determining a bailout/success
2. Consider whether LTCM qualifies as a
   bailout/success against the criteria
3. Determine whether LTCM was a bailout/success and
   how LTCM might impact the criteria

FRAMEWORK
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Was LTCM a bailout?
15
Was LTCM a Bailout?
What makes something a bailout?
Input of private parties
Government intervention
More like a bailout
WHO
Principals of the firm
Existing creditors and stakeholders
Market Players
The Fed
Treasury
Congress
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Was LTCM a Bailout?
What makes something a bailout?
Input of private parties
Government intervention
More like a bailout
WHO
Principals of the firm
Existing creditors and stakeholders
Market Players
The Fed
Treasury
Congress
Market facilitation
Government intervention
More like a bailout
WHAT/ WHY
Jumpstart private negotiations
Stopping a downward spiral
Propping up firms during economic turbulence
Emulating private market when dysfunctional
Govt intervention to pursue normative vision
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Was LTCM a Bailout?
What makes something a bailout?
Input of private parties
Government intervention
More like a bailout
WHO
Principals of the firm
Existing creditors and stakeholders
Market Players
The Fed
Treasury
Congress
Discount window BOA Merrill
TARP HOLC Chrysler 1979
GE Immelt bonus Law firm partners
Chapter 11
Buffet GS
Detroit Today
Market facilitation
Government intervention
More like a bailout
WHAT/ WHY
Jumpstart private negotiations
Stopping a downward spiral
Propping up firms during economic turbulence
Emulating private market when dysfunctional
Govt intervention to pursue normative vision
SL Housing
Detroit Today American Dream FF
TARP
Chrysler 1979
Detroit Today Chrysler 1979
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Was LTCM a Bailout?
Yes yes yes! NO
Input of private parties
Government intervention
More like a bailout
WHO
Principals of the firm
Existing creditors and stakeholders
Market Players
The Fed
Treasury
Congress
LTCM
LTCM
LTCM
Market facilitation
Government intervention
More like a bailout
WHAT/ WHY
Jumpstart private negotiations
Stopping a downward spiral
Propping up firms during economic turbulence
Emulating private market when dysfunctional
Govt intervention to pursue normative vision
LTCM
LTCM
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Why does it matter?

• Distributes the perception of responsibility
• Bailout needed rescuing/failure by managers
• Not a Bailout this was a function of regulatory
  choices and global markets
• Sets criteria by which we measure success

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Was LTCM successful (as a bailout)?
21
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Short-term impact on first parties
Long-term impact on first parties
first party
t
short-term
long-term
22
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Autos, SL, Banks
Saving Jobs Chrysler, Detroit
Keeping Homes HOLC, FF, SL
first party
t
short-term
long-term
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people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Home Ownership SL, FF
Public Policy
American Autos Chrysler, Detroit
Economic Growth
Panic/Confidence
Easy Credit TARP
TARP
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Autos, SL, Banks
Saving Jobs Chrysler, Detroit
Keeping Homes HOLC, FF, SL
first party
t
short-term
long-term
24
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Home Ownership SL, FF
Public Policy
American Autos Chrysler, Detroit
Economic Growth
Panic/Confidence
Easy Credit TARP
TARP
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
Autos, SL, Banks
Chrysler, Detroit
Saving Jobs Chrysler, Detroit
Keeping Homes HOLC, FF, SL
Moral Hazard
first party
Autos, SL, Banks
t
short-term
long-term
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people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Home Ownership SL, FF
Barrier to Entry, Alternative Investment TARP,
Chrysler, FF
Public Policy
Opportunity Cost
American Autos Chrysler, Detroit
Economic Growth
Panic/Confidence
Preserving Networks
Moral Hazard
Easy Credit TARP
Market Learning SL, Chrysler
TARP
Chrysler, Detroit
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
Autos, SL, Banks
Chrysler, Detroit
Saving Jobs Chrysler, Detroit
Keeping Homes HOLC, FF, SL
Moral Hazard
first party
Autos, SL, Banks
t
short-term
long-term
26
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Home Ownership SL, FF
Barrier to Entry, Alternative Investment TARP,
Chrysler, FF
Public Policy
Opportunity Cost
American Autos Chrysler, Detroit
Economic Growth
Panic/Confidence
Preserving Networks
Moral Hazard
Easy Credit TARP
Market Learning SL, Chrysler
TARP
Chrysler, Detroit
Stopping Downward Spiral
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
Autos, SL, Banks
Chrysler, Detroit
Saving Jobs Chrysler, Detroit
Keeping Homes HOLC, FF, SL
Moral Hazard
Muting Economic Turbulence
first party
Autos, SL, Banks
Chrysler, SL
t
short-term
long-term
27
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Public Policy
Opportunity Cost
Economic Growth
Panic/Confidence
Preserving Networks
Moral Hazard
Stopping Downward Spiral
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
Moral Hazard
Muting Economic Turbulence
first party
t
short-term
long-term
28
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party
Public Policy
Opportunity Cost
Economic Growth
Panic/Confidence
Preserving Networks
Moral Hazard
prevented credit meltdown
/- precedent for Fed involvement /- avoided
regulation
Stopping Downward Spiral
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
no huge costs in human capital unwound at a
profit internalized losses investors who got
out early
Moral Hazard
Muting Economic Turbulence
first party
mitigated moral hazard
t
short-term
long-term
29
people impacted
Short-term impact on third parties
Long-term impact on third parties
third party

• benefit financial gaming
• made quantitative investment
• less risky
• how to rather than a
• ghost story

Public Policy
Opportunity Cost
Economic Growth
Panic/Confidence
Preserving Networks
Moral Hazard
prevented credit meltdown
/- precedent for Fed involvement /- avoided
regulation
Stopping Downward Spiral
Short-term impact on first parties
Long-term impact on first parties
Reputational Harm
Shielding Stakeholders
Preserving Jobs
no huge costs in human capital unwound at a
profit internalized losses investors who got
out early
Moral Hazard
Muting Economic Turbulence
first party
mitigated moral hazard
- didnt continue as a going concern
- reputational decline
t
short-term
long-term
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Relevance to Current Crisis

• Investment strategies
• Market dynamics
• Moral hazards

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Conclusions

• How do we put a stop to the learning gap without
  knee-jerk regulation?
• What should LTCM have led the Fed and Treasury to
  ask about Bear and Lehman?
• Why shotgun weddings without equity?

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Questions?
33
Bond trading experience
Black
LOANS
BAILOUT 3.6B
PRESSURE
Up to 40 returns
Scholes
Meriwether
INVESTMENTS
Merton
Up to 1 trillion in derivatives
Mullins
LTCM
1.25 billion up to 7B down to 555M
PRESSURE
LOANS