Andrew Allentuck

Friday, October 20, 2000


Inventing Money: The Story of Long-Term Capital Management and the Legends Behind It
by Nicholas Dunbar
John Wiley & Sons, 245 pages

In the fall of 1998, Long Term-Capital Managment, a hedge fund with an estimated US$1.25 trillion of assets on its books, found itself in danger of sinking and taking down its backers, including some of the largest banks in the world. Formed as a hedge fund that speculated on volatility in world markets, it played the derivatives market with advanced mathematics and included several Nobel prizewinning economists among its investors and advisors. Had LTCM failed, it would have caused chaos on world markets as its own deals unwound and left counterparties insolvent.

To avoid a worldwide market meltdown the U.S. Federal Reserve functioned as an impresario, bringing together top Wall Street financial firms that injected $3.6 of fresh capital and reducing LTCM's original investors' stake to just 10 per cent. Investigating what LTCM had gotten itself - and the world's financial markets into - a team of one hundred accountants from Goldman Sachs found that the firm was in 60,000 trades with accumulated losses of $4.6 billion. Nobel prizes and fancy mathematics had led to the supreme crime of hubris, a crime of pride, and the fall came when it was realized, as Dunbar says, that "LTCM's computerized money machines had gone berserk and had destroyed their creators."

Inventing Money is a breathtaking story told with remarkable skill. Dunbar, trained as a physicist, unravels the mathematics that led to the huge debts and collapse of Long-Term Capital Management. The story is fast-paced and the insights into derivatives markets and the extraordinary risks they manage should be a lesson to anyone who assumes that financial markets are run by guys who know what they are doing. Dunbar shows why one should be a risk averter rather than a risk seeker in capital markets. It's a small book due to become a classic. It should be read by every serious investor.