Bayesian Investor Blog

Ramblings of a somewhat libertarian stock market speculator

When Genius Failed

Posted by Peter on April 12, 2006
Posted in: Book Reviews, Investing. Tagged: bias, stock market crash.

Book Review: When Genius Failed : The Rise and Fall of Long-Term Capital Management by Roger Lowenstein
This is a very readable and mostly convincing account of the rise and fall of Long-Term Capital Management. It makes it clear to me how the fairly common problem of success breeding overconfidence led LTCM to make unreasonable gambles, and why other financial institutions that risked their money by dealing with LTCM failed to require it to exercise a normal degree of caution.
The book occasionally engages in some minor exaggerations that suggest the author is a journalist rather than an expert in finance, but mostly the book appears a good deal more accurate and informed than I expect from a reporter. It is written so that both experts and laymen will enjoy it.
One passage stands out as unusually remarkable. “The traders hadn’t seen a move like that – ever. True, it had happened in 1987 and again in 1992. But Long-Term’s models didn’t go back that far.” This is really peculiar mistake. The people involved appeared to have enough experience to realize the need to backtest their models better than that. I’m disappointed that the book fails to analyze how this misjudgment was possible.
Also, the author spends a bit too much analysis on LTCM’s overconfidence in their models, when his reporting suggests that a good deal of the problem was due to trading that wasn’t supported by any model.

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