LTCM

As all of you know—or should know, and if you don’t: educated yourselves—September has a reputation for being the worst month of the year. (Do you like when I write “Dear Reader” statements such as that last one, wherein I pretend that I’m using my 20+ years of experience to teach you people, who work in financial services, something about the markets, when really, I’ve only been at this for not even a decade? Or that I give a fuck?) There’s a slowdown of money going into the markets and, historically, stocks decline an average 1.2% this month, versus an average gain of 0.59% during the other eleven. Additionally, many mutual funds counting October as their fiscal New Year’s Eve will be selling losing positions from mid-September until mid-October.
But how are we going to make this September the best (and by best we mean worst) one yet? Well, some think that if the Beard of Understanding takes an axe to the federal fund rates on September 18, it’ll mean there’s a recession around the corner. So that could be fun, no? We haven’t had one of those in a while. Then you’ve got a hiring freeze. And layoffs, lots and lots of layoffs, especially at Lehman Brothers, but maybe also at JP Morgan and Citi, and most definitely at Bear Stearns (is it insensitive to use this as an opportunity to plug the DealBreaker Career Center?). (If you happen to survive September, those tracking bonuses are predicting a 5% decline for bankers and a 40% decline for traders in the collateralized mortgage securities business. But that’s December’s bad news, not September’s. Focus, Levin. Focus).
Can’t really think of anything else off the top of our head at the moment, but surely you guys can come up with something. We’ll be bringing you a Sugarman update shortly.
For Investors, September Is the Cruelest Month [CNBC]
Markets Brace For Seismic September [NYP]
Wall Street hiring machine goes idle [MarketWatch]

LTCM II: Rise of the Machines

terminator_robot.jpg Three old LTCM employees, including co-founder Eric Rosenfeld, are opening Quantitative Alternatives LLC. Rosenfeld left Paloma Partners and teamed up with Robert Shustak of Strategic Value Partners and Bruce Wilson of Quantitative Financial Strategies to start the new Rye Brook, NY based fund. The three united in a giant quantgasm and devised a simple strategy for the new fund – let computers pick investments (and get sued if they lose over $4bn). Rosenfeld contends that as long as geniuses program them, computers can be at least as efficient as dart-throwing monkeys. The fund is currently building a human army to provide a deterrent to a machine revolt (computers like to charge 2 and 20, plus several human batteries – it gets awkward). Apply today!
Long-Term Capital’s Rosenfeld Opens Fund, Person Says [Bloomberg]

warrenbuffettlongtermcapital.jpgWe can’t believe that this is the first time we’ve ever heard this story. The basics are known to everyone. Long Term Capital Management, the now infamous hedge fund started by the real-life characters from Michael Lewis’s Liar’s Poker, collapsed dramatically in a very short period of time when bond spreads moved in an unlikely way against their positions. LTCM was so levered up that its collapse provoked fears that it might “bring down the financial system.” Then-Fed chief Alan Greenspan stepped in to organize a Wall Street bailout of LTCM. It was a scary spectacle for those involved and those merely watching.
Now comes the story that all of this might have been unnecessary. Or at least the meltdown might not have been quite as scary as it was because apparently Warren Buffett was ready to ride to the rescue, scoop up LTCM’s bond positions and save them from the margin call squeeze. Except that Bill Gates had invited him to go on vacation, so the whole thing never got done.
Here’s Jeremy Siegel telling the story:

The LTCM crisis was a ready-made example of Warren’s philosophy of buying firms when the economics was right, yet fear ruled the markets. He noted that “off-the-run” (non-benchmark) government bonds were selling to yield 30 basis points more than the “on-the-run” (benchmark) bonds that were maturing just six months later. He rightly claimed that this made no sense economically.
LTCM had taken a huge leveraged position in these bonds when the spreads were much smaller, but didn’t have the collateral to hold on to it when the spread widened. Buffett quoted John Maynard Keynes, who wrote in 1931 that “The market can stay irrational longer than you can stay solvent.” As the spread widened, Keynes’ dictum became devastatingly relevant for LTCM. But Berkshire, with its huge cash hoard, could withstand the pressure of even more market irrationality before the spread eventually returned to normal.
Unfortunately, Warren was never able to consummate the deal. He had been invited by Bill Gates to vacation in Alaska when the crisis broke and it was hard to negotiate such a deal on a cell phone… “Bill Gates cost me about $3 billion,” he shrugged.

Uhm. Wow. Imagine what would have happened if Citadel’s Ken Griffin had an art museum date when Amaranth faced a similar margin-call, collateral squeeze following Brian Hunter’s misadventures in the natty-gas futures markets. Citadel reportedly lead the charge to buy up Amaranth’s energy trading positions in a move that many credit with helping prevent the “contagion” from the Amaranth meltdown from spreading. I guess we should be glad that gerbils don’t need vacations.
Buffett Wisdom [Yahoo Finance via Marginal Revolution]