Fed liquidating hedge fund

18-Sep-2020 00:54

Using its high leverage, LTCM sought profits in a broad range of markets – including those for government bonds, mortgage-backed securities, and equities – and entered into derivatives contracts extensively, including those for swaps, forwards, and options (Department of the Treasury, et al. In 1998, the financial markets crisis that had started in Southeast Asia the previous year intensified.In August, Russia suddenly devalued its currency and stopped payments on its debt, spurring investors to seek safer and more liquid investments.While the Fed had been aware of LTCM’s situation through its usual market monitoring activities, the dangerous scale and scope of LTCM's positions became apparent only upon closer inspection.The Fed came to be concerned that if LTCM’s extensive list of counterparties tried to exit their positions at the same time, it would create a rapid and widespread sale of assets, a fire sale, which could potentially impair the economy.

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A team from the New York Fed visited LTCM two days later.

When arbitrageurs face constraints on collateral, they are limited in their arbitrage positions…fund managers who are subject to liquidity risk reduce their portion of risky assets in preparation of fund runs.” “By analyzing the types of stocks hedge funds sold off during the crisis, the authors show that s…because high-volatility stocks respond sensitively to price movement and during a market downturn are more likely to experience price drops.

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