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Janet Tavakoli: "Greater Global Risk Now Than At Time Of LTCM"

Tyler Durden's picture


Janet Tavakoli, from Letters to the Editor, Financial Times

Greater Global Risk Now Than At Time Of LTCM

Sir, The Financial Services Authority claims that hedge fund gearing has decreased (report, May 2) and the Federal Reserve Bank of New York suggests that there is no close correlation between hedge fund returns making the current situation less alarming than in the past (May 3). I believe it was Winston Churchill who said we must alert somnolent authority to novel dangers; but in this matter authority seems complacent, and the dangers are not novel.

The FSA produced numbers from a partial survey of hedge funds and discussed "average" leverage, thus highlighting the well known flaw of averages. If a swimming pool's average depth is four feet, but the deep end of the pool is eight feet, non-swimmers are presented with unacceptable risk. The average would suggest non-swimmers can safely use the pool, but a drowning man finds out the hard way that the average doesn't contain information descriptive of the risk.

The NY Fed uses data to examine volatility and correlations, both of which are not of much use in a crisis when correlations deviate from historical measures and even approach one. Indeed even today, one should consider that hedge fund returns are anything but independent. Hedge funds are often called "alternative" assets, but they have not created new asset classes. Hedge funds invest in the global markets along with other investors, albeit hedge funds may be more creative, more illiquid and may employ more leverage.

"Tavakoli's law" states that if some hedge funds' returns soar above market averages, then others must crash and burn. If one accepts that passive investors are indexed and reap average market returns, then active investors that reap extraordinary returns above the market average are offset by active investors who experience extraordinary losses in aggregate.

The current situation may indeed be different from that presented by Long Term Capital Management, but it may be even more alarming, not less alarming. Due to the use of structured products and derivatives, hedge funds can take on hidden leverage above and beyond that which can be explained by polling prime brokers. Furthermore, illiquid structured products will experience a classic collateral crash when hedge funds try to liquidate these assets to meet margin calls or collateral "cures".

Since 2000, assets invested in hedge funds have more than tripled to around $1,500bn. While on average leverage may appear manageable, some hedge funds - Amaranth to cite a recent example - employ high degrees of leverage. A potential source of a "great unwind" arises from a trigger event affecting highly leveraged hedge funds, and another potential source is systemic risk that effects a larger cohort of hedge funds.

Many hedge funds are not highly leveraged, and they will weather the storm. But the explosion of hedge fund investments in illiquid assets combined with leverage currently pose a greater risk to the global financial markets than we experienced at the time of the LTCM debacle.




As for the true nature of hedge fund leverage, here is the most recent update presented previously two weeks ago.



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Tue, 06/07/2011 - 12:38 | 1347230 So Close
So Close's picture

If Gold and Silver are money and Fiat is a house of cards than it is just a matter of time.   Probably worth remembering that being early is the same as being wrong.

Tue, 06/07/2011 - 13:26 | 1347355 reload
reload's picture

I didnt junk you, but; its not the same - early is early, however early with leverage can be just as bad as being wrong. I think the real point here is that the `structured products` are not very liquid at the best of times. When a fund is feeling clever and invincible they are tempting, `look at me - I have bought a bespoke instrument which will allow me to profit when things pan out as I predict` - but when TSHTF no chance to get out at a `reasonable` price in a fast market. The structured product groups of the TBTF -bank/brokers love these instruments, they sell them with large inbuilt margins and construct esoteric hedges to lock in & `book` their profits. The purchaser of the product is their prisoner if he needs to unwind in a hurry or a fast market. We have seen from the Goldman MBS debacle that the TBTF have no qualms about inflicting `maximum pain` on their clients, margin gathering and stop loss hunting has not gone out of fashion. Great article, JT is a smart cookie.

Tue, 06/07/2011 - 21:19 | 1349239 Harlequin001
Harlequin001's picture

If all the world is as safe financially as our leaders would have us believe then all the world's governments need do is to buy protection for their own debt by multiples of 2 through CDS and default, just like Goldman did when it shorted its stock of CDO's. We could all then be twice as wealthy having paid off our debts in default and have a similar sum left over for the next twenty years of largess.

If all the world was as safe financially as our leaders would have us believe then there is no need to bail out any bank, or any company for that matter since all can now buy CDS against their own debt. Do we now conclude that since none of the worlds central banks have yet done this the entire 600 trillion dollar derivatives market is nothing but a well known 'shining lie' that no one can now deal with since the problem is now far too great.

Collapse is the only possible outcome

Tue, 06/07/2011 - 12:38 | 1347232 HelluvaEngineer
HelluvaEngineer's picture

No worries.  Tim Geithner's got your back!

Tue, 06/07/2011 - 14:14 | 1347548 Crisismode
Crisismode's picture

Is that why he stuck a knife in it?


This summer is going to make for some very interesting fireworks, and I'm not referring to July 4.

Tue, 06/07/2011 - 12:40 | 1347233 unununium
unununium's picture

You mean a trigger event like oh, I don't know, the default of a sovereign European state?

Tue, 06/07/2011 - 12:55 | 1347278 redpill
redpill's picture

It's going to be fun to watch the ECB and IMF try to stop it.  Like watching a little kid who thinks if they flap their arms hard enough they'll be able to fly.

Tue, 06/07/2011 - 13:48 | 1347466 Ahmeexnal
Ahmeexnal's picture

Or a war involving Syria and it's neighbor?

Syrian protesters along the Israeli border were paid thousands of dollars by President Bashar Assad's regime to take part in Sunday's demonstrations where more than 20 people were killed, reports.

The Reform Party of Syria said intelligence sources told them that the Syrian protesters were poverty-stricken farmers.

They were paid $1,000 for showing up to the protests and their families would be paid $10,000 if they died, according to

Sad Ass ASSad knows his time is up. His only hope is to engage in full scale war with Israel in order to preserve his throne. Syrian soldiers have now joined protesters and are shooting down the elite Syrian forces still loyal to ASSad:

BEIRUT -- Mutinous Syrian soldiers joined forces with protesters after days of crackdowns in a tense northern region, apparently killing dozens of officers and security guards, residents and activists said Tuesday.

Tue, 06/07/2011 - 12:55 | 1347282 espirit
espirit's picture

Ever heard of kicking the can down the road?

Refinance the interest payment, problem solved.

Tue, 06/07/2011 - 12:58 | 1347289 MonsterZero
MonsterZero's picture

Greece gets Interest only with 50 year ARM.

Tue, 06/07/2011 - 13:43 | 1347468 Gubbmint Cheese
Gubbmint Cheese's picture

nope - terms are too onerous.

Try a "pick-a-pay" with a minimum payment option. All accrued interest just gets added to the balance.


Tue, 06/07/2011 - 12:55 | 1347291 SheepDog-One
SheepDog-One's picture

Or, dirty bombs in US cities?

Tue, 06/07/2011 - 14:08 | 1347538 Enceladus
Enceladus's picture


AKA "The Fukushima Effect"

or non-linear dynamics or 1+1=2+1=18,

The financial engineers working tirelessly to keep the back up generators working in the basement of the Fed and Treasury and on Wall Street will never see the 30 meter tsunami about to wash over the plant.

Tue, 06/07/2011 - 12:45 | 1347244 JLee2027
JLee2027's picture

We appear to be on the verge of the great collapse.

Tue, 06/07/2011 - 12:55 | 1347279 Cognitive Dissonance
Cognitive Dissonance's picture


I thought we already did that in 2008? Dammit.......did I miss a memo?

Tue, 06/07/2011 - 12:59 | 1347292 redpill
redpill's picture

 No that was just a transitory event, obviously caused by a lack of liquidity.  Thankfully we've been pulled into roaring recovery by HFT robots that generously provide the liquidity that our economy needs.

Tue, 06/07/2011 - 13:09 | 1347340 DoChenRollingBearing
DoChenRollingBearing's picture

+ 1

JLee, and those of you who have commented positively re my replies here at might enjoy my blog, where I write about gold & silver, guns & ammo, TEOTWAWKI, Peru, etc. please send me an email if you would like the link to my blog.  Name above at gmail.  Please assure me that you will be nice.

Tue, 06/07/2011 - 13:14 | 1347359 Cognitive Dissonance
Cognitive Dissonance's picture

Please don't invite Tyler. We don't wish to distract him from the insanity at hand. He's already busier than a one armed Silver and Gold buyer.

Tue, 06/07/2011 - 13:54 | 1347493 augie
augie's picture

No cock pics ?


Tue, 06/07/2011 - 12:54 | 1347275 nantucket
nantucket's picture

man, the Mayans may turn out to be right after all.  I'm going to live it up like Dec 21, 2012 is the collapse of the whole enchilada.  After that,....who knows.

Tue, 06/07/2011 - 12:52 | 1347283 redpill
redpill's picture

mmm enchiladas.  Don't have to worry about my gut if the world is ending, I suppose.  Ole!


Tue, 06/07/2011 - 13:02 | 1347302 Ahmeexnal
Ahmeexnal's picture

The ancient Maya Rabbis knew what the modern scientists still deny.

Tue, 06/07/2011 - 13:26 | 1347402 sdmjake
sdmjake's picture

Jai alai?

Tue, 06/07/2011 - 12:56 | 1347297 espirit
espirit's picture

Nah, the date was last changed to Oct 21 of this year from May.  Besides, we don't know if the Mayans started their calendar with year zero or one, so better be prepped to leave this year between Oct and Dec.

I'll hold your PM's for you.

Tue, 06/07/2011 - 13:03 | 1347322 FreeNewEnergy
FreeNewEnergy's picture

Dec 21, 2012

Something wrong here: 12/21/2012. Seems like, for more symmetry, there should be no zero, thus, the magic date would be 12/21/2112.

Delving further, we find, through the arcane Pythagorean system known as numerology (and before junking me, Pythagorus was indeed the founder. Look it up) we get a result, in the first instance of 11, a prime number, and useful if one wants to predict the end of the world, though 1 or 9 could be equally insightful. Also, remember that 1+1=2, so the 11 reduces to 2, rendering it useless as a predictive tool for end times.

100 years into the future, 12/21/2112 is reduced to 12, or 3, again, not much help. If you really want to get to the end of the world, or end of time. 1 or 9 is preferred.

6/7/2012 is today, which is 18, or 1+8=9. There. The world ends today. Crap, and I just needlessly shaved.

See you all on the other side. Bring your own.

Tue, 06/07/2011 - 13:29 | 1347404 Clampit
Clampit's picture

The prophet Neil Peart would seem to agree. ;-)

You also assume it's the 10 digit humans who decide what base. After considerable reflection on the matter with my 6 year old son, I'm beginning to think the three toed sloth is woefully overlooked. That and the dolphins, who have the luxury of using the same base as my laptop and coincidentally give the same answer of 101010.

Tue, 06/07/2011 - 13:23 | 1347381 Cognitive Dissonance
Cognitive Dissonance's picture

Sorry but the Mayans didn't predict the end of the world, just the end of one age and the beginning of another.

MSM has been beating the end-of-the-world horse just like it does every other fear mongering horse.

Tue, 06/07/2011 - 13:22 | 1347392 FreeNewEnergy
FreeNewEnergy's picture

Ah, thanks for clearing that up. And that's obviously bullish for stocks, right?

Tue, 06/07/2011 - 13:29 | 1347415 Cognitive Dissonance
Cognitive Dissonance's picture

Yes. And please use maximum leverage as well. But only use funds you have borrowed to begin with, then deposit them in a margin account and go to town.

Keep me updated. I care.

Tue, 06/07/2011 - 14:31 | 1347471 cougar_w
cougar_w's picture

Keep me updated. I care.

We can all feel the love. :)

Oh there is a new story up if you want some more warm fuzzies:

Fortran is being bad again. Or is it good? She's not sure herself, but I'm leaning toward the former myself  in the off chance she'll then submit to a firm spanking.

Tue, 06/07/2011 - 13:23 | 1347382 FreeNewEnergy
FreeNewEnergy's picture

Hey, you're right. 12/21/2011 reduces to 10, which is 1, which would correlate to TEOTWAWKI. (see my post below, or above, depending on whether you're standing on head or tipped your i-pad over the wrong way).

Tue, 06/07/2011 - 12:56 | 1347287 Dixie Rect
Dixie Rect's picture

I hear helicopters.

Tue, 06/07/2011 - 12:57 | 1347288 FreeNewEnergy
FreeNewEnergy's picture

I'm so confused. Should I buy the dips, sell the chips, or flip the condo?

Tue, 06/07/2011 - 12:56 | 1347294 SheepDog-One
SheepDog-One's picture

Dip the guacamole, sip the Corona.

Tue, 06/07/2011 - 13:00 | 1347299 redpill
redpill's picture

Screw the dip, buy fresh avocados and make guacamole.  Eat the chips with it.  And then pay off the condo and live there while the world implodes.

Tue, 06/07/2011 - 13:01 | 1347311 Ahmeexnal
Ahmeexnal's picture

What's the matter with you? No Adonis DNA? No tiger blood in your veins? Time for a Charly Sheen inspired weekend -midweek.

Tue, 06/07/2011 - 13:02 | 1347318 redpill
redpill's picture

Tried to come up with a Tigers Blood cocktail involving Bloody Mary mix and Jaeger.  Didn't work out well.

Tue, 06/07/2011 - 13:02 | 1347317 Commander Cody
Commander Cody's picture

One more enhancement: Stop paying on the condo.

Tue, 06/07/2011 - 13:06 | 1347332 FreeNewEnergy
FreeNewEnergy's picture

How about I flip the dip, chip the condo and spunk a monkey?

Tue, 06/07/2011 - 13:05 | 1347305 SheepDog-One
SheepDog-One's picture

'Hedge funds'...another part of the problem. Everyone in on record margin leveraged to the gills livin it up, then when it implodes they run around crying about how it all could have gone so wrong and get bailed out by the taxpayers with a gun to their head.

Tue, 06/07/2011 - 13:11 | 1347347 qussl3
qussl3's picture

Gun is empty, time to call the bluff.

Iceland is proof.

Tue, 06/07/2011 - 13:01 | 1347312 DogSlime
DogSlime's picture

As long as we don't have to bail them out, I say let them leverage all they want...

Just so long as this time when they fail, they fail.

Tue, 06/07/2011 - 13:05 | 1347315 Franken_Stein
Franken_Stein's picture


A top Bilderberg member has revealed that globalists are panic-stricken about a potential eurozone crisis caused by a Greek debt default that could precipitate the collapse of the Euro and also derail the wider agenda for multi-regional currency unions and eventually a global currency system.

Appearing on the Alex Jones Show yesterday, veteran Bilderberg sleuth Jim Tucker said that the Euro will again be the subject of crisis talks at this years globalist confab in San Moritz, Switzerland, with power brokers desperate to rescue the single currency from a collapse that numerous financial analysts see on the horizon.


Tue, 06/07/2011 - 13:09 | 1347341 DogSlime
DogSlime's picture

They'll just offload whoever they deem to be "toxic" members of the Eurozone, won't they?

Tue, 06/07/2011 - 13:20 | 1347367 Tuco Benedicto ...
Tuco Benedicto Pacifico Juan Maria Ramirez's picture

Death to the New World Order!

Tuco Benedicto Pacifico Juan Maria Ramirez

Tue, 06/07/2011 - 13:10 | 1347345 RobotTrader
RobotTrader's picture

No doubt a "surprise" announcement is due any day now from the "O-Team".

Something that will "shock and awe" the stock market.

The question is when is the ideal time to make such announcement to inflict the maximum amount of pain on the shorts?

Tue, 06/07/2011 - 13:12 | 1347352 qussl3
qussl3's picture

Eventually it will suit TPTB to shear the longs, wonder when that is.

Tue, 06/07/2011 - 13:17 | 1347357 redpill
redpill's picture

I thought you were going to go short on the S&P?  What happened?

Tue, 06/07/2011 - 13:18 | 1347361 FreeNewEnergy
FreeNewEnergy's picture

STFU, robo. You're a clown. Please go away.

Tue, 06/07/2011 - 13:36 | 1347431 espirit
espirit's picture

Free starch?

Tue, 06/07/2011 - 13:40 | 1347463 oogs66
oogs66's picture

sadly I agree...mkt been down too long without some form of government intervention here...

Tue, 06/07/2011 - 13:11 | 1347351 cougar_w
cougar_w's picture

It's been a great year for superlatives:

Biggest tornado, most tornados ever.

Most rainfall, greatest snowfall.

Largest fire.

Greatest flood.

So now we have most risky period to add to the list. But I suspect there are a lot of people already thinking that, and they don't even have any money in the markets.


Tue, 06/07/2011 - 13:25 | 1347391 Cognitive Dissonance
Cognitive Dissonance's picture


Did you ever get that 'bicycle' back on the road? I demand pictures.

Tue, 06/07/2011 - 13:41 | 1347432 cougar_w
cougar_w's picture

Not the new one just yet (I've set a deadline of July 4 for myself!) but the old one is running again and can be drooled over here:

For the uninitiated: That's an 8.5 foot wheel-base, 11 feet overall, 26" wheels, 36 volt hub motor. Goes about 25 mph with something like a 60 mile range. Prius' are for pussies.

Tue, 06/07/2011 - 14:29 | 1347632 Cognitive Dissonance
Cognitive Dissonance's picture

Easy Rider.

Tue, 06/07/2011 - 14:33 | 1347654 cougar_w
cougar_w's picture

Damm that's real purdy I want one.

Oh. Wait ...

Tue, 06/07/2011 - 14:46 | 1347725 Cognitive Dissonance
Cognitive Dissonance's picture

Parents always think their children are the best looking, most exemplary, highest achieving children within a 1,000 mile radius. It's what keeps us from killing them.

Only in your case you might just be right. :>)

Tue, 06/07/2011 - 14:50 | 1347723 InconvenientCou...
InconvenientCounterParty's picture

I think I saw that POS going down the road a few days ago. Could there possibly be more tan 1?

Tue, 06/07/2011 - 14:50 | 1347735 cougar_w
cougar_w's picture


Well there must be more than one, because mine is not a POS.

The nerve of some people ...

Tue, 06/07/2011 - 14:57 | 1347757 RunningMan
RunningMan's picture

Very cool. Is that a homemade electric bike then? Street legal on most roads?

Tue, 06/07/2011 - 14:59 | 1347764 cougar_w
cougar_w's picture

Homemade: yes.

Legal: Meh. Probably.

The next one ... won't be [evil laugh]

Tue, 06/07/2011 - 13:46 | 1347469 Hulk
Hulk's picture

Found a cougar (but not "The Cougar") on a bicycle CD:

Bonita Pierna Bitchez!

Tue, 06/07/2011 - 14:34 | 1347623 Cognitive Dissonance
Cognitive Dissonance's picture

Instantly I heard the musical score from the Wizard of Oz where the (witch) neighbor is on the bicycle.

Tue, 06/07/2011 - 13:35 | 1347440 PY-129-20
PY-129-20's picture

Yeah, a great year. Oh, you shouldn't exclude all the riots, the civil wars, the nuclear disasters... .

Tue, 06/07/2011 - 13:41 | 1347465 cougar_w
cougar_w's picture

Good point, but so far none of those have been labeld "best of" or "most violent evar."

At the moment, Nature is taking the limelight. But I don't doubt humans will be catching up pretty soon, oh yes. Somewhere out there is a latter-day Pol Pot or Josef Stalin simply itching to pull the trigger and get things moving.

Tue, 06/07/2011 - 14:03 | 1347511 Tom Servo
Tom Servo's picture

How about biggest douchebag (Geithner)


Tue, 06/07/2011 - 13:26 | 1347386 mr. mirbach
mr. mirbach's picture

Can't we send troups to San Moritz, round up the "Financial Terrorists" and send them to Gitmo?

Tue, 06/07/2011 - 13:55 | 1347496 Things that go bump
Things that go bump's picture

A very small, judiciously placed nuclear device would treat that cancer on the body politic.  

Tue, 06/07/2011 - 13:27 | 1347410 PaperBear
PaperBear's picture

Yeah, I have your liquid right here.

Tue, 06/07/2011 - 13:36 | 1347444 oogs66
oogs66's picture

Tavakoli's law, did she post how many hedge funds have returns soaring above the average?  Fund returns don't seem particularly outstanding relative to other markets and the conclusion that there is high use of leverage in illiquid markets didn't seem supported particularly well?

Tue, 06/07/2011 - 14:11 | 1347541 THE DORK OF CORK
THE DORK OF CORK's picture

If Janet wants to flee to a Desert Island I would be happy to tag along.


Tue, 06/07/2011 - 14:42 | 1347706 mt paul
mt paul's picture


might be a desert island soon ..

Tue, 06/07/2011 - 14:10 | 1347542 THE DORK OF CORK
THE DORK OF CORK's picture

I won't let you starve Janet.................... 

Tue, 06/07/2011 - 14:13 | 1347561 paxxi
paxxi's picture


Janet is one of the brightest people on the planet IMO


Tue, 06/07/2011 - 15:08 | 1347819 Steaming_Wookie_Doo
Steaming_Wookie_Doo's picture

"if some hedge funds' returns soar above market averages, then others must crash and burn. If one accepts that passive investors are indexed and reap average market returns, then active investors that reap extraordinary returns above the market average are offset by active investors who experience extraordinary losses in aggregate."

Hmm, I'd be inclined to argue a bit on this one since most passive investors I know aren't getting much return at all (or is that what is implied in "average market returns", even if it's negative?). How about those passive gummint workers whose retirement funds are now being sunk into Treasuries so Timmah doesn't overdraw the acct? As risky as active investing is portrayed, at the very least I have the satisfaction of knowing I made it or lost it myself. Otherwise, just opening up a quarterly statement balance and wanting to collapse from impotent rage is not my idea of a good time. 

Speaking of risk--risk mgmt in particular, that concept seems to have gone out the window completely. If I'm leveraged 2x, that means I have to have my stops at least twice as tight as just operating with x amt in my acct. Leveraging at 20x or more seems like a recipe for destruction. If your hedge fund is winning doing stuff like that, they are either a) totally dealing off insider info and will get busted (and you may not get your money back from the lawyers/feds) or b) their luck will run out and will get creamed beyond recognition. Either way, you are likely to end up with nothing in the long run.

Tue, 06/07/2011 - 15:17 | 1347860 gianakt
gianakt's picture

The best thing for the fed to shock the market would be to stop paying interest on reserves and to raise interest rates by a small amount of a quarter to half a percent interest. This would drive commodity prices down and give the consumer money to spend and stop the wealth transfer to all the commodity producing countries.

Tue, 06/07/2011 - 18:10 | 1348712 twotraps
twotraps's picture

Tue, 06/07/2011 - 18:30 | 1348761 twotraps
twotraps's picture

We need to stop applying logic and reason in coming up with future scenarios. Perhaps the question is how can the people in charge maintain or increase their level of control and what rule changes will arise to make it happen....however stupid they may seem. What are the biggest issues/obstacles and how could they be mitigated or made less scary. Imagine a Giant Risk Sharing Mechanism....EMERGENCY Mechanism will surprise us all and make Debt more fun again? Most importantly how can we profit from it?

Tue, 06/07/2011 - 18:37 | 1348789 Yen Cross
Yen Cross's picture

   Risk. Lets discuss it. Thank you.


Tue, 06/07/2011 - 22:36 | 1349492 Itsalie
Itsalie's picture

So Janet writing a new book? Hope it's not about her sugar daddy the savvy oracle of omaha again - i threw that one away after the first 5 pages.

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