Long-Term Capital Management - LTCM

AAA

DEFINITION of 'Long-Term Capital Management - LTCM'

A large hedge fund led by Nobel Prize-winning economists and renowned Wall Street traders that nearly collapsed the global financial system in 1998 as a result of high-risk arbitrage trading strategies.

The fund formed in 1993 and was founded by renowned Salomon Brothers bond trader John Meriwether.

INVESTOPEDIA EXPLAINS 'Long-Term Capital Management - LTCM'

LTCM started with just over $1 billion in initial assets and focused on bond trading. The trading strategy of the fund was to make convergence trades, which involve taking advantage of arbitrage between securities that are incorrectly priced relative to each other. Due to the small spread in arbitrage opportunities, the fund had to leverage itself highly to make money. At its height in 1998, the fund had $5 billion in assets, controlled over $100 billion and had positions whose total worth was over a $1 trillion.

Due to its highly leveraged nature and a financial crisis in Russia (i.e. the default of government bonds) which led to a flight to quality, the fund sustained massive losses and was in danger of defaulting on its loans. This made it difficult for the fund to cut its losses in its positions. The fund held huge positions in the market, totaling roughly 5% of the total global fixed-income market. LTCM had borrowed massive amounts of money to finance its leveraged trades. Had LTCM gone into default, it would have triggered a global financial crisis, caused by the massive write-offs its creditors would have had to make. In September 1998, the fund, which continued to sustain losses, was bailed out with the help of the Federal Reserve and its creditors and taken over. A systematic meltdown of the market was thus prevented.

RELATED TERMS
  1. Hedge Fund

    An aggressively managed portfolio of investments that uses leveraged, ...
  2. Systematic Risk

    The risk inherent to the entire market or entire market segment. ...
  3. Arbitrage

    The simultaneous purchase and sale of an asset in order to profit ...
  4. Leverage

    1. The use of various financial instruments or borrowed capital, ...
  5. Fixed-Income Security

    An investment that provides a return in the form of fixed periodic ...
  6. Flight To Quality

    The action of investors moving their capital away from riskier ...
RELATED FAQS
  1. What is the long-term sector outlook for financial services?

    The broader financial services sector faces an uncertain long-term future. The enormous growth of the financial sector between ... Read Full Answer >>
Related Articles
  1. Options & Futures

    Massive Hedge Fund Failures

    Flying high one day but not the next - see the stories behind some spectacular meltdowns.
  2. Mutual Funds & ETFs

    Hedge Funds' Higher Returns Come At A Price

    Learn how hedge funds win big gains for investors - and why they sometimes lose.
  3. Economics

    When The Federal Reserve Intervenes (And Why)

    The Federal Reserve doesn't interfere with the economy every time it flounders. Find out more here.
  4. Active Trading Fundamentals

    How The Sharpe Ratio Can Oversimplify Risk

    When it comes to hedge funds, this measure is not reliable on its own.
  5. Options & Futures

    A Brief History Of The Hedge Fund

    Find out how this U.S.-born investment innovation became a $1-trillion industry that's both praised and vilified by the media.
  6. Options & Futures

    Hedge Funds: Higher Returns Or Just High Fees?

    Discover the advantages and pitfalls of hedge funds and the questions to ask when choosing one.
  7. Options & Futures

    Hedge Funds Hunt For Upside, Regardless Of The Market

    Hedge funds seek positive absolute returns, and engage in aggressive strategies to make this happen.
  8. Investing Basics

    What Is Cold Storage For Bitcoin And Why Does It Matter?

    With increasing incidents of hacking in the world of digital currency, cold storage offers a safe place for the cryptocurrency owners.
  9. Mutual Funds & ETFs

    These 4 Precious Metals ETFs Help Combat Inflation

    A look at 4 precious metal ETFs to combat inflation when it hits.
  10. Mutual Funds & ETFs

    Why Mutual Funds Lose Their Five-Star Ratings?

    Ratings help people feel confident about their decision before purchasing. Morningstar’s rating system helps people to find and invest in mutual funds.

You May Also Like

Hot Definitions
  1. Interest Rate Risk

    The risk that an investment's value will change due to a change in the absolute level of interest rates, in the spread between ...
  2. Income Effect

    In the context of economic theory, the income effect is the change in an individual's or economy's income and how that change ...
  3. Price-To-Sales Ratio - PSR

    A valuation ratio that compares a company’s stock price to its revenues. The price-to-sales ratio is an indicator of the ...
  4. Hurdle Rate

    The minimum rate of return on a project or investment required by a manager or investor. In order to compensate for risk, ...
  5. Market Value

    The price an asset would fetch in the marketplace. Market value is also commonly used to refer to the market capitalization ...
  6. Preference Shares

    Company stock with dividends that are paid to shareholders before common stock dividends are paid out. In the event of a ...
Trading Center