Long-Term Capital Management- an analytical approach

Introduction:

We would have come across in the news about the financial crisis that occurs in our economy. It could be due to any reason related to the financial market and it could also go to an extent of collapsing of any entity as such. One such famous story in the history of finance was the Long Term Capital Management (LTCM) collapse, which was a threat to the world on the whole.

Let us take a look at the details of what are the causes of this and the key reasons for such a crisis and how it hindered the word of finance for the world.

Concept:

LTCM was a hedge fund that was proposed which was an institution with a huge net worth and well-reputed owners leading it. Also, it had very highly efficient investors who were Nobel Prize winners. All this added to its efficiency and working, on the large scale outlook.

Investors also had to invest with a minimum amount of certain agreed value and they could touch the funds for a period of three years. In spite of such restrictions also there was a huge crowd of investors, which kept this fund in high intensity always.

It was on the edge of a successful growth and it even helped for the 1997 Asian currency crisis. But it went into a sad state of affairs in the year 1998, but entirely failing and falling down. Since it was a huge fund, the Federal Reserve had resorted to help in bailing it out.

Causes:

This LTCM was based on a hedging policy which was against a predictable range of volatile foreign currencies. This was moving fine till Russia had announced currency devaluation which led to a hitting fall of this entire fund. And as a result, the funds in LTCM began to crumble beyond control. And finally, by end of August 1998, LTCM had fully collapsed.

The handy help from federal reserve:

It was the right time when the federal reserve convinced about 15 U.S banks to lend to bail out the LTCM fund out of the failure. It was indeed a timely resort for the failed fund and its members. It also assured the investors for the funs safety to a certain level.

Thus it is clear that a financial crisis can be caused by such sudden times causing the havoc of the entire financial situation that is prevailing ion the economy. It has no prevention as it is with no notice, therefore the risk management should be adjusted with such times also in mind.