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Chapter 525 Adding to the Position

Inside Jane Fraser's office, the two had left the hedge fund department and arrived here. Ernst was listening to her report on the recent work of Ernst Asset Management.

"We have now built up a short position of $50 billion in Russian bonds." Jane Fraser's voice trembled slightly, and she deliberately slowed down her speech to make her expression sound more composed, but the change in speaking speed still revealed her inner anxiety.

Although she knew that Russia's massive national debt had long exceeded sustainable limits, and that default was a foregone conclusion, a death sentence with no possibility of reversal.

But before it happened, I still felt a little uneasy.

After all, this is a five billion dollar gamble. One wrong step and the whole game is lost, and everyone in Ernst Asset Management will be doomed.

The entire Wall Street community will no longer give those involved any more opportunities; they will essentially have to say goodbye to the financial industry from now on.

Ernst looked up at her, noticing the tension and unease in her eyes. A gentle smile curved his lips as he reassured her, "Don't worry, nothing will go wrong."

"You are familiar with the reports made by the relevant departments. I believe that with your professional judgment, you cannot possibly not understand the signals conveyed by these reports."

When Ernst mentioned the report made by the relevant departments based on data obtained from Russia, Jane Fraser tensed up.

My nerves relaxed a little, and I felt much more at ease.

Russia's current debt-to-GDP ratio is far too high, exceeding the internationally recognized safe threshold.

The annual debt interest payments and principal repayments alone account for 58% of fiscal revenue, which means that the Russian government's budget is seriously unbalanced.

Knowing the size of Russia's debt and the annual interest payments the Russian government needs to make, many things become clear.

After repaying maturing debts and interest, the limited fiscal revenue is insufficient to even cover basic expenditures such as civil servant salaries and public services, let alone investment in other areas such as economic development and social security.

This "bomb buried in the Russian economic system" is already riddled with cracks, and no amount of embellishment can conceal the fact that it is about to explode; it's only a matter of time.

"By the way, what is our overall leverage ratio right now? Especially the leverage configuration of our short positions in Russian bonds," Ernst suddenly asked.

Jane Fraser quickly regained her composure and said, "Regarding the short positions in Russian bonds, the current leverage ratio is 1:5. Combined with the hedging portfolio we have built using tools such as treasury bond futures and credit default swaps, the risk exposure is completely within a controllable range."

"However, the leverage ratios in other investment sectors are relatively high, with the leverage ratio of the 30-year US Treasury bond exceeding 28 times."

She emphasized the number 28 times, clearly expressing reservations about such a high leverage ratio.

Ernst lowered his head and pondered for a moment, his fingertips tracing an arc on the table, as if he were deducing some kind of market logic.

A moment later, he looked up, a resolute glint in his eyes. "Increase the leverage of the short position in Russian bonds to more than 10 times, and at the same time buy German government bonds as a hedging tool."

German government bonds, as a core safe-haven asset in the Eurozone, have ample liquidity and stable credit ratings, effectively hedging against geopolitical risks and exchange rate fluctuations.

Jane Fraser's pupils contracted slightly. Before she could even process the adjustment plan, Ernst's next words sent a chill down her spine.

"As for the 30-year US Treasury bonds, we will continue to increase leverage, targeting a leverage ratio of over 40 times. We will tell the clearinghouse that we are willing to accept a 15% margin requirement in exchange for greater leverage."

"Are you crazy?" Jane Fraser jumped up from her chair, her voice rising involuntarily, her face filled with disbelief.

"Are you planning to gamble everything?"

She could understand the increase in short leverage on Russian bonds to 10 times, given that there was ample data to support her assessment of a Russian bond default.

However, for US Treasury bonds, a leverage ratio of over 40 times is simply too risky.

Leveraging government bonds is normal; theoretically, through tools like basis trading and repurchase agreements, leverage can be amplified to 10%.

0 times.

But no one would do that, especially given the current unclear situation.

In particular, the two consecutive positive news items from the Federal Reserve and Goldman Sachs are, in a sense, negative for safe investments like US Treasury bonds.

What does 40x leverage mean? It means that if the price of US Treasury bonds fluctuates by as little as 0.5%, their margin may be at risk of being wiped out.

Any slight disturbance could cause Ernst Asset Management to suffer heavy losses.

This level of risk exposure has exceeded what is manageable; if things go wrong, the consequences could be disastrous.

"Furthermore," Jane Fraser paused, seemingly choosing her words carefully, "LTCM is still heavily investing in Russian bonds. You should know that their mathematical models claim to be able to precisely control risk."

"Over the past four years, LTCM has achieved an average annualized return of over 30% thanks to its sophisticated quantitative strategies, making it a legend on Wall Street. They have two Nobel laureates in economics, and their team members are all top mathematicians, physicists, and financial engineers. Countless hedge funds regard their operations as a benchmark and follow suit."

"In this situation, is it too risky for us to go against the trend and adopt such an aggressive leverage strategy?"

When Long-Term Capital Management was mentioned, Jane Fraser's tone carried a hint of barely perceptible worry.

LTCM's success has been almost mythologized on Wall Street. Their quantitative models are considered the pinnacle of financial engineering, and many even say that LTCM's strategy models are the cornerstone of modern financial theory.

Ernst merely curled the corners of his mouth slightly, revealing a sarcastic smile: "Never completely trust cold data and rigid models. Models can serve as an auxiliary tool for investment decisions, but they can never calculate the panic in people's hearts, nor can they predict extreme shifts in market sentiment."

"Do you remember the Mexican peso crisis in 1994? At that time, all institutions on Wall Street firmly believed that the peso would not depreciate. The models of major investment banks all showed that the Mexican economy had sound fundamentals and sufficient foreign exchange reserves to support exchange rate stability."

"But what was the result?" Ernst's smile was eerie.

"When panic selling occurred in the market, the Mexican central bank's foreign exchange reserves were depleted in just a few days, the peso depreciated by more than 50%, and countless institutions that bet on the stability of the peso suffered heavy losses."

The model may be accurate, but panic can be manipulated.

Ernst scoffed, "When the panic selling truly arrives, market liquidity will vanish instantly, like water being drained from a bathtub. No matter how sophisticated the model or how perfect the data, it will all be swept down the drain by this surging panic."

Seeing that the other person still looked so serious, Ernst smiled and said, "You make it sound so easy. How's the shorting of the Wall Street financial index going?"

Jane Fraser glanced at him, her eyes filled with helplessness and resentment, knowing there was no room for negotiation. She replied, "The current returns from shorting the financial index have exceeded 27%, but O'Shea believes that these returns will continue to increase, and the final profit should exceed $12 billion."

"However, O'Shea also stated that as financial stocks continue to fall, some institutions may begin to buy on the dip, potentially increasing market volatility."

Ernst's $70 billion loan amounted to only $14 billion in this short-selling operation on Wall Street.

However, the large returns are only due to the funds managed by Ernst Asset Management and the leverage involved.

"It seems the third-quarter financial results weren't very good," Ernst said with a smile.

The decline in financial stocks began at the end of July, when major listed companies successively released their second-quarter financial reports. Just as Ernst had predicted, affected by the Asian financial crisis, the revenue of almost all multinational listed companies in the United States showed a downward trend and failed to meet revenue expectations.

However, the market analysis at the time suggested that the economic cycle was undergoing a minor adjustment and that the economy had not suffered much damage.

But things changed in October.

The third-quarter financial reports released by major financial institutions have shown a revenue decline that far exceeds market expectations, leading to a collective drop in the S&P 500 financial sector and the Dow Jones Industrial Average.

In stark contrast, the Nasdaq index is booming, with the Internet sector experiencing particularly impressive gains.

A large amount of capital has been withdrawn from traditional industries and the financial sector and has poured into the Internet industry.

It's not fair to say that bad money drives out good, but the siphon effect of the internet industry has fully taken shape.

On one side are internet companies with soaring stock prices and record-breaking valuations, and on the other side are traditional industries and financial institutions with disappointing financial reports and persistently low stock prices.

Investors are now making choices based entirely on their own interests, and even the talk of a dot-com bubble has subsided considerably.

It's not that those fund managers can't see the valuation bubble, but rather that they are completely swept up by the prevailing trend.

The current internet industry is like a magical scene where one foot steps on the other; if you stick a bamboo dragonfly on your head, it can send your stock price soaring into outer space.

If you don't transfer your funds to the internet industry at this point, those who are willing to invest will tear you apart.

"Actually, the financial reports of other industries didn't decline too drastically, but the stock price drop of these companies completely exceeded the percentage drop in revenue." Jane Fraser shrugged, her tone tinged with helplessness and confusion. "But you know, in such a booming Nasdaq, not making money is the original sin."

"Investors are no longer focusing on a company's long-term value and profitability, but are instead chasing short-term stock price gains."

To be honest, he's starting to lose sight of the internet industry.

Not only him, but also other senior executives at Ernst Asset Management, and other institutions on Wall Street.

A bubble has formed, and it's big enough.

Just when everyone thought these bubbles would slowly burst, they were soaring higher and higher, changing every day.

It doesn't need to be profitable at all; as long as it has a story and a concept, it can attract a lot of investment.

Many fund managers on Wall Street have been having trouble sleeping lately, and some are even losing all their hair.

She knew someone like that; her once jet-black, lustrous hair had turned bald in less than six months.

This kind of bull market is actually the most torturous.

You think it's a serious bubble, so you're withdrawing funds.

But seeing it rise every day with no sign of falling, I had no choice but to buy in, otherwise the client would withdraw their money.

Once the funds were invested, there was a constant sense of anxiety and fear that one day they would wake up to find that the entire Nasdaq had completely collapsed.

This kind of market is pure torture for financial institutions and fund managers.

If Ernst hadn't spoken up, telling them not to worry about fluctuations and to just buy blindly, these people would have lost countless hairs, just like other Wall Street fund managers.

Even so, I still often live in fear.

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