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Chapter 619 Market Rescue Meeting

At 9:03 p.m., the conference room door was pushed open again, the sound particularly jarring in the deathly silent space, instantly breaking the long-standing silence in the room.

The negotiations, which were originally focused on the Russian debt default, took a completely unsettling turn after a breaking news report broadcast by CNBS television.

The risks posed by a Russian debt default are no longer the primary concern; the real issue now is the ticking time bomb of Long-Term Capital Management.

Greenspan quickly arranged for people to collect data on long-term capital. At that moment, the results came in, and Federal Reserve Governor Colesman walked in with a fax, attracting everyone's attention.

"Gentlemen, we should be pleased that we found this bombshell so early in the problem."

Colesman showed little joy, and continued with a gloomy expression, "But this lightning bolt is probably more powerful than we imagined."

He looked at the documents in his hand, and even though he had checked them multiple times, fear still lingered in his eyes. "According to the intelligence we just obtained, this hedge fund actually used $22 billion of its own capital to leverage a staggering $1350 billion in emerging market positions through layers of leverage. And of these $1350 billion positions, 20% are directly linked to Russian government bonds."

Everyone gasped when they heard the number. What an incredible leverage ratio! Even these Wall Street bigwigs who had witnessed all sorts of financial events were shocked by this leverage ratio.

"What about the risk exposure?" Greenspan's face instantly turned ashen. He suppressed his inner turmoil and asked in a deep voice.

The MGM CNBS report mentioned that Long-Term Capital Management's potential risk exposure was close to one trillion dollars. At the time, he thought this was nonsense and an exaggeration by the media to attract attention.

But after hearing the leverage figures just released by Colesman, his wishful thinking was completely shattered, and he was now more willing to believe that the seemingly absurd report by CNBS might not be entirely unfounded.

Colesman shook his head slowly, his tone tinged with helplessness. "We have no way of knowing the accurate risk exposure data. Long-Term Capital Management's holding strategies have always been extremely confidential, and its core trading data is known only to a few senior managers in the company."

"However, based on our calculations using fragmented intelligence gathered through various channels, Long-Term Capital Management's losses today may exceed $2.6 million on Russian government bonds alone," Colesman added, his voice tinged with a heavy tone.

"$2.6 million?" This figure once again plunged the conference room into an uproar.

Although the figures they reported earlier were larger than Long-Term Capital Management's figures, that was based on the worst-case scenario and was a gradual process.

Long-Term Capital Management lost $2.6 million in just one day, a truly astonishing rate of loss.

Moreover, the Russian ruble continues to depreciate, and Russian bond prices are also falling. If this trend cannot be curbed, the losses of Long-Term Capital Management will inevitably continue to expand.

"The god of bond arbitrage?" Harrison scoffed at the number, a sarcastic smile spreading across his face. "He used mathematical models to bet that the market would always be rational; now he's paying the price for his arrogance."

As a veteran player in the bond market, he has always looked down on quantitative strategies for long-term capital.

"Ultimately, what is the fundamental difference between the convergence trading model researched by Long-Term Capital Management and the traditional business model of the banking industry?"

"Whether it's quantitative hedge funds or traditional commercial banks, they all follow the same core logic in the financial world: to gather low-cost funds and then buy assets with poor liquidity and low security by continuously increasing leverage."

"Essentially, both are about earning interest spreads." Sandy Weill nodded slowly in agreement.

As the head of Citigroup, he is very familiar with the profit model of the banking industry. "In a stable market environment, since the interest rate spread will always converge to the mean, as long as we adhere to the core essence of earning interest rate spread, we can achieve stable profits regardless of the model we adopt."

"But the key issue is that, like banks, all leveraged capital is vulnerable to the impact of black swan events," Harrison continued, picking up where Sandy Weir left off.

"Once a black swan event occurs, market sentiment will instantly turn to panic, and all funds will frantically withdraw from assets with low safety and poor liquidity, and instead flow into safe-haven assets with high safety and good liquidity."

"This will lead to a rapid widening of credit spreads and liquidity spreads, which should have gradually narrowed, thereby disrupting the profit logic of the original trading model."

Everyone understands this principle: the greater the interest rate spread, the greater the losses.

The problem lies in the size of long-term capital, or rather, its risk exposure.

What hedge fund doesn't use leverage?

But perhaps too much long-term capital has been added.

Banks have always followed the principle of providing assistance on sunny days and withdrawing it when it rains.

During periods of market prosperity, banks compete to lend, providing ample financial support to institutions.

However, once a market crisis occurs, banks will tighten credit, and institutions that are short of funds and in urgent need of liquidity support will find it more difficult to obtain loans from banks.

Therefore, when a crisis occurs, market liquidity will quickly dry up.

For institutions operating with high leverage, on the one hand, they cannot maintain the existing leverage ratio, and on the other hand, the price of the mortgaged assets is constantly depreciating. Under this dual pressure, capital will suffer huge losses in a very short period of time.

This is why every financial crisis becomes a major catastrophe for financial institutions.

Every major financial upheaval leads to the bankruptcy of tens of thousands of financial institutions worldwide, and the wealth of countless investors evaporates instantly.

This crisis at Long-Term Capital Management could very well be the trigger for the next financial crisis.

Harrison turned his attention to Sandy Weir, recalling that Salomon Brothers had previously been gradually closing out similar trading positions as Long-Term Capital Management.

Clearly, Sandy Weir had long seen through the truth that Long-Term Capital Management's convergent trading model and banking business were essentially from the same source. Since both were based on the logic of leverage and profiting from interest rate spreads, Citigroup was more aware than anyone of the huge risks hidden behind this model.

Philip ignored Harrison's denigration of Long-Term Capital Management and said in a deep voice, "I remember that Long-Term Capital Management has a large number of interest rate swap contracts in its portfolio, involving more than 30 banks, including all of you here."

Everyone's hearts sank again; with such a huge leverage, the amount involved in these contracts must be substantial.

"Once bankruptcy liquidation occurs, the net settlement of these contracts will trigger a chain reaction, and it is unlikely that any institution will be able to remain unscathed."

Greenspan tapped his fingers lightly on the table. "The crux of the matter is whether we should forcibly intervene in the market."

He was referring not to the bailout of the Russian debt crisis, but to Long-Term Capital Management.

Forcibly taking over Long-Term Capital without conclusive evidence that the other party would definitely go bankrupt ultimately dealt a heavy blow to Wall Street's reputation for freedom.

The other party suffered huge losses on Russian debt, but who can guarantee that they didn't make money in other businesses?

"Intervention is necessary, but it cannot be the Federal Reserve." Colesman then produced a document: "According to our stress tests, if the CNBS report is entirely accurate, then after Long-Term Capital's bankruptcy, the S&P 500 index would fall by at least 15%, and credit spreads would widen by more than 100 basis points."

"This is not a repeat of the 1987 stock market crash; this time, the scope will be much wider."

Many people glanced at him.

What does it mean that the Federal Reserve doesn't intervene?

It's just about getting these people to spend their money to save long-term capital.

Richard Fuld was unwilling to pay that money. "That's classic moral blackmail."

"If we bail out long-term capital today, more hedge funds will bet heavily tomorrow. The Fed's job is to maintain monetary stability, not to clean up the mess for speculators."

Greenspan's expression turned cold as he looked at the documents he had just received from Colesman and said, "This clearly states that Lehman Brothers' prime brokerage business provided $20 billion in financing to Long-Term Capital Management."

Seeing that Richard didn't respond, Paulson suddenly asked, "How much investment is needed? How will it be shared?"

This question silenced everyone, and all eyes turned to Greenspan.

However, before he could speak, Harrison spoke first: "The issue of cost-sharing is not urgent. I think the most pressing matter right now is to curb the scope of the propaganda."

Everyone turned their attention to Henry Paulson, and many of them looked on with sudden realization.

It's obvious that MGM is holding the exclusive report now, and who's behind it and what their purpose is are quite clear.

The ups and downs of YueDong Games, the licenses of mainland China Telecom, the bill issue, and the online payment sector involved.

Someone glanced at Harrison furtively and cursed him inwardly as an old fox.

In the current online payment market, PayPal dominates, and the only potential threat to PayPal is Bill.

Thanks to Amazon, eBay, and Walmart Online, its market share has now exceeded 10%.

Correspondingly, neither the online payment software developed by Morgan Stanley nor JPMorgan Chase Manhattan has much of a presence.

By removing Bill and giving PayPal a monopoly, Chase Manhattan can gain a favorable position within PayPal based on Harrison's remarks today.

PayPal's dominance necessitates the acceptance of these Wall Street financial giants; this is an inevitable outcome.

Whoever has more say in this company will naturally have more influence in the future of online payments.