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Bailouts Seminar Karen Bradshaw, Molly Grovak, Drew Navikas, Asha Spencer Long-Term Capital Management Gross value of $1 invested March 1994 - October.

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Presentation on theme: "Bailouts Seminar Karen Bradshaw, Molly Grovak, Drew Navikas, Asha Spencer Long-Term Capital Management Gross value of $1 invested March 1994 - October."— Presentation transcript:

1 Bailouts Seminar Karen Bradshaw, Molly Grovak, Drew Navikas, Asha Spencer Long-Term Capital Management Gross value of $1 invested March October 1998 in LTCM When Genius Failed pp. xiv 3/1994 1/1995 1/1996 1/1997 1/1998 $ ***

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

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

4 Background

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6 3/1994 1/1995 1/1996 1/1997 1/1998 $ Gross value of $1 invested March October 1998 in LTCM When Genius Failed pp. xiv Background 80% loss over 5 weeks Russia defaults

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11 Background

12 Wall Street’s Rocket Scientists thought they had a surefire way to bear the markets. Boy, were they wrong! -Business Week, Sept 21, 1998 MISFIRE

13 Framework for Analysis 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 Was LTCM a bailout? Was LTCM successful (as a bailout)? FRAMEWORK ASK

14 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 PlayersThe FedTreasuryCongress

16 Was LTCM a Bailout? What makes something a bailout? WHAT/ WHY Market facilitation Government intervention More like a bailout Input of private parties Government intervention More like a bailout WHO Principals of the firm Existing creditors and stakeholders Market PlayersThe FedTreasuryCongress Jumpstart private negotiations Stopping a downward spiral Propping up firms during economic turbulence Emulating private market when dysfunctional Gov’t intervention to pursue normative vision

17 Was LTCM a Bailout? WHAT/ WHY Market facilitation Government intervention More like a bailout Input of private parties Government intervention More like a bailout WHO Principals of the firm Existing creditors and stakeholders Chapter 11 GE Immelt bonus Law firm partners Market Players Buffet & GS The FedTreasury Detroit Today Congress TARP HOLC Chrysler 1979 Jumpstart private negotiations Chrysler 1979 Stopping a downward spiral S&L Housing Propping up firms during economic turbulence Detroit Today Chrysler 1979 Emulating private market when dysfunctional TARP Gov’t intervention to pursue normative vision Detroit Today American Dream: F&F What makes something a bailout? Discount window BOA & Merrill

18 Was LTCM a Bailout? Yes yes yes! ~ NO WHAT/ WHY Market facilitation Government intervention More like a bailout Input of private parties Government intervention More like a bailout WHO Principals of the firm Existing creditors and stakeholders Market PlayersThe FedTreasuryCongress Jumpstart private negotiations Stopping a downward spiral Propping up firms during economic turbulence Emulating private market when dysfunctional Gov’t intervention to pursue normative vision LTCM

19 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

20 Was LTCM successful (as a bailout)?

21 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties

22 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Reputational Harm Shielding Stakeholders Autos, S&L, Banks Saving Jobs Chrysler, Detroit Keeping Homes HOLC, F&F, S&L

23 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Reputational Harm Shielding Stakeholders Home Ownership S&L, F&F American Autos Chrysler, Detroit Easy Credit TARP Autos, S&L, Banks Saving Jobs Chrysler, Detroit Keeping Homes HOLC, F&F, S&L

24 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Preserving Jobs Moral Hazard Reputational Harm Shielding Stakeholders Home Ownership S&L, F&F American Autos Chrysler, Detroit Easy Credit TARP Autos, S&L, Banks Saving Jobs Chrysler, Detroit Keeping Homes HOLC, F&F, S&L Chrysler, Detroit Autos, S&L, Banks

25 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Opportunity Cost Preserving Networks Moral Hazard Preserving Jobs Moral Hazard Reputational Harm Shielding Stakeholders Home Ownership S&L, F&F American Autos Chrysler, Detroit Easy Credit TARP Chrysler, Detroit Market Learning S&L, Chrysler Barrier to Entry, Alternative Investment TARP, Chrysler, F&F Autos, S&L, Banks Saving Jobs Chrysler, Detroit Keeping Homes HOLC, F&F, S&L Chrysler, Detroit Autos, S&L, Banks

26 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Opportunity Cost Preserving Networks Moral Hazard Preserving Jobs Muting Economic Turbulence Moral Hazard Stopping Downward Spiral Reputational Harm Shielding Stakeholders Home Ownership S&L, F&F American Autos Chrysler, Detroit Easy Credit TARP Chrysler, Detroit Market Learning S&L, Chrysler Barrier to Entry, Alternative Investment TARP, Chrysler, F&F Autos, S&L, Banks Saving Jobs Chrysler, Detroit Keeping Homes HOLC, F&F, S&L Chrysler, S&L Chrysler, Detroit Autos, S&L, Banks

27 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Opportunity Cost Preserving Networks Moral Hazard Preserving Jobs Muting Economic Turbulence Moral Hazard Stopping Downward Spiral Reputational Harm Shielding Stakeholders

28 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Opportunity Cost Preserving Networks Moral Hazard Preserving Jobs Muting Economic Turbulence Moral Hazard Stopping Downward Spiral Reputational Harm Shielding Stakeholders + no huge costs in human capital + unwound at a profit + internalized losses + investors who got out early + prevented credit meltdown +/- precedent for Fed involvement +/- avoided regulation + mitigated moral hazard

29 t people impacted short-termlong-term first party third party Short-term impact on third parties Short-term impact on first parties Long-term impact on third parties Long-term impact on first parties Public Policy Economic Growth Panic/Confidence Opportunity Cost Preserving Networks Moral Hazard Preserving Jobs Muting Economic Turbulence Moral Hazard Stopping Downward Spiral Reputational Harm Shielding Stakeholders - benefit financial gaming - made quantitative investment less risky - “how to” rather than a ghost story + no huge costs in human capital + unwound at a profit + internalized losses + investors who got out early - reputational decline + prevented credit meltdown +/- precedent for Fed involvement +/- avoided regulation + mitigated moral hazard - didn’t continue as a going concern

30 Relevance to Current Crisis Investment strategies Market dynamics Moral hazards

31 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?

32 Questions?

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


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