The Failure of Long-Term Capital Management

Abstract

The recent collapse of the brilliant hedge fund, Long-Term Capital Management, has caused a lot of concern in the financial community. The quants are saddened by the limits of critical thinking and some of the non-quants are claiming that LTCM is just like the rest of them. This article describes the type of trading LTCM may have been doing and shows analytically what may have gone wrong in August, 1998. It formalizes much of the jitter in the papers in order to understand how a sophisticated system could fail, despite not having any major bets in any one market.

Keywords: long-term capital management, ltcm, hedge funds, collapse, financial risk

JEL Classification: G0