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Submitted by:
Group No. 10
Chaitali Kambli
Debashish Mishra
Aarti Vaishnaw -
Long Term Capital
Case Study
1994 - John Meriwether, the famed Salomon Brothers bond
trader, founded a hedge fund called Long-Term Capital
All-star team of traders and academics
Sophisticated investors and large investment banks
$1.3 billion investment at inception
September 1998 LTCM reaches brink of ddefault
Fund loses substantial amount of investors equity
Threat of systemic crisis in world financial system
Federal reserve comes to the rescue with a rescue package
Rescue package worth $3.5 billion.
Participants receive 90% of funds equity
LTCM Strategy
The basic principle of LTCM strategy was that in
the long term, the price of a security would
converge to its fair market value even though
there may be mispricing in the short term

LTCM utilized computer models to find arbitrage

opportunities between markets

Convergence trading strategy

Causes of LTCM
Proximate Cause:
- Russias default on its government obligations
- Banks guaranteeing the ruble hedge shut down when the
Russian ruble collapsed
- Russian government prevented further trading in its
Ultimate Cause:
- Flight to liquidity across global fixed income markets
- shifting of assets to liquid ones
Systemic Risk: the Domino effect
- Why this near-failure of LTCM should threaten the stability
of the global financial markets.
- all of the sophisticated models being run by the leveraged
- many of the investment banks obtained order flow
information through their dealings with LTCM
Lessons to be learned
from LTCM
Market values matter

Liquidity risk is itself a factor

Models must be stress-tested and combined with


Financial institutions must aggregate exposures to

common risk factors
Barings Bank
Baring Bankwas a Britishmerchant bankbased
The world'ssecond oldest merchant bank
It was founded in 1762
Headquarters: London, United Kingdom
Owned by the German-originatedBaring family of
merchants and bankers
The bank collapsed in 1995
The Bank Suffered losses of 827 million ($1.3
The Story
Expansion Nick Leeson After Effects
Same reserve Banks Trader in ING, a Dutch
for all business bank bought
Barings bank
Loss of control Lost $1.4 Billion
for 1
over operations in derivatives Formed
Bankrupt in Imprisoned for subsidiary: ING
1995 6.5 years Barings
Who Was Nick Leeson
He grew up in Londons Watford suburb
Worked for Morgan Stanley after graduation
Leeson then joined baring (Jakarta) to sort through
back-office mess involving 100 million of share
Successfully rectified the situation in 10 months
Then transferred to Singapore and worked with a
lot of power and freedom
Leeson Activities
Was supposed to be arbitrage
Instead of hedging, gambled on the future direction
of the Japanese markets
Had long futures position on OSE
Was not short on SIMEX
Kobe earthquake of January 17,1995 which led to
crash of Nikkei and his investment
Used account no.88888 for unauthorized
speculation to cover losses
Ended with a huge losses (GBP 827 MM)
The activities of nick Leeson led to the fall of
Lesson Strategy
Use of cross trade
Breaking down the total number of contracts into
several different traders.
Changed the trade price thereon to cause profits
Profits credited to switching accounts & losses to
be charged to account 88888
Details of this account were never transmitted to
the treasury or risk control offices in London
Failure to control Leeson
Effectively Let Leeson settle his own traders by
putting him in charge of both the dealing desk and
the back office
He had the final say on:
Ingoing and outgoing confirmation and contacts
Reconciliation statement
Accounting entries
Position reports
Lesson was considered perfectly placed to relay
false information back to London
Regulation In Response
The board of banking supervision conducted an

Did not necessitate any charge to framework of


Some exiting arrangement needed to be improved

Like better understanding of non-banking business

undertaken by the banking groups they were
responsible for
Lessons To Be Learned
A number of important lessons for senior bank
manager including the importance of internal
controls & audit processes
We think the following should be avoided by bank
Lack of internal checks and balances
Lack of understanding of the business
Poor supervision of employees
Lack of clear reporting line
Leeson was convicted of fraud and sentence to six
and half years imprisonment.
Film made on Leeson's biography, Rouge trader
Fall of baring was a wake-up call for financial
institution all over the world
The trading and back office function were not
delineated in baring leading to its collapse

Thank You!