Book Review: When Genius Failed

Categories: Book ReviewBusiness

Lowenstein’s ability to come up with a concise, coherent story and his experience in financial journalism is strongly evident in this book. Not only can Lowenstein weave together and tell a great story (this author felt he was being led through the history of the fund and its characters by one of its inner partners while reading through this book), he also pays attention to details whenever it is needed – and he succeeds greatly by catching many important subtleties (such as in the beginning of Chapter one when he used one of those “subtleties” in Meriwether’s early areer to explain the basis of LTCM’s core business model and the subtle, but gradual “style drift” that brought down the hedge fund afterwards) as well as making many interesting observations along the way (such as the fatal flaw LTCM committed when it started engaging in stocks arbitrage as opposed to sticking to bond arbitrage).

7. Concept: Unsystematic Risk. A specific risk is a risk that affects a very small number of assets.

This is sometimes referred to as “unsystematic risk”. In a balanced portfolio of assets there would be a spread between general market risk and risks specific to individual components of that portfolio.

Unlike systematic and market risk, specific risk can be diversified away. A diversified portfolio is the realisation of the proverb “don’t put all your eggs in one basket”. As Irish investors become more sophisticated in their strategies, they look beyond the risks of stock-picking to managing risk through diversified, balanced investment portfolios.

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Mr. Fitzgerald, portfolio manager for Hibernian Investment Managers said that often the first step in reducing risk is investing in pooled investments like mutual funds, unit trusts and unit-linked funds. It’s a toe-in-the-water position, they begin with cautiously-managed funds, and then as they grow in wealth or experience they may choose a managed fund with higher equity content” Source: Margaret E. Ward, The Irish Times, 2nd July 1999. 10. Concept: The Capital Asset Pricing Model (CAPM). William Sharpe the Capital Asset Pricing Model in 1964. Parallel work was also performed by Jack Treynor, John Lintner and Jan Mossin. CAPM is used in finance to determine a theoretically appropriate required rate of return of an asset.

It considers a simplified world where there are no taxes and transaction costs, all investors have identical investment horizons and identical opinions about expected returns, volatilities and correlations of available investments. This model states that the expected return on a specific asset equals the risk-free rate plus a premium that depends on the asset’s beta and the expected risk premium on the market portfolio. CAPM extended Harry Markowitz’s modern portfolio theory and of diversification to introduce the notions of systematic and specified risk.

Source: www. google. com 11. Concept: Capital Budgeting. Capital Budgeting or Investment Appraisals are the planning processes used to determine a firm’s long term investments such as new machinery, replacement machinery, new plants, new products and research and development projects. This is the process of identifying which long-lived investment projects a firm should undertake. US entertainment giant Warner Brothers investigated a possible high-tech back office studio development in Belfast.

Executives from the group conducted an appraisal of possible investment opportunities on the site. The group planned a high-tech quarter in Belfast, which it hoped would attract multimedia, informatics and telecoms firms to set up in Northern Ireland. Source: Francess McDonnell, The Irish Times, 7th August 2001. 18. Concept: Financial Management. This is managing a firms internal cash flows and its mix of debt and equity financing, both to maximise the value of the debt and equity claims on firms’ and to ensure that companies can pay off their obligations when they come due.

This is illustrated through financial reporting; the dream of consistent and uniform systems of financial reporting around the world is a seductive one. It is also elusive. The problem is that, however great the attempts at providing a universally acceptable standard, the differing goals of the world’s reporting regimes get in the way. Europe and about a 100 other countries go for the International Financial Reporting Standards (IRFS) whereas, the US stand alone and stick to their US generally accepted accounting (GAAP) yet seek reconciliation from the IRFS.

It is the electronic tagging and analysis system XBRL that will enable the elements of a company’s financial reports to be accessed by users and reconfigured to provide whatever information the user wants. Mr. Cox, the Securities and Exchange Commission chairman said he was “looking forward to a future in which XBRL, US GAAP and IFRS would be interconnected and hence the problem of global comparability would be solved”. Source: Robert Bruce, Financial Times, 4th January 2007.

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