When Genius Failed Book Summary

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Brief Summary

Long Term Capital Management, a seriously successful hedge fund that amassed billions of dollars at its most successful had everything: huge investments from banks, elite wealthy investors, and people with PhDs in economics making their financial decisions. Most importantly, they had a sophisticated mathematical model that could predict market trends. According to their models, the most they could lose financially in a day would be $35. So how did that turn into losses of $533 million? Simple: there was one thing their model couldn’t predict. Read on to learn what the mathematical models missed, how cockiness can come back to bite you, and why sometimes it's better to take the more cautious approach to invest.

About the Author

Roger Lowenstein is an American financial journalist and writer. He is a graduate of Cornell University and reported for The Wall Street Journal for over 10 years. He is the director of the Sequoia Fund. In 2016, he joined the Board of Trustees of Lesley University. He has published six books, half of them New York bestsellers. He has also written for The Wall Street Journal, The New York Times, Fortune, and other well-known publications. He writes regularly for The New York Times Magazine.

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When Genius Failed Book Summary Preview

Ever heard the phrase, “Too much of a good thing?” While it's easy to think of this concept when it is applied to something like eating too much dessert (there is a limit to how much chocolate one can consume AND still enjoy) it's hard to imagine it could be applicable to genius or intellectual prowess. However, too much intellect can lead to too much arrogance, which can lead to the destruction of an otherwise extremely successful hedge fund. When Genius Failed, by Roger Lowenstein, chronicles how genius and arrogance lead to the failure of a hedge fund called Long Term Capital Management, which dominated the markets and had wild amounts of success in the early 1990s, only to come crashing down. Read on to learn about how mathematical models of the market were rendered useless by the unpredictability of human behavior, how cockiness can come back to bite you, and why sometimes it is better to take the more cautious approach to invest.

Long Term Capital Management was an extremely successful hedge fund. It was founded by John Meriwether in 1994. In case you aren’t familiar, hedge funds manage investments of wealthy folks. They are subject to very little regulation, so the size of the fund or where it is invested isn’t strictly regulated by any governmental bodies. Because they aren’t regulated, they can be invested in financial products that pose more risk to the investor. People who own hedge funds engage in a process called arbitrage. This is where managers of hedge funds buy or sell financial products in the hope that the price will change in their favor, and they will profit. Most successful arbitrage strategies are dependent on finding little inconsistencies in the prices of financial products. Sounds complicated, right? That’s why Long Term Capital Management hired academics and utilized software that gave them an edge which allowed them to notice and capitalize on these inconsistencies quickly.

Remember what we said above about profiting off of discrepancies? Well, the discrepancies were often small, so small that it would take a large sum of money for the discrepancies to yield and profit. Think about the difference between .099 and .1. It's not huge. But if you take the difference and multiply it by 500,000 or 1 million, you start to see a larger amount (even if in this example, it's still pretty small). So, even though Long Term Capital Management was receiving massive amounts of money from their investors, it wasn’t enough. So, they borrowed money from banks and encouraged investors to invest as much as possible. Banks were happy to lend Long Term Capital Management as much money as possible: especially since they seemed to be employing a strategy that involved very little risk. Since they were betting on discrepancies, a downturn in the market wouldn’t even necessarily be bad: it would just create more opportunities for discrepancies. Banks invested significant amounts of money but didn’t have any control over the money once they handed it over. As...