interest rate swap

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The Global Money Markets by Frank J. Fabozzi, Steven V. Mann, Moorad Choudhry

asset allocation, asset-backed security, bank run, Bear Stearns, Bretton Woods, buy and hold, collateralized debt obligation, credit crunch, currency risk, discounted cash flows, discrete time, disintermediation, Dutch auction, financial engineering, fixed income, Glass-Steagall Act, high net worth, intangible asset, interest rate derivative, interest rate swap, land bank, large denomination, locking in a profit, London Interbank Offered Rate, Long Term Capital Management, margin call, market fundamentalism, money market fund, moral hazard, mortgage debt, paper trading, Right to Buy, short selling, stocks for the long run, time value of money, value at risk, Y2K, yield curve, zero-coupon bond, zero-sum game

Consequently, interest rate swaps can be viewed as a package of more basic interest rate derivative instruments—forwards. The pricing of an interest rate swap will then depend on the price of a package of forward contracts with the same settlement dates in which the underlying for the forward contract is the same reference rate. While an interest rate swap may be nothing more than a package of forward contracts, it is not a redundant contract for several reasons. First, maturities for forward or futures contracts do not extend out as far as those of an interest rate swap; an interest rate swap with a term of 15 years or longer can be obtained.

Namely, both swaps and caps/floors are combinations of more basic derivative instruments. A swap is a portfolio of forward contracts; caps/floors are portfolios of options on interest rates. The most prevalent swap contract is an interest rate swap. An interest rate swap contract provides a vehicle for market participants to transform the nature of cash flows and the interest rate exposure of a portfolio or balance sheet. In this chapter, we explain how to analyze interest rate swaps. We will describe a generic interest rate swap, the parties to a swap, the risk and return of a swap, and the economic interpretation of a swap. Then we look at how to compute the floating-rate payments and calculate the present value of these payments.

First, maturities for forward or futures contracts do not extend out as far as those of an interest rate swap; an interest rate swap with a term of 15 years or longer can be obtained. Second, an interest rate swap is a more transactionally efficient instrument. By this we mean that in one transaction an entity can effectively establish a payoff equivalent to a package of forward contracts. The forward contracts would each have to be negotiated separately. Third, the interest rate swap market has grown in liquidity since its establishment in 1981; interest rate swaps now provide more liquidity than forward contracts, particularly long-dated (i.e., long-term) forward contracts. Package of Cash Market Instruments To understand why a swap can also be interpreted as a package of cash market instruments, consider an investor who enters into the transaction below: ■ buy $50 million par value of a 5-year floating-rate bond that pays 6- month LIBOR every six months ■ finance the purchase by borrowing $50 million for five years at a 10% annual interest rate paid every six months.


pages: 1,202 words: 424,886

Stigum's Money Market, 4E by Marcia Stigum, Anthony Crescenzi

accounting loophole / creative accounting, Alan Greenspan, Asian financial crisis, asset allocation, asset-backed security, bank run, banking crisis, banks create money, Bear Stearns, Black-Scholes formula, book value, Brownian motion, business climate, buy and hold, capital controls, central bank independence, centralized clearinghouse, corporate governance, credit crunch, Credit Default Swap, cross-border payments, currency manipulation / currency intervention, currency risk, David Ricardo: comparative advantage, disintermediation, distributed generation, diversification, diversified portfolio, Dutch auction, financial innovation, financial intermediation, fixed income, flag carrier, foreign exchange controls, full employment, Glass-Steagall Act, Goodhart's law, Greenspan put, guns versus butter model, high net worth, implied volatility, income per capita, intangible asset, interest rate derivative, interest rate swap, inverted yield curve, junk bonds, land bank, large denomination, locking in a profit, London Interbank Offered Rate, low interest rates, margin call, market bubble, market clearing, market fundamentalism, Money creation, money market fund, mortgage debt, Myron Scholes, offshore financial centre, paper trading, pension reform, Phillips curve, Ponzi scheme, price mechanism, price stability, profit motive, proprietary trading, prudent man rule, Real Time Gross Settlement, reserve currency, risk free rate, risk tolerance, risk/return, Savings and loan crisis, seigniorage, shareholder value, short selling, short squeeze, tail risk, technology bubble, the payments system, too big to fail, transaction costs, two-sided market, value at risk, volatility smile, yield curve, zero-coupon bond, zero-sum game

Many use the swap rate curve as a benchmark, in part because of the transparency of swap rates. Another reason is the dual nature of the risks associated with interest-rate swaps.13 We note below the “riskless” nature of interest-rate swaps given the strong credit quality of the counterparties and netting practices, and because there is no principal to default on. Standing in contrast, another key characteristic of interest-rate swaps is that they are tied to a rate not considered risk-free—LIBOR. Having dual elements of safety and hedging capability gives the interest-rate swaps market appeal. Moreover, with swaps tied closely to LIBOR, they have additional appeal, since the Financial Accounting Standards Board has given LIBOR status as an acceptable benchmark. 13 Joseph G.

We did this very much on a matched-book basis, turning medium-term, fixed-rate liabilities into medium-term, floating-rate liabilities. From there, we developed into an outright trader of interest-rate swaps. The next step was that we began to use interest-rate swaps in much the same way that a traditional asset-liability manager would use Treasuries. When we were constructive on the market, convinced that rates would come down, we would not only buy Treasuries, but start doing swaps in which we were receivers of fixed. “That is where we started, and certainly the majority of the top 100 banks in the world are at that level of sophistication now. They use interest-rate swaps not only to match up assets and liabilities, but as a tool for gapping: instead of putting medium-term Treasuries on the balance sheet, they now use swaps as an off–balance sheet way to acquire a fixed-rate, term asset.”

There are varying reasons for the rate disparities, but researchers find that studies showing a differentiation between Eurodollar and fed funds rates sometimes fail to isolate other factors that affect the spread. CHAPTER 19 Interest-Rate Swaps Copyright © 2007, 1990, 1983, 1978 by The McGraw-Hill Companies, Inc. Click here for terms of use. An interest-rate swap is a contract between two parties to pay and receive, with a set frequency, interest payments determined by applying the differential between two interest rates—for example, 5-year fixed and 6-month LIBOR—to an agreed-upon notional principal. Put more intuitively, an interest-rate swap is a trade that produces, over time, the same cash flows that would be produced if party A were to say to party B, “You and I have different liabilities with the same maturity—let’s swap,” and the swap were done.


pages: 819 words: 181,185

Derivatives Markets by David Goldenberg

Black-Scholes formula, Brownian motion, capital asset pricing model, commodity trading advisor, compound rate of return, conceptual framework, correlation coefficient, Credit Default Swap, discounted cash flows, discrete time, diversification, diversified portfolio, en.wikipedia.org, financial engineering, financial innovation, fudge factor, implied volatility, incomplete markets, interest rate derivative, interest rate swap, law of one price, locking in a profit, London Interbank Offered Rate, Louis Bachelier, margin call, market microstructure, martingale, Myron Scholes, Norbert Wiener, Paul Samuelson, price mechanism, random walk, reserve currency, risk free rate, risk/return, riskless arbitrage, Sharpe ratio, short selling, stochastic process, stochastic volatility, time value of money, transaction costs, volatility smile, Wiener process, yield curve, zero-coupon bond, zero-sum game

Futures Contracts 7.5.8 Cross-Hedging, Adjusting the Hedge for non S&P 500 Portfolios 7.6 The Spot Eurodollar Market 7.6.1 Spot 3-month Eurodollar Time Deposits 7.6.2 Spot Eurodollar Market Trading Terminology 7.6.3 LIBOR3, LIBID3, and Fed Funds 7.6.4 How Eurodollar Time Deposits are Created 7.7 Eurodollar Futures 7.7.1 Contract Specifications 7.7.2 The Quote Mechanism, Eurodollar Futures 7.7.3 Forced Convergence and Cash Settlement 7.7.4 How Profits and Losses are Calculated on Open ED Futures Positions PART 2 Trading Structures Based on Forward Contracts CHAPTER 8 STRUCTURED PRODUCTS, INTEREST-RATE SWAPS 8.1 Swaps as Strips of Forward Contracts 8.1.1 Commodity Forward Contracts as Single Period Swaps 8.1.2 Strips of Forward Contracts 8.2 Basic Terminology for Interest-Rate Swaps: Paying Fixed and Receiving Floating 8.2.1 Paying Fixed in an IRD (Making Fixed Payments) 8.2.2 Receiving Variable in an IRD (Receiving Floating Payments) 8.2.3 Eurodollar Futures Strips 8.3 Non-Dealer Intermediated Plain Vanilla Interest-Rate Swaps 8.4 Dealer Intermediated Plain Vanilla Interest-Rate Swaps 8.4.1 An Example 8.4.2 Plain Vanilla Interest-Rate Swaps as Hedge Vehicles 8.4.3 Arbitraging the Swaps Market 8.5 Swaps: More Terminology and Examples 8.6 The Dealer’s Problem: Finding the Other Side to the Swap 8.7 Are Swaps a Zero Sum Game?

PART 2 Trading Structures Based on Forward Contracts CHAPTER 8 STRUCTURED PRODUCTS, INTEREST-RATE SWAPS 8.1 Swaps as Strips of Forward Contracts 8.1.1 Commodity Forward Contracts as Single Period Swaps 8.1.2 Strips of Forward Contracts 8.2 Basic Terminology for Interest-Rate Swaps: Paying Fixed and Receiving Floating 8.2.1 Paying Fixed in an IRD (Making Fixed Payments) 8.2.2 Receiving Variable in an IRD (Receiving Floating Payments) 8.2.3 Eurodollar Futures Strips 8.3 Non-Dealer Intermediated Plain Vanilla Interest-Rate Swaps 8.4 Dealer Intermediated Plain Vanilla Interest-Rate Swaps 8.4.1 An Example 8.4.2 Plain Vanilla Interest-Rate Swaps as Hedge Vehicles 8.4.3 Arbitraging the Swaps Market 8.5 Swaps: More Terminology and Examples 8.6 The Dealer’s Problem: Finding the Other Side to the Swap 8.7 Are Swaps a Zero Sum Game?

224; bank borrowing in spot Eurodollar (ED) market 250; ‘buying’ and ‘selling’ Eurodollar (ED) futures 256; calculation of adjusted hedge ratios 245; solution to 269; calculation of optimal (risk-minimizing) hedge ratio 240; cash settlement and effective price on S&P 500 spot index units 234; solution to 269; exchange rate risk, currency positions and 218; solution to 268; foreign exchange (FX) risk and jet fuel market 219; solution to 268–9; underlying spot 3-month Eurodollar (ED) time deposit 261; solution to 270; contract month listings 214, 215, 228; contract offerings 227–8; contract size 214, 215, 227, 228; contracts offered 257–8; currency forward positions vs. currency futures positions 220; currency futures 213–17; contract specifications 213–15; pricing vs. currency forward pricing 225; quote mechanism, future price quotes 216–17; risk management strategies using 217–24; daily price limits 228, 229; daily settlements 216, 260; diversifiable risk 225; dividend-adjusted geometric mean (for S&P 500) 227; dollar equivalency 227, 234, 239–40; economy-wide factors, risk and 225–6; effective payoff 220, 233; EFP eligibility 214; Eurodollar (ED) deposit creation 253; Eurodollar (ED) futures 220–1, 245, 246, 249, 250, 252–64; cash settlement, forced convergence and 258–61; contract specifications 254–5; forced convergence, cash settlement and 258–61; open positions, calculation of profits and losses on 262–4; quote mechanism 256–8; exchange rate risks and currency futures positions 217–20; Lufthansa example 217–20; exchange rule 214, 228; exchange-traded funds (ETFs) 226; exercises for learning development 266–8; Fed Funds Rate (FFR) 251; Federal Funds (FF) 249–50, 251, 252; Federal Reserve system (US) 249; financial futures contracts, selection of 213; FLIBOR (Futures LIBOR) 256, 257, 262, 263, 264, 267–8; forced conversion of Eurodollar (ED) futures 260; foreign exchange (FX) reserves, currency composition of 247–8; forward price change, present value of 242; hedging 224–5; hedging a cross hedge 244; issues in 224–5; quantity uncertainty 224–5; holding period rate of return 237; idiosyncratic risk 225; index points 226; interest rate derivatives (IRDs) 254; International Monetary Fund (IMF) 246; JPY/USD futures 213–15; key concepts 265–6; last trade date/time view calendar 214, 228; lending (offering) Eurodollars (EDs) 249–50; liabilities, Eurodollars (EDs) and 246; LIBID (London Interbank Bid Rate) 249–50, 252; LIBOR (London Interbank Offered Rate) 249, 250–4, 262, 263–4; Federal Funds (FF) vs. 251–2; liquidity and 220, 222, 231, 237, 252, 258; lock-in characteristics 220, 233; market risk 225–6; minimum price increment 214, 215; naive hedge ratio (NHR) 234, 240–1, 243; open interest 258; placing Eurodollars (EDs) 248–9; position accountability 214, 215, 228, 229; raw price change, present value of 243; realized daily cash flows, creation of 243; risk management strategies using currency futures 217–24; risk management using stock index futures 231–45; cross-hedging 243–5; monetizing S&P 500 Spot Index 231–4; naive hedge ratio, adjustment for risk-minimizing hedge ratio 239–41; non S&P 500 portfolios, adjustment of hedge for 243–5; pricing and hedging preliminaries 231; profits from traditional hedge 235–6; risk, return analysis of traditional hedge 236–8; risk minimizing hedge using forward vs. futures contracts 241–3; risk-minimizing hedging 238–9; rolling hedge strategy: efficient market hypothesis (EMH) 223; interpretations of profits from rolling hedge 221–3; Metallgesellschaft example 223; numerical example of 223–4; rule book chapter 228; settlement procedure 214, 228, 229, 258–9; S&P 500 Fact Sheet 226; S&P 500 Futures 228; spot commodities, S&P 500 futures contracts as 233–4; spot Eurodollar market 245–54; Eurodollar time deposits, creation of 252–4; spot 3-month Eurodollar time deposits 246–8; spot trading terminology 248–50; Stigum’s Money Market (Stigum, M.) 252; stock index futures 225–30; commentary 230; S&P 500 futures quotes, quote mechanism for 230; S&P 500 Spot Index 225–7; S&P 500 Spot Index, effective payoff on monetization of 233; S&P 500 Spot Index, monetization of 231–4; S&P 500 Stock Index Futures Contract Specifications 227–9; tailing the hedge 241–2; taking Eurodollars (EDs) 249; ticker symbol 214, 215, 228, 229, 261; timing in Eurodollar (ED) futures 257; tick size 228, 229; trading hours 214, 228; traditional hedge, risk and return analysis on 236–8; basis risk 238; holding period rate 237; intermediate execution, basis risk and 237–8; liquidity advantage in execution 237; unallocated foreign exchange (FX) reserves 248 financial innovation using European Put-Call Parity 401–5; American Put-Call Parity (no dividends) 403–5; generalized forward contracts 401–3 financial institutions and use of swaps 299–301 finite-maturity financial instruments, options as 20, 354 fixed leg in interest-rate swaps 293 fixed payments in interest-rate swaps 278–9 fixed-rate mortgages 7 FLIBOR (Futures LIBOR): financial futures contracts 256, 257, 262, 263, 264, 267–8; interest-rate swaps 278, 287 floating leg in interest-rate swaps 293 floating payments in interest-rate swaps 279–80 floating-rate bond implicit in swap 306 floating-rate payments as expected cash flows 306 floor-brokers 140 floor-traders 140 foreign currencies: forward prices on 24–5; futures prices on 25–6; see also currency futures foreign economy (FE) 103–4 foreign exchange (FX) forward contracts: example of pricing 107–9; pricing using no-arbitrage 106–7 foreign exchange (FX) markets, price quotes in 103–5 foreign exchange (FX) rates (New York, March 11, 2014) 30–1 foreign exchange (FX) reserves, currency composition of 247–8 foreign exchange (FX) risk 3–5 forward contracts: differences between futures contracts and 122; on dividend-paying stocks, pricing with no-arbitrage 100–3; hedging with 37, 43–5; on stocks with dividend yield, pricing with net interest model 99–100; swaps as strips of 274–8; valuation of (assets without dividend yield): default on 76; interpretation via synthetic contracts 78–82; leverage and 80–2; no up-front payments on 75; payment on maturity, expectation of 81; price vs. value for 73; valuing at expiration 74–5; valuing at initiation 75–8 forward market contracting: buying forward 7–8; Clearing House intermediation 14–15; concept checks: controlling for counterparty risk 12–13; exploration of forward rates in long-term mortgage market 9–10; exploration of spot rates in long-term mortgage market 11; solution 29; intermediation by Clearing House 15–16; solution 29–30; spot markets, dealing with price quotes in 6–7; counterparty risk 11; default 11–12; exit mechanism 15–16; features of 8; fixed-rate mortgages 7; forward agreement, terms of 8; forward contracts, differences between futures contracts and 122; forward market 8; forward prices 9, 24–5; forward transactions 8; historical data, checking on 9–10; interest-rate risk management 9–10; intermediation 13–14, 14–15; liquidity, enablement of 16; locked-in prices 12; market levels 11; market organization, importance of 13, 14; obligations, transfer of 16; offsetting trades 15–16; overnight averages 11; price quotes in forward markets 9–11; problems with forward markets 11–13; ‘reversing’ of trades 15–16; short positions 7; SouthWest Airlines, case example 12–13; spot, forward, and futures contracting 7–13; standardization 14; transfer of obligations 16; see also hedging with forward contracts; valuation of forward contracts forward prices 9, 24–5; change in, present value of 242; no-arbitrage, forward pricing with 102–3 front stub period 294 fundamental theorem of asset pricing number one (FTAP1): equivalent martingale measures (EMMs) 509, 511–12, 517, 528–9, 530, 532, 533; model-based option pricing (MBOP) 450, 451, 452; option pricing in continuous time 540; risk-neutral valuation 596–7, 601–2, 605, 606, 624, 631 fundamental theorem of asset pricing number two (FTAP2): binomial option pricing model (BOPM) 490; model-based option pricing (MBOP) 452; option pricing in continuous time 540; risk-neutral valuation 596–7, 601–2, 605, 606, 624, 631; risk-neutral valuation and another version of 606 future value (FV) 69–70, 382, 386, 390, 395 Futures Commission Merchant (FCM) 122, 123, 124, 125, 137, 140 futures contracts: futures market contracting 17; market organization for: ‘buying’ and ‘selling’ of 126–7; daily value of 146; differences between forward contracts and 122; futures price and 127; market participants 122–5 futures market contracting 17–26; concept check, price quotes in futures markets 19; contract size 19; contract specifications 17, 18–19; delivery dates 19; fancy forward prices 19, 25; futures contract 17; futures market 17; futures prices 17, 25–6; futures transaction 17; key definition, futures contract 17; mapping out spot, forward, and futures prices 20–6; ‘Open Outcry Futures’ 19; price quotes in futures markets 17–19; seller’s options 17; as solution to forward market problems 13–16; volatility (uncertainty) 22; see also hedging with futures contracts; market organization for futures contracts futures trading: hedging with forward contracts 35; market organization for futures contracts: cash flow implications of 144; daily settlement, perspectives on 144; delivery obligations 142; offsetting trades 142–4; phases of 125–6 gap management problem, solutions for 300–1 Gaussian distributions 543, 546, 548, 557, 565, 577 general equilibrium (GE) 453; models of, risk-neutral valuation and 615 generalized forward price 402 geometric Brownian motion (GBM) 553–61; continuous version 559–61; discrete version 553–9 Girsanov’s theorem 605 Globex and Globex LOB 134–6 Globex trades, rule for recording of 135 Gold pricing on London Bullion Market 20–3 guaranteeing futures obligations 139–41 hedge ratio: dollar bond position and 478; model-based option pricing (MBOP) and 455 hedging: financial futures contracts 224–5; hedging a cross hedge 244; issues in 224–5; quantity uncertainty 224–5; hedged position profits, graphical method for finding 55; hedgers 37; hedging definitions 168; minimum variance hedging 185–8; estimation of risk minimization hedge ratio 187–8; OLS regression 187–8; risk minimization hedge ratio, derivation of 186–7; motivation for hedging with forward contracts 33–7; objective of 167–8; as portfolio theory 165–8; reverse hedge 618, 620, 621; riskless hedge 607, 616, 620, 628, 632; rolling hedge strategy: efficient market hypothesis (EMH) 223; interpretations of profits from rolling hedge 221–3; Metallgesellschaft example 223; numerical example of 223–4; short hedge 168; synthesis of negative correlation, hedging as 165–7 hedging a European call option in BOPM (N=2) 477–85; complete hedging program (for BOPM, N=2) 484–5; concept check, value confirmation 485; hedge ratio and dollar bond position, definition of (step 2) 478; parameterization (step 1) 477–8; replicating portfolio, construction of (step 3) 478–84; concept check: interpretation of hedge ratio 482; down state, replication in 481; hedge ratio, interpretation of 482–3; replication over period 2 (under scenario 1) 479–82; replication under scenario 2 (over period 2) 484; scenarios 478–9; solving equations for ?


Risk Management in Trading by Davis Edwards

Abraham Maslow, asset allocation, asset-backed security, backtesting, Bear Stearns, Black-Scholes formula, Brownian motion, business cycle, computerized trading, correlation coefficient, Credit Default Swap, discrete time, diversified portfolio, financial engineering, fixed income, Glass-Steagall Act, global macro, implied volatility, intangible asset, interest rate swap, iterative process, John Meriwether, junk bonds, London Whale, Long Term Capital Management, low interest rates, margin call, Myron Scholes, Nick Leeson, p-value, paper trading, pattern recognition, proprietary trading, random walk, risk free rate, risk tolerance, risk/return, selection bias, shareholder value, Sharpe ratio, short selling, statistical arbitrage, statistical model, stochastic process, systematic trading, time value of money, transaction costs, value at risk, Wiener process, zero-coupon bond

(See Figure 3.18, Interest Rate Interpolation.) 92 RISK MANAGEMENT IN TRADING T Rate Source 0.0028 0.0833 0.25 0.50 1 2 3 4 5 7 10 30 0.06% 0.22% 0.28% 0.42% 0.32% 0.47% 0.79% 1.18% 1.57% 2.19% 2.79% 3.67% Fed Funds Eurodollar Deposit Eurodollar Deposit Eurodollar Deposit Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Libor (Interest Rate Swap) Interest Rate Interest Rate Interpolation 4.00% 3.00% 2.00% 1.00% 0.00% 0 5 10 15 20 25 30 35 Tenor (years) Observations FIGURE 3.18 Interpolated Interest Rates TEST YOUR KNOWLEDGE 1.

* Terms can be customized * Limited ability to customize terms * Liquidating the trade can be difficult * Liquidating the trade is relatively easy * Each party is exposed to risk the counterparty won’ t meet their obligations. * Counterparty risk is largely eliminated because exchange is high credit quality counterparty. FIGURE 2.6 Forwards versus Futures INTEREST RATE SWAPS An interest rate swap is a financial derivative that allows traders to exchange a series of fixed and floating rate cash flows. In the most common type of interest rate swap, one trader will pay the other a fixed cash flow, while the KEY CONCEPT: FUTURES, FORWARDS, AND COMMODITY SWAPS Futures, forwards, and commodity swaps are the most common ways for traders to access the commodity markets.

This will help it match its income (from the mortgages) to its expenditures (payments to savings accounts). If it can find a counterparty that is interested in receiving a fixed rate on its investments, they can agree to exchange cash flows. Interest rate swaps are traded directly between two traders (bilaterally) or facilitated by a bank (over the counter). Trades can be individually negotiated and, as a result, there can be a wide variety of interest rate swaps. Some common variations of interest rates swaps allow fixed/float payments to be denominated in two separate currencies, two floating rates to be exchanged, or fixed rates in two different currencies to be exchanged.


pages: 353 words: 88,376

The Investopedia Guide to Wall Speak: The Terms You Need to Know to Talk Like Cramer, Think Like Soros, and Buy Like Buffett by Jack (edited By) Guinan

Albert Einstein, asset allocation, asset-backed security, book value, Brownian motion, business cycle, business process, buy and hold, capital asset pricing model, clean water, collateralized debt obligation, computerized markets, correlation coefficient, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, discounted cash flows, diversification, diversified portfolio, dividend-yielding stocks, dogs of the Dow, equity premium, equity risk premium, fear index, financial engineering, fixed income, Glass-Steagall Act, implied volatility, index fund, intangible asset, interest rate swap, inventory management, inverted yield curve, junk bonds, London Interbank Offered Rate, low interest rates, margin call, money market fund, mortgage debt, Myron Scholes, passive investing, performance metric, risk free rate, risk tolerance, risk-adjusted returns, risk/return, shareholder value, Sharpe ratio, short selling, short squeeze, statistical model, time value of money, transaction costs, yield curve, zero-coupon bond

As the lending time increases, though, the disparity between the two types of interest calculations grows. Related Terms: • Bond • Interest Rate Swap • Premium • Coupon • Money Market Account Interest Rate Swap What Does Interest Rate Swap Mean? An agreement between two parties (known as counterparties) in which one stream of future interest payments is exchanged for another stream, based on a specified principal amount. Interest rate swaps often involve exchanging a fixed payment for a floating payment, which is linked to an interest rate (most often the LIBOR). The Investopedia Guide to Wall Speak 143 A company typically uses interest rate swaps to limit or manage its exposure to fluctuations in interest rates or to obtain a marginally lower interest rate than it would have been able to get without the swap.

Traditionally, the exchange of one security for another for the purpose of changing the maturity (bonds), the quality of issues (stocks or bonds), or one’s investment objectives. Swaps include currency swaps and interest rate swaps. Investopedia explains Swap If companies in different countries have regional advantages on interest rates, a swap will benefit both firms. For example, one firm may have a lower fixed interest rate while another has access to a lower floating interest rate. To take advantage of this situation, the companies would do an interest rate swap. Related Terms: • Arbitrage • Credit Default Swap • Interest Rate Swap • Commodity • Currency Swap Swing Trading What Does Swing Trading Mean? A style of trading that is used to capture quick gains in a stock over a one- to four-day trading period.

The Investopedia Guide to Wall Speak 143 A company typically uses interest rate swaps to limit or manage its exposure to fluctuations in interest rates or to obtain a marginally lower interest rate than it would have been able to get without the swap. Investopedia explains Interest Rate Swap Interest rate swaps are the exchange of one set of cash flows (based on interest rate specifications) for another. Because they trade over the counter (OTC), they are really contracts set up between two or more parties and thus can be customized in a number of ways. Generally, swaps are sought by firms that desire a type of interest rate structure that another firm can provide less expensively. For example, let’s say Cory’s Tequila Company (CTC) is seeking to lend funds at a fixed interest rate, but Tom’s Sports Inc.


pages: 312 words: 93,836

Barometer of Fear: An Insider's Account of Rogue Trading and the Greatest Banking Scandal in History by Alexis Stenfors

Alan Greenspan, Asian financial crisis, asset-backed security, bank run, banking crisis, Bear Stearns, Big bang: deregulation of the City of London, bonus culture, capital controls, collapse of Lehman Brothers, credit crunch, Credit Default Swap, Eugene Fama: efficient market hypothesis, eurozone crisis, financial deregulation, financial innovation, fixed income, foreign exchange controls, game design, Gordon Gekko, inflation targeting, information asymmetry, interest rate derivative, interest rate swap, London Interbank Offered Rate, loss aversion, mental accounting, millennium bug, Nick Leeson, Northern Rock, oil shock, Post-Keynesian economics, price stability, profit maximization, proprietary trading, regulatory arbitrage, reserve currency, Rubik’s Cube, Snapchat, Suez crisis 1956, the market place, The Wealth of Nations by Adam Smith, too big to fail, transaction costs, work culture , Y2K

The STIRT desks at the banks had not been particularly glamorous before 2007. We traded a range of instruments that were important, but not interesting and complex enough to represent the forefront of financial innovation. The turnover in OISs, FRAs, IRSs (interest rate swaps), CRSs (cross-currency basis swaps) and FX swaps, among others, was enormous. However, options, long-end interest rate swaps and structured products enjoyed considerably more prestige. The crisis turned everything upside down. Suddenly, the spotlight fell on us. Options traders needed to know the direction of LIBOR in order to price customer deals and value their books correctly.

Interbank money market: The market where banks borrow from and lend to each other. Interdealer broker: A brokerage firm that acts as an intermediary between major dealers (typically banks) to facilitate trades. Interest rate swap (IRS): A derivative where two counterparties agree to exchange periodic interest payments based on a specified notional amount. Typically, interest rate swaps involve the exchange a fixed interest rate for a floating rate (e.g. LIBOR), or vice versa. Layering: Submitting a series of manipulative buy (or sell) orders with the intention of selling rather than buying (or buying rather than selling).

ABBREVIATIONS ACI Association Cambiste Internationale BBA British Bankers’ Association BBAIRS BBA Interest Rate Settlement BIS Bank for International Settlements CDO collateralised debt obligation CDOR Canadian Dollar Offered Rate CDS credit default swap CEO chief executive officer CIA Central Intelligence Agency CIBOR Copenhagen Interbank Offered Rate CME Chicago Mercantile Exchange CPI Consumer Price Index CRS cross-currency basis swap ECB European Central Bank ERM Exchange Rate Mechanism EU European Union EURIBOR Euro Interbank Offered Rate FBI Federal Bureau of Investigation FCA Financial Conduct Authority FIBOR Frankfurt Interbank Offered Rate FRA forward rate agreement FSA Financial Services Authority FX foreign exchange GDP gross domestic product HELIBOR Helsinki Interbank Offered Rate ICMA International Capital Market Association IMM International Monetary Market IRS interest rate swap ISDA International Swaps and Derivatives Association KLIBOR Kuala Lumpur Interbank Offered Rate LIBOR London Interbank Offered Rate LIFFE London International Financial Futures and Options Exchange NIBOR Norwegian Interbank Offered Rate OIS overnight index swap OPEC Organization of the Petroleum Exporting Countries OTC over the counter PIBOR Paris Interbank Offered Rate PRA Prudential Regulation Authority SEC Securities and Exchange Commission SFO Serious Fraud Office SIMEX Singapore International Monetary Exchange STIBOR Stockholm Interbank Offered Rate STIRT Short-term Interest Rate Trading TAF Term Auction Facility TIBOR Tokyo Interbank Offered Rate TIFFE Tokyo International Financial Futures Exchange INTRODUCTION ‘It’s a misunderstanding’ ‘How can the FSA be sure you will not do this again?’


pages: 349 words: 134,041

Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives by Satyajit Das

accounting loophole / creative accounting, Alan Greenspan, Albert Einstein, Asian financial crisis, asset-backed security, Bear Stearns, beat the dealer, Black Swan, Black-Scholes formula, Bretton Woods, BRICs, Brownian motion, business logic, business process, buy and hold, buy low sell high, call centre, capital asset pricing model, collateralized debt obligation, commoditize, complexity theory, computerized trading, corporate governance, corporate raider, Credit Default Swap, credit default swaps / collateralized debt obligations, cuban missile crisis, currency peg, currency risk, disinformation, disintermediation, diversification, diversified portfolio, Edward Thorp, Eugene Fama: efficient market hypothesis, Everything should be made as simple as possible, financial engineering, financial innovation, fixed income, Glass-Steagall Act, Haight Ashbury, high net worth, implied volatility, index arbitrage, index card, index fund, interest rate derivative, interest rate swap, Isaac Newton, job satisfaction, John Bogle, John Meriwether, junk bonds, locking in a profit, Long Term Capital Management, low interest rates, mandelbrot fractal, margin call, market bubble, Marshall McLuhan, mass affluent, mega-rich, merger arbitrage, Mexican peso crisis / tequila crisis, money market fund, moral hazard, mutually assured destruction, Myron Scholes, new economy, New Journalism, Nick Leeson, Nixon triggered the end of the Bretton Woods system, offshore financial centre, oil shock, Parkinson's law, placebo effect, Ponzi scheme, proprietary trading, purchasing power parity, quantitative trading / quantitative finance, random walk, regulatory arbitrage, Right to Buy, risk free rate, risk-adjusted returns, risk/return, Salesforce, Satyajit Das, shareholder value, short selling, short squeeze, South Sea Bubble, statistical model, technology bubble, the medium is the message, the new new thing, time value of money, too big to fail, transaction costs, value at risk, Vanguard fund, volatility smile, yield curve, Yogi Berra, zero-coupon bond

DM/CHF payments IBM World Bank $ payments DM/CHF payments DM/CHF bondholders $ payments $ bondholders Figure 1.2 N 1981 World Bank – IBM currency swap DAS_C02.QXP 8/7/06 4:22 PM Page 37 1 N Financial WMDs – derivatives demagoguery 37 The currency swap evolved into the interest rate swap, shown in Figure 1.3. Floating rate swap payments Borrower B Borrower A Fixed rate swap payments Floating rate interest payments Floating rate lender Fixed rate interest payments Fixed rate lender Figure 1.3 N Interest rate swap The currency swap and the interest rate swap are still the mainstay of the derivatives markets. Nobody knew it then, but there was going to be a whole lotta swapping going on. The golden age/LIBOR minus 50 I came across my first swap in the early 1980s.

It is tricky to have negative interest rates: I wondered what that actually meant. I guessed the investor paid the borrower. It was definitely weird. The trick was figuring out how the deal was put together. The investor basically purchased a bond with an embedded interest rate swap. It looked like Figure 1.4. Investment in bond Investment/repayment of principal Bond Investor 8.50% pa Interest rate swap 8.75% pa Dealer Investor LIBOR Purchase by investor of cap on LIBOR (strike rate = 17.25% pa) 17.25% pa Inverse FRN Investor LIBOR Figure 1.4 N Inverse floater The only extra bit is that the investor also bought an interest rate cap, that is, a series of options designed to protect the investor if interest rates went DAS_C02.QXP 8/7/06 4:22 PM Page 47 1 N Financial WMDs – derivatives demagoguery 47 up above 17.25% pa.

Nero stood back and scrutinized his handiwork. Nero was right. If the investor wanted we could engineer in as much leverage as he liked. ‘Sir would like more leverage on the side? Coming right up.’ We would add a few more interest rate swaps to the deal, as DAS_C02.QXP 8/7/06 4:22 PM Page 50 Tr a d e r s , G u n s & M o n e y 50 US$100 million investment in bond Investment/repayment of principal Bond Investor 8.50% pa US$400 million interest rate swap 8.75% pa × 4 = 35.00% pa Dealer Investor 4 × LIBOR Purchase by investor of cap on LIBOR (strike rate = 10.875% pa) 43.50% pa Inverse FRN Investor 4 × LIBOR Figure 1.5 N Leveraged inverse floater shown in Figure 1.5.


The Fix: How Bankers Lied, Cheated and Colluded to Rig the World's Most Important Number (Bloomberg) by Liam Vaughan, Gavin Finch

Alan Greenspan, asset allocation, asset-backed security, bank run, banking crisis, Bear Stearns, Bernie Sanders, Big bang: deregulation of the City of London, buy low sell high, call centre, central bank independence, collapse of Lehman Brothers, corporate governance, credit crunch, Credit Default Swap, eurozone crisis, fear of failure, financial deregulation, financial innovation, fixed income, interest rate derivative, interest rate swap, Kickstarter, light touch regulation, London Interbank Offered Rate, London Whale, low interest rates, mortgage debt, Neil Armstrong, Northern Rock, performance metric, Ponzi scheme, Ronald Reagan, social intelligence, sovereign wealth fund, subprime mortgage crisis, urban sprawl

One or two old contacts from London and some particularly persistent brokers dragged Hayes out for a pint now and then amid the neon lights of Tokyo, where a wealthy young expat could have some serious fun, but Hayes was irritatingly distracted company. He had developed a more rarefied addiction. Interest-rate swaps, forward rate agreements, basis swaps, overnight indexed swaps—the menu of complex financial instruments Hayes bought and sold came in a thousand varieties, but they shared one thing in common: Their value rose and fell with reference to benchmark interest rates, and, in particular, to Libor.

As London’s financial markets took off, they became increasingly complex. Within a few years, Libor had morphed from being a tool to price individual loans and bonds to being a benchmark for derivatives deals worth hundreds of billions of dollars. Chief among these new 16 THE FIX derivatives was the interest-rate swap, which allowed companies to mitigate the risk of fluctuating interest rates. The swap was invented during a period of extreme volatility in global rates in the 1970s and early 1980s.5 The concept is simple: Two parties agree to exchange interest payments on a set amount for a fixed period. In its most basic and common form, one pays a fixed rate, in the belief that interest rates will rise, while the other pays a floating rate, betting they will fall.

What authorities around the world failed to recognize was that even lenders that made submissions too high or too low to be included in the final calculation could still influence where Libor was set because they pushed a previously excluded rate back into the pack.9 Traders with vast derivatives positions only needed to move the rate by a few hundredths of a percentage point to make huge profits, and their influence was small enough to evade detection. On a $100 billion portfolio of interest-rate swaps, a bank could gain millions of dollars from a 1 basis point move. Where Libor is set not only affects how much money banks and other sophisticated investors make on their derivatives bets, it also dictates how much interest U.S. homeowners pay on their mortgages each month.And poorer people with bad credit profiles are disproportionately affected.


pages: 430 words: 109,064

13 Bankers: The Wall Street Takeover and the Next Financial Meltdown by Simon Johnson, James Kwak

Alan Greenspan, American ideology, Andrei Shleifer, Asian financial crisis, asset-backed security, bank run, banking crisis, Bear Stearns, Bernie Madoff, Black Monday: stock market crash in 1987, Bonfire of the Vanities, bonus culture, book value, break the buck, business cycle, business logic, buy and hold, capital controls, Carmen Reinhart, central bank independence, Charles Lindbergh, collapse of Lehman Brothers, collateralized debt obligation, commoditize, corporate governance, corporate raider, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency risk, Edward Glaeser, Eugene Fama: efficient market hypothesis, financial deregulation, financial engineering, financial innovation, financial intermediation, financial repression, fixed income, George Akerlof, Glass-Steagall Act, Gordon Gekko, greed is good, Greenspan put, Home mortgage interest deduction, Hyman Minsky, income per capita, information asymmetry, interest rate derivative, interest rate swap, junk bonds, Kenneth Rogoff, laissez-faire capitalism, late fees, light touch regulation, Long Term Capital Management, low interest rates, market bubble, market fundamentalism, Martin Wolf, Michael Milken, money market fund, moral hazard, mortgage tax deduction, Myron Scholes, Paul Samuelson, Ponzi scheme, price stability, profit maximization, proprietary trading, race to the bottom, regulatory arbitrage, rent-seeking, Robert Bork, Robert Shiller, Ronald Reagan, Saturday Night Live, Satyajit Das, Savings and loan crisis, sovereign wealth fund, Tax Reform Act of 1986, The Myth of the Rational Market, too big to fail, transaction costs, Tyler Cowen, value at risk, yield curve

The modern derivatives revolution began with the invention of the interest rate swap (by Salomon Brothers) in 1981. In this transaction, Company A pays interest at a fixed rate to Company B and Company B pays interest at a floating rate (which can go up or down as economic conditions change) to Company A. Interest rate swaps allow companies to exchange fixed rate payments for floating rate payments, or vice versa—“swapping” interest rate risks between the two parties.‡ Similarly, currency swaps allow companies to swap currency risks by exchanging different currencies (or combinations of currencies). Interest rate swaps can also be combined with currency swaps.

(Because the evolution of derivatives has run ahead of regulatory and accounting rules, derivatives can also serve other purposes, such as helping companies smooth their earnings over multiple periods or reduce their tax bills by deferring earnings into the future.) By the middle of 2008, the market for over-the-counter (customized) interest rate swaps had grown to over $350 trillion in face value (the amount on which interest is calculated) and over $8 trillion in gross market value.*73 The derivatives dealers—both investment banks and large commercial banks—were taking a piece of every interest rate swap in fees. Even better, the dealers would typically hedge their exposures; ideally, for every swap with one client, they would conduct an opposite swap with another client, so the two trades canceled out—leaving nothing but fees from both clients.

There were also two representatives of industry organizations at the meeting.4 * Because the accounting treatment of derivatives was unclear, the amount of capital that banks had to set aside for their derivatives positions was generally disproportionately low compared to the amount of risk they were taking on. Because they could generate higher profits with less capital, their “return on equity” was higher. † Derivatives are essentially zero-sum transactions. The face value, or notional value, of a derivative is the basis on which the value of the transaction is calculated. For example, in an interest rate swap, the payments made by the two parties are calculated as interest rates (percentages) on the notional value; the amount of money that changes hands is much lower than the notional value. The market value of a derivative contract is calculated by the Bank for International Settlements as the current value of the contract to the party that is “in the money”—in other words, the amount of money that would change hands in order to close out the contract at this moment. 1 THOMAS JEFFERSON AND THE FINANCIAL ARISTOCRACY Great corporations exist only because they are created and safeguarded by our institutions; and it is therefore our right and our duty to see that they work in harmony with these institutions.


pages: 350 words: 103,270

The Devil's Derivatives: The Untold Story of the Slick Traders and Hapless Regulators Who Almost Blew Up Wall Street . . . And Are Ready to Do It Again by Nicholas Dunbar

Alan Greenspan, asset-backed security, bank run, banking crisis, Basel III, Bear Stearns, behavioural economics, Black Swan, Black-Scholes formula, bonus culture, book value, break the buck, buy and hold, capital asset pricing model, Carmen Reinhart, Cass Sunstein, collateralized debt obligation, commoditize, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, delayed gratification, diversification, Edmond Halley, facts on the ground, fear index, financial innovation, fixed income, George Akerlof, Glass-Steagall Act, Greenspan put, implied volatility, index fund, interest rate derivative, interest rate swap, Isaac Newton, John Meriwether, junk bonds, Kenneth Rogoff, Kickstarter, Long Term Capital Management, margin call, market bubble, money market fund, Myron Scholes, Nick Leeson, Northern Rock, offshore financial centre, Paul Samuelson, price mechanism, proprietary trading, regulatory arbitrage, rent-seeking, Richard Thaler, risk free rate, risk tolerance, risk/return, Ronald Reagan, Salesforce, Savings and loan crisis, seminal paper, shareholder value, short selling, statistical model, subprime mortgage crisis, The Chicago School, Thomas Bayes, time value of money, too big to fail, transaction costs, value at risk, Vanguard fund, yield curve, zero-sum game

With about €2 billion of debt, there was a routine reason for the treasury of Poste Italiane—the Italian post office—to be using interest rate swaps. The derivatives would transform its cost of borrowing into a lower, shorter-term benchmark rate that closely tracked European Central Bank rates. Although interest rate swaps are not standardized instruments that trade on an exchange, they are heavily traded by banks, hedge funds, and corporate end users in a highly competitive market. In such markets, bid-offer spreads are tight. For a standardized, vanilla interest rate swap, the spread was as low as one basis point (a hundredth of a percentage point) of the underlying debt transformed with the derivative.

Or they could use longer-term loans that tracked the interest rates paid by governments on their bonds, perhaps getting locked into a disadvantageous rate. Imagine that once you had committed yourself to one of these two financing routes, an invisible toggle switch allowed you to change your mind, canceling out the interest payments you didn’t want to make in return for making the payments that you did. Thus was the interest rate swap, the world’s most popular derivative, born. Swaps first proved their value in the 1980s, when the U.S. Federal Reserve jacked up short-term interest rates to fight inflation. With swaps, you could transform this short-term risk into something less volatile by paying a longer-term rate. Swaps again proved useful in 1997, when Asian central banks used high short-term interest rates to fight currency crises.

Swaps again proved useful in 1997, when Asian central banks used high short-term interest rates to fight currency crises. Just how heavily traded these contracts became can be gauged from the total “notional” amount of debt that was supposed to be transformed by the swaps (which is not the same as their value): by June 2008, a staggering $356 trillion of interest rate swaps had been written, according to the Bank for International Settlements.2 As with forward contracts on currencies and commodities, the rates quoted on these swaps are considered to be a more informative way of comparing different borrowing timescales (the so-called yield curve) than the underlying government bonds or deposit rates themselves.


pages: 513 words: 141,153

The Spider Network: The Wild Story of a Math Genius, a Gang of Backstabbing Bankers, and One of the Greatest Scams in Financial History by David Enrich

Bear Stearns, Bernie Sanders, Black Monday: stock market crash in 1987, call centre, centralized clearinghouse, computerized trading, Credit Default Swap, Downton Abbey, eat what you kill, electricity market, Flash crash, Glass-Steagall Act, Goldman Sachs: Vampire Squid, information asymmetry, interest rate derivative, interest rate swap, London Interbank Offered Rate, London Whale, Long Term Capital Management, Michael Milken, Navinder Sarao, Nick Leeson, Northern Rock, Occupy movement, performance metric, profit maximization, proprietary trading, Savings and loan crisis, tulip mania, work culture , zero-sum game

The loan had a floating interest rate tethered to the Federal Reserve’s base rate,* which currently stood at 2 percent. That carried risks. If the Fed subsequently hiked rates, ABC Corp. would see its interest payments shoot higher. So investment banks concocted a derivative product, known as an interest-rate swap, that would help protect ABC Corp. from the possibility of being burned. ABC Corp. and Giantbank would enter into a derivative contract that simulated a pair of similar $100 loan transactions. First, ABC Corp. would agree to borrow $100 from Giantbank with a fixed 2 percent rate. Then Giantbank would agree to borrow $100 from ABC Corp. with a floating rate tied to the Fed’s base rate or another metric.

Under this construction, ABC Corp. would stand to make money on the swap if the floating rates jumped above 2 percent, which would make up for the higher interest rates it would owe First National on the original loan. If floating rates declined, ABC Corp. would owe money to Giantbank, but that would be offset by its savings from the declining rates on the First National loan. In other words, the derivative neutralized the interest-rate risks ABC Corp. faced in its original loan. (Got it?) Providing interest-rate swaps was a valuable service, involving not only complex calculations but also the assumption of large risks, and banks charged their clients handsomely. If that setup sounds terrifyingly complicated, keep in mind that like so many instruments in the hall of mirrors that is modern finance, there might not even be an “ABC Corp.”

That meant a particular interest rate—and this is where Libor would eventually come into the equation—could have massive effects when it came to a bank’s bottom line: If it moved in an advantageous direction, a particular swap could become extremely lucrative. By 2010, some $1.28 trillion of these interest-rate swaps would change hands on a daily basis, up from $63 billion fifteen years earlier. As always, the advantage went to the trader who found an edge—whether that edge was a gullible client, a superior product, a more sophisticated computer model, whatever. Sometimes the edge was simply pushing the envelope just a little bit further than anyone else.


pages: 265 words: 93,231

The Big Short: Inside the Doomsday Machine by Michael Lewis

Alan Greenspan, An Inconvenient Truth, Asperger Syndrome, asset-backed security, Bear Stearns, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, diversified portfolio, facts on the ground, financial engineering, financial innovation, fixed income, forensic accounting, Gordon Gekko, high net worth, housing crisis, illegal immigration, income inequality, index fund, interest rate swap, John Meriwether, junk bonds, London Interbank Offered Rate, Long Term Capital Management, low interest rates, medical residency, Michael Milken, money market fund, moral hazard, mortgage debt, pets.com, Ponzi scheme, Potemkin village, proprietary trading, quantitative trading / quantitative finance, Quicken Loans, risk free rate, Robert Bork, short selling, Silicon Valley, tail risk, the new new thing, too big to fail, value at risk, Vanguard fund, zero-sum game

* ISDA had been created back in 1986, by my bosses at Salomon Brothers, to deal with the immediate problem of an innovation called an interest rate swap. What seemed like a simple trade to the people doing it--I pay you a fixed rate of interest in exchange for your paying me a floating rate--wound up needing a blizzard of rules to govern it. Beneath the rules was the simple fear that the party on the other side of a Wall Street firm's interest rate swap might go bust and fail to pay off its bets. The interest rate swap, like the credit default swap, exposed Wall Street firms to other people's credit, and other people to the credit of Wall Street firms, in new ways

AIG Financial Products was created in 1987 by refugees from Michael Milken's bond department at Drexel Burnham, led by a trader named Howard Sosin, who claimed to have a better model to trade and value interest rate swaps. Nineteen eighties financial innovation had all sorts of consequences, but one of them was a boom in the number of deals between big financial firms that required them to take each other's credit risks. Interest rate swaps--in which one party swaps a floating rate of interest for another party's fixed rate of interest--was one such innovation. Once upon a time, Chrysler issued a bond through Morgan Stanley, and the only people who wound up with credit risk were the investors who bought the Chrysler bond.

Once upon a time, Chrysler issued a bond through Morgan Stanley, and the only people who wound up with credit risk were the investors who bought the Chrysler bond. Chrysler might sell its bonds and simultaneously enter into a ten-year interest rate swap transaction with Morgan Stanley--and just like that, Chrysler and Morgan Stanley were exposed to each other. If Chrysler went bankrupt, its bondholders obviously lost; depending on the nature of the swap, and the movement of interest rates, Morgan Stanley might lose, too. If Morgan Stanley went bust, Chrysler, along with anyone else who had done interest rate swaps with Morgan Stanley, stood to suffer. Financial risk had been created out of thin air, and it begged to be either honestly accounted for or disguised.


pages: 447 words: 104,258

Mathematics of the Financial Markets: Financial Instruments and Derivatives Modelling, Valuation and Risk Issues by Alain Ruttiens

algorithmic trading, asset allocation, asset-backed security, backtesting, banking crisis, Black Swan, Black-Scholes formula, Bob Litterman, book value, Brownian motion, capital asset pricing model, collateralized debt obligation, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, delta neutral, discounted cash flows, discrete time, diversification, financial engineering, fixed income, implied volatility, interest rate derivative, interest rate swap, low interest rates, managed futures, margin call, market microstructure, martingale, p-value, passive investing, proprietary trading, quantitative trading / quantitative finance, random walk, risk free rate, risk/return, Satyajit Das, seminal paper, Sharpe ratio, short selling, statistical model, stochastic process, stochastic volatility, time value of money, transaction costs, value at risk, volatility smile, Wiener process, yield curve, zero-coupon bond

collars collateralized debt obligations (CDOs) color sensitivity commodities commodity futures backwardation contango market price non-financial producers/users trading calculations conditional swaps Conditional VaR (C-VaR) confidence levels constant maturity swaps (CMSs) contango continuous interest compounding continuous interest rates continuous time continuous variables contracts contracts for difference (CFD) contribution, performance convenience yield conversion factors (CFs) convertible bonds (CBs) bond floor CB premium conversion ratio Hard Call protection outcome of operation pricing graph risk premium stock price parity convexity adjustments see also bond convexity copper prices copulas correlation basket options credit derivatives implied Portfolio Theory Spearman’s coefficient VaR calculations volatility counterparty risk futures see also credit risk counter-value currency (c/v) Courtadon model covered period, FRAs Cox, Ingersoll and Ross model Cox–Ross–Rubenstein (CRR) model credit default swaps (CDSs) on basket cash settlement with defined recovery rate market operations variants credit derivatives CDSs credit risk main features valuation application example basket derivatives binomial model CDO pricing correlation measures credit risk models useful measures Merton model “credit events” credit exposure credit risk behind the underlying components data use dangers default rates Merton model models in practice quantification recovery rates credit VaR crossing CRR see Cox–Ross–Rubenstein model CRSs see currency rate swaps crude oil market CTD see cheapest to deliver cubic splines method currencies futures options performance attribution spot instruments currency rate swaps (CRSs) c/v see counter-value currency C-VaR see Conditional VaR D see discount factors DCF see discounted cash flows method decision-making deep ITM (DITM) deep OTM (DOTM) default rates default risk see credit risk delta delta-gamma neutral management delta-normal method, VaR derivatives credit valuation problems volatility Derman see Black, Derman, Toy process deterministic phenomena diff swaps diffusion processes Dirac functions dirty prices discounted cash flows (DCF) method discount factors (D) duration D forward rates IRSs risk-free yield curve spot rates yield curve interpolations discrete interest compounding discrete time discrete variables DITM see deep ITM DOTM see deep OTM drift duration of bonds see bond duration duration D dVega/dTime dynamic replication see delta-Gamma neutral management dZ Black–Scholes formula fractional Brownian motion geometric Wiener process martingales properties of dZ(t) standard Wiener process economic capital ED see exposure at default effective duration, bonds efficient frontier efficient markets EGARCH see exponential GARCH process EONIA see Euro Over-Night Index Average swaps equities forwards futures Portfolio Theory stock indexes stocks valuation EUR see Euros EURIBOR rates CMSs EONIA/OIS swaps FRAs futures in-arrear swaps IRSs quanto/diff swaps short-term rates Euro Over-Night Index Average (EONIA) swaps European options basket options bond options caplets CRR pricing model exchange options exotic options floorlets Monte Carlo simulations option pricing rho Euros (EUR) CRSs forward foreign exchange futures spot market swap rate markets volatility Euro Stoxx EWMA see exponentially weighted moving average process Excel functions MA process Monte Carlo simulations excess return exchange options exotic options basket options Bermudan options binomial pricing model Black–Scholes formula currency options exchange options interest rates Monte Carlo simulations options on bonds options on non-financial underlyings PFCs pricing methods see also second generation options exotic swaps see also second generation swaps expected credit loss expected return exponential GARCH (EGARCH) process exponentially weighted moving average (EWMA) process exposure at default (ED) fair price/value “fat tails” problem financial models ARCH process ARIMA process ARMA process AR process GARCH process MA process MIDAS process finite difference pricing methods fixed leg of swap fixed rate, swaps floating rate notes/bonds (FRNs) floating rates floorlets floors forecasting ARIMA ARMA process AR process MA process foreign exchange (FX) see currencies; forex swaps; forward foreign exchange forex (FX) swaps forward foreign exchange 1 year calculations forex swaps forward forex swaps forward-forward transactions forward spreads NDF market operations forward rate agreements (FRAs) forwards Black–Scholes formula bonds CFDs CRSs equities foreign exchange FRAs futures vs forwards prices options PFCs rates swaps volatility forward zero-coupon rate 4-moments CAPM fractional Brownian motion FRAs see forward rate agreements FRNs see floating rate notes/bonds futures bonds commodities currencies equities forwards vs futures prices IRR margining system market price option pricing pricing settlement at maturity short-term interest rates stock indexes theoretical price future value (FV) bond duration short-term rates spot rates zero-coupon swaps FX see foreign exchange; forex swaps gain-loss ratio (Bernardo Ledoit) gamma gamma processes GARCH see generalized ARCH process Garman–Klass volatility Gaussian copulas Gaussian distribution Gaussian hypothesis generalized ARCH (GARCH) process EWMA process I/E/MGARCH processes non-linear models regime-switching models variants volatility general Wiener process application fractional Brownian motion gamma processes geometric Wiener process Itô Lemma Itô process jump processes volatility modeling see also standard Wiener process geometric average geometric Wiener process German Bund see Bund (German T-Bond) global VaR Gordon–Shapiro method government bonds Greece Greeks see sensitivities Hard Call protection Heath, Jarrow and Morton (HJM) model Heaviside function hedging bond futures delta-gamma neutral management futures 129–30 immunization vs hedging money market rate futures stock index futures heteroskedasticity hidden layers, NNs high frequency trading “high” prices historical method, VaR historical volatility HJM see Heath, Jarrow and Morton model Ho and Lee model Hull and White model Hurst coefficient IGARCH see integrated GARCH process immunization implied correlation implied repo rate (IRR) implied volatility definition historical volatility surface volatility curves volatility smiles in-arrear swaps indexes basket options capitalization-weighted price/value-weighted see also stock indexes inflation-linked bonds inflation swaps Information Ratio (IR) initial margin in the money (ITM) caps convertible bonds deep ITM options innovation term, AR instantaneous returns integrated GARCH (IGARCH) process interbank rates see EURIBOR rates; LIBOR rates interest rate options BDT process Black and Karasinski model caps collars floors forward rates HJM model LMM model single rate processes swaptions yield curve modeling interest rates day counting discount factors futures FV/PV interest compounding IRSs options short-term spot rates term structure see also yield interest rate swaps (IRSs) bond duration and CRSs fixed/floating rates pricing methods prior to swap pricing method revaluation vanilla swaps yield curve see also constant maturity swaps intermediate period, FRAs International Swaps and Derivatives Association (ISDA) intraday margining settlements intraday volatility investor decision-making IR see Information Ratio IRR see implied repo rate IRSs see interest rate swaps ISDA see International Swaps and Derivatives Association ITM see in the money Itô process Itô’s Lemma Japanese yen (JPY) Jarrow, Robert A.

Exchanged cash flows can be assets cash flows originating from assets payments, in this case one talk about asset swaps, or cash flows originating from debts interest payments, hence the naming of liability swaps. If the whole set of exchanged cash flows involves a common single currency, the swap is called an interest rate swap (IRS). If the exchange of cash flows involves two currencies, one talks of currency rate swap (CRS) or cross currency rate swap (CCRS).2 A swap is an unconditional product: the exchange of cash flows cannot depend from any kind of condition. A contrario, credit default swaps and similar derivatives on a default risk are not swaps, strictly speaking, because there are conditional.

Indeed, in a vanilla swap, floating rates interest cash flows are paid at the expiry dates, so that only the first LIBOR is known at swap inception but not the following ones (noted in italics). Note also that in such a swap, the only cash flows exchanged are interest cash flows (the principal amount is not involved at all), hence the name interest rate swap. 6.1.2 An example of CRS liability swap (data from February 2002) A supranational institution, here called SNL, has issued a 6-year bond of Norwegian krone (NOK) 750 million @ 61/2% p.a. (ACT/ACT), immediately swapped into its own EUR currency, that is, EUR 85 227 272.73, at the current EUR/NOK spot rate of 8.8000 (the rationale of this swapped issue will appear later).


The Trade Lifecycle: Behind the Scenes of the Trading Process (The Wiley Finance Series) by Robert P. Baker

asset-backed security, bank run, banking crisis, Basel III, Black-Scholes formula, book value, Brownian motion, business continuity plan, business logic, business process, collapse of Lehman Brothers, corporate governance, credit crunch, Credit Default Swap, diversification, financial engineering, fixed income, functional programming, global macro, hiring and firing, implied volatility, interest rate derivative, interest rate swap, locking in a profit, London Interbank Offered Rate, low interest rates, margin call, market clearing, millennium bug, place-making, prediction markets, proprietary trading, short selling, statistical model, stochastic process, the market place, the payments system, time value of money, too big to fail, transaction costs, value at risk, Wiener process, yield curve, zero-coupon bond

The CCP matches every trade so if A wants to trade an interest rate swap with B, A trades with the CCP and the CCP trades the exact opposite of the trade with B. The CCP guarantees the obligations of the contract but has no market risk. It does however carry the risk that one of the counterparties defaults. This risk is managed in many ways, including by taking margin (or collateral) from each of its counterparties. Clearing trades centrally means that CCPs themselves become crucial nodes in the financial network. It is estimated, for example, that almost half of all outstanding interest rate swap transactions are centrally cleared.

Figure 3.6 shows a deposit with repayment interest at regular intervals and the final receipt for the principal plus the last instalment of interest. 3.5 SWAP The term swap is very general, giving rise to many meanings (e.g. commodity swap, FX swap, credit default swap etc). However, when otherwise unqualified, it is taken as being an interest rate (IR) swap. The simplest form of interest rate swap is a trade with several pre-defined settlement dates and a nominal notional amount of money that is never exchanged. One side (by convention the buyer) pays a fixed amount on each settlement and the other side pays a floating amount determined by some reference index (such as LIBOR). This is known as a fixed for floating swap (see Figure 3.7).

For example, we pay fixed 3% of 25 Understanding Traded Products – Follow the Money a dollar notional and receive a floating rate in euros based on LIBOR EUR, which is then converted to dollars at the prevailing foreign exchange rate on fixing day to determine the direction and size of settlement. Although there is always a notional amount in any interest rate swap, this is never actually exchanged. It is only used for determination of amount to be paid or received. 3.6 FOREIGN EXCHANGE SWAP Not to be confused with currency swaps, a foreign exchange swap is the exchange of one currency for another now (after a short time for settlement) and the reverse exchange at some point in the future.


pages: 368 words: 32,950

How the City Really Works: The Definitive Guide to Money and Investing in London's Square Mile by Alexander Davidson

accounting loophole / creative accounting, algorithmic trading, asset allocation, asset-backed security, bank run, banking crisis, barriers to entry, Bear Stearns, Big bang: deregulation of the City of London, buy and hold, capital asset pricing model, central bank independence, corporate governance, Credit Default Swap, currency risk, dematerialisation, discounted cash flows, diversified portfolio, double entry bookkeeping, Edward Lloyd's coffeehouse, Elliott wave, equity risk premium, Exxon Valdez, foreign exchange controls, forensic accounting, Glass-Steagall Act, global reserve currency, high net worth, index fund, inflation targeting, information security, intangible asset, interest rate derivative, interest rate swap, inverted yield curve, John Meriwether, junk bonds, London Interbank Offered Rate, Long Term Capital Management, low interest rates, margin call, market fundamentalism, Nick Leeson, North Sea oil, Northern Rock, pension reform, Piper Alpha, price stability, proprietary trading, purchasing power parity, Real Time Gross Settlement, reserve currency, Right to Buy, risk free rate, shareholder value, short selling, The Wealth of Nations by Adam Smith, transaction costs, value at risk, yield curve, zero-coupon bond

The UK has a 42 per cent turnover in foreign equities, down from 43 per cent in 2005, and compared with 33 per cent in the United States. The UK is the market leader in international bonds (2006), with 70 per cent of the secondary market, unchanged since 1992. In over-the-counter (OTC) derivatives, the UK has a 43 per cent market share (April 2004), of which about three-quarters are interest rate swaps and similar products, which makes it the global leader, according to IFSL statistics. The United States has 24 per cent. In marine insurance net premium income, the UK has a 20 per cent market share (2005), while the United States has 11 per cent. London’s share of world hedge fund assets reached 21 per cent in June 2006, which represents a steady gain since 2003, when it was 14 per cent, but it has a long way to catch up with the United States at 66 per cent.

Issuers of bonds usually offer a fixed rate of return, which is what investors prefer. But if the bonds fall in value, investors may feel they have lost out. This is why investors use the swaps market, which enables them to swap fixed for floating rates. The majority of the swaps market consists of interest rate swaps (see Chapters 8 and 11). Mergers and acquisitions Mergers and acquisitions (M&A) is the area where investment banks are often compared and judged. They will advise a company planning a takeover or that is a likely bid target, and may help it to raise capital for the purpose. The prospective buyer of a quoted company can be another company, from Europe, the United States or elsewhere.

More complex terminology may be used, depending on which of the asset classes are involved. The asset classes are credit fixed income, financials, interest rate market, equity and commodities. Credit fixed income includes credit derivatives, bonds, commercial paper and loans; financials include foreign exchange and forwards; interest rate markets include interest rate swaps and options, and deposits, as well as forward rate agreements and overnight index swaps. Of the rest, equity covers the stock market; commodities include soft commodities such as food, feedstuffs and beverages, including grains, pork _________________________________ INTRODUCTION TO DERIVATIVES 61  bellies, shrimp, wines, wheat and corn, as well as hard commodities, which are industrial raw materials such as oil, gas, electricity, nuclear fuel and metals.


pages: 1,088 words: 228,743

Expected Returns: An Investor's Guide to Harvesting Market Rewards by Antti Ilmanen

Alan Greenspan, Andrei Shleifer, asset allocation, asset-backed security, availability heuristic, backtesting, balance sheet recession, bank run, banking crisis, barriers to entry, behavioural economics, Bernie Madoff, Black Swan, Bob Litterman, bond market vigilante , book value, Bretton Woods, business cycle, buy and hold, buy low sell high, capital asset pricing model, capital controls, carbon credits, Carmen Reinhart, central bank independence, classic study, collateralized debt obligation, commoditize, commodity trading advisor, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, deal flow, debt deflation, deglobalization, delta neutral, demand response, discounted cash flows, disintermediation, diversification, diversified portfolio, dividend-yielding stocks, equity premium, equity risk premium, Eugene Fama: efficient market hypothesis, fiat currency, financial deregulation, financial innovation, financial intermediation, fixed income, Flash crash, framing effect, frictionless, frictionless market, G4S, George Akerlof, global macro, global reserve currency, Google Earth, high net worth, hindsight bias, Hyman Minsky, implied volatility, income inequality, incomplete markets, index fund, inflation targeting, information asymmetry, interest rate swap, inverted yield curve, invisible hand, John Bogle, junk bonds, Kenneth Rogoff, laissez-faire capitalism, law of one price, London Interbank Offered Rate, Long Term Capital Management, loss aversion, low interest rates, managed futures, margin call, market bubble, market clearing, market friction, market fundamentalism, market microstructure, mental accounting, merger arbitrage, mittelstand, moral hazard, Myron Scholes, negative equity, New Journalism, oil shock, p-value, passive investing, Paul Samuelson, pension time bomb, performance metric, Phillips curve, Ponzi scheme, prediction markets, price anchoring, price stability, principal–agent problem, private sector deleveraging, proprietary trading, purchasing power parity, quantitative easing, quantitative trading / quantitative finance, random walk, reserve currency, Richard Thaler, risk free rate, risk tolerance, risk-adjusted returns, risk/return, riskless arbitrage, Robert Shiller, savings glut, search costs, selection bias, seminal paper, Sharpe ratio, short selling, sovereign wealth fund, statistical arbitrage, statistical model, stochastic volatility, stock buybacks, stocks for the long run, survivorship bias, systematic trading, tail risk, The Great Moderation, The Myth of the Rational Market, too big to fail, transaction costs, tulip mania, value at risk, volatility arbitrage, volatility smile, working-age population, Y2K, yield curve, zero-coupon bond, zero-sum game

Swap–Treasury spread positions I start with interest rate swaps because swap–Treasury spreads may be viewed as a common element in various non-government vs. government spreads. Non-government assets tend to have more stable spreads over the swap curve than over Treasuries. Although swap–government spreads are often classified as credit spreads, it has long been recognized that the credit risk component in swap spreads is negligible. I first explain why counterparty credit risk hardly impacts swaps and then review the link between swap spreads and LIBOR–repo spreads:• Interest rate swap contracts have minimal default exposure because the principal is not at risk—just one side of profits/losses.

Summary statistics of U.S. money market rate spreads, 1980–2009 Assets not covered in this chapter include many interesting cases with too short histories or poor data quality. Candidates range from the obvious to esoteric: emerging market debt, inflation-linked bonds, convertible bonds, interest rate swaps, credit derivatives, various structured products, exchange-traded funds, catastrophe bonds, distressed debt, and carbon trading. 3.5 REAL RETURN HISTORIES The results above focused on nominal returns, as does most of this book. To compensate for what some readers might find to be insufficient emphasis on real returns, Table 3.6 presents the compound average real returns for many assets, decade by decade for the 110 years, and also for the 19th century (actually the 98-year period from 1802 to 1899) where possible.

The fewer chances a fiscally stretched government has to inflate, or devalue its debt through a depreciating currency, the greater is its temptation to default. In most countries, government bonds still have the lowest yields, but it is no longer unthinkable to see government yields rising above high-quality corporate yields. Indeed, even in developed markets, long-dated interest rate swaps are increasingly trading below government yields, and sovereign credit default swap spreads have dramatically increased since 2008. The time horizon also matters. Long-dated Treasuries are arguably a more natural riskless asset for long-horizon investors, given the uncertain reinvestment rate for short-dated bills.


pages: 586 words: 159,901

Wall Street: How It Works And for Whom by Doug Henwood

accounting loophole / creative accounting, activist fund / activist shareholder / activist investor, affirmative action, Alan Greenspan, Andrei Shleifer, asset allocation, asset-backed security, bank run, banking crisis, barriers to entry, bond market vigilante , book value, borderless world, Bretton Woods, British Empire, business cycle, buy the rumour, sell the news, capital asset pricing model, capital controls, Carl Icahn, central bank independence, computerized trading, corporate governance, corporate raider, correlation coefficient, correlation does not imply causation, credit crunch, currency manipulation / currency intervention, currency risk, David Ricardo: comparative advantage, debt deflation, declining real wages, deindustrialization, dematerialisation, disinformation, diversification, diversified portfolio, Donald Trump, equity premium, Eugene Fama: efficient market hypothesis, experimental subject, facts on the ground, financial deregulation, financial engineering, financial innovation, Financial Instability Hypothesis, floating exchange rates, full employment, George Akerlof, George Gilder, Glass-Steagall Act, hiring and firing, Hyman Minsky, implied volatility, index arbitrage, index fund, information asymmetry, interest rate swap, Internet Archive, invisible hand, Irwin Jacobs, Isaac Newton, joint-stock company, Joseph Schumpeter, junk bonds, kremlinology, labor-force participation, late capitalism, law of one price, liberal capitalism, liquidationism / Banker’s doctrine / the Treasury view, London Interbank Offered Rate, long and variable lags, Louis Bachelier, low interest rates, market bubble, Mexican peso crisis / tequila crisis, Michael Milken, microcredit, minimum wage unemployment, money market fund, moral hazard, mortgage debt, mortgage tax deduction, Myron Scholes, oil shock, Paul Samuelson, payday loans, pension reform, planned obsolescence, plutocrats, Post-Keynesian economics, price mechanism, price stability, prisoner's dilemma, profit maximization, proprietary trading, publication bias, Ralph Nader, random walk, reserve currency, Richard Thaler, risk tolerance, Robert Gordon, Robert Shiller, Savings and loan crisis, selection bias, shareholder value, short selling, Slavoj Žižek, South Sea Bubble, stock buybacks, The inhabitant of London could order by telephone, sipping his morning tea in bed, the various products of the whole earth, The Market for Lemons, The Nature of the Firm, The Predators' Ball, The Wealth of Nations by Adam Smith, transaction costs, transcontinental railway, women in the workforce, yield curve, zero-coupon bond

But where much of the rise in exchange-traded instruments was simply a matter of Europe and Japan catching up with U.S. financial futures markets, OTC growth was mainly the proliferation of new instruments worldwide. In 1986, notional principal in interest rate swaps was $400 billion, with another $100 billion in currency swaps outstanding; at the end of 1990, the figures were $2.3 trillion and $578 billion, respectively, to which had been added another $56l billion in caps, floors, collars, and swaptions; in 1997, notional principal on interest rate swaps totaled $22.1 trillion, and currency swaps, $1.5 trillion (Bank for International Settlements 1998). The biggest users of currency swaps once were nonfinancial corporations — the multinationals that dominate world trade, who borrow and do business in scores of currencies around the world.

But financial institutions have been steadily increasing their use, with 40% of notional principal outstanding, a bit ahead of nonfinancial firms, with governments a distant third. Financial institutions dominate the market for interest rate swaps; after all, interest-bearing paper is the basic commodity they deal in. Corporations accounted for just 23% and governments, 6%. The U.S. share of swap markets is surprisingly small — less than a third of interest INSTRUMENTS rate swaps and quarter of the currency kind — and the dollar's share has been shrinking steadily, from 79% of interest rate swaps in 1987 to 30% in 1996, with the yen and the European currencies rising dramatically. No doubt European and Asian economic integration is at work here, though the merger of Continental countries into the euro will change everything.

Details of custom derivatives may be more than many readers want to know, but they do involve the full richness of financial imagination. Swaps were pioneered in the late 1970s, but the first deal to attract wide attention was a currency swap between IBM and the World Bank in 1981, and the first interest rate swap was one involving the Student Loan Marketing Association (Sallie Mae), a U.S.-government-sponsored vendor of student loans (Abken 1991).^^ Unlike exchange-traded derivatives, swaps don't really involve a claim on an underlying asset; in most cases, the partners in the swap, called counterparties, swap two sets of cash flows, cash flows that are usually thrown off by positions in other securities (bond interest, stock dividends, etc.).


pages: 224 words: 13,238

Electronic and Algorithmic Trading Technology: The Complete Guide by Kendall Kim

algorithmic trading, automated trading system, backtesting, Bear Stearns, business logic, commoditize, computerized trading, corporate governance, Credit Default Swap, diversification, en.wikipedia.org, family office, financial engineering, financial innovation, fixed income, index arbitrage, index fund, interest rate swap, linked data, market fragmentation, money market fund, natural language processing, proprietary trading, quantitative trading / quantitative finance, random walk, risk tolerance, risk-adjusted returns, short selling, statistical arbitrage, Steven Levy, transaction costs, yield curve

Treasuries x x x x x MBS x x Agency x x x x Corporate Bonds x x x x Munis European Issues x x x x x x Products supported. Source: Aite Group. Derivatives x x x Electronic and Algorithmic Trading for Different Asset Classes 119 Firms eSpeed Products Interest Rate Swaps ICAP Interest Rate Swaps Q3 2004 Europe Credit Derivatives Q4 2004 Europe and U.S. MarketAxess Thomson TradeWeb Exhibit 11.7 Launch Date 2003 Credit Derivatives Q3 2005 Q1 2005 for Interest Rate Swaps Euro Q3 2005 for U.S. Q3 2005 for Credit Derivatives U.S. Market Focus Europe and U.S. Europe and U.S. Europe and U.S. Europe and U.S. Expansion into derivatives. Source: Firms. brokers or dealers.

Electronic access to stocks has been more prevalent than for futures and options, but these asset classes are catching up particularly in foreign exchange. A growing number of trading platforms now support trading in over-the-counter (OTC) derivatives. According to the Bond Market Association in 2004, 25 platforms now allow users to execute transactions in 111 112 Electronic and Algorithmic Trading Technology interest rate swaps, credit default swaps, options, futures, and other derivative products. This is nearly double the number of platforms that supported derivatives trading in 2003. The equities markets will execute trades using some sort of algorithmic model, but the same will most likely be true for other products such as futures, options, and foreign exchange.

By 2008, electronic trading will account for over 60% of total U.S. fixed-income trading volume (see Exhibits 11.2 and 11.3), as leading platforms continue to expand into less liquid products, according to the Aite Group. Competition is expanding into less liquid Fixed-income instruments, which include European markets, algorithmic trading, and OTC derivative products such as interest rate swaps and credit derivatives. The marketplace has also witnessed contraction in the number of trading platforms from its peak in 2000, when over 70 electronic fixed-income trading platforms existed, to fewer than 30 platforms remaining at the end of 2004. Realistically, only a handful of those remaining platforms can be considered legitimate.


pages: 504 words: 139,137

Efficiently Inefficient: How Smart Money Invests and Market Prices Are Determined by Lasse Heje Pedersen

activist fund / activist shareholder / activist investor, Alan Greenspan, algorithmic trading, Andrei Shleifer, asset allocation, backtesting, bank run, banking crisis, barriers to entry, Bear Stearns, behavioural economics, Black-Scholes formula, book value, Brownian motion, business cycle, buy and hold, buy low sell high, buy the rumour, sell the news, capital asset pricing model, commodity trading advisor, conceptual framework, corporate governance, credit crunch, Credit Default Swap, currency peg, currency risk, David Ricardo: comparative advantage, declining real wages, discounted cash flows, diversification, diversified portfolio, Emanuel Derman, equity premium, equity risk premium, Eugene Fama: efficient market hypothesis, financial engineering, fixed income, Flash crash, floating exchange rates, frictionless, frictionless market, global macro, Gordon Gekko, implied volatility, index arbitrage, index fund, interest rate swap, junk bonds, late capitalism, law of one price, Long Term Capital Management, low interest rates, managed futures, margin call, market clearing, market design, market friction, Market Wizards by Jack D. Schwager, merger arbitrage, money market fund, mortgage debt, Myron Scholes, New Journalism, paper trading, passive investing, Phillips curve, price discovery process, price stability, proprietary trading, purchasing power parity, quantitative easing, quantitative trading / quantitative finance, random walk, Reminiscences of a Stock Operator, Renaissance Technologies, Richard Thaler, risk free rate, risk-adjusted returns, risk/return, Robert Shiller, selection bias, shareholder value, Sharpe ratio, short selling, short squeeze, SoftBank, sovereign wealth fund, statistical arbitrage, statistical model, stocks for the long run, stocks for the long term, survivorship bias, systematic trading, tail risk, technology bubble, time dilation, time value of money, total factor productivity, transaction costs, two and twenty, value at risk, Vanguard fund, yield curve, zero-coupon bond

—Saying among traders The global fixed-income markets are vast in terms of the value of outstanding bonds, the turnover of these bonds, and the size of the related derivatives markets. The most important fixed-income market is the government bond market, followed by the markets for corporate bonds and mortgage bonds. The key derivatives markets include bond futures, interest-rate swaps, credit default swaps, options, and swaptions, which give the option to enter into an interest-rate swap. Almost all bond prices depend heavily on the risk-free interest rate, so there is significant co-movement among bond yields and bond returns. Therefore, fixed-income arbitrage traders often trade on the relative value among fixed-income securities to exploit price differences among closely related securities.

For example, a 10-year Japanese government bond has a high carry if the Japanese yield curve is steep. Some macro investors trade on bond carry across countries, buying bonds in countries with high carry while shorting bonds in countries with low carry. Such trades can be implemented with cash bonds (financed in repo), bond futures, or interest-rate swaps. • Yield-curve carry trade: Macro investors also trade bonds of different maturities within the same country. This is called a yield-curve trade. Chapter 14 provides more sophisticated measures of bond carry (that include a so-called roll-down effect) and discusses in more detail how to implement bond and yield-curve trades

Panel B shows, at four selected dates, the entire yield curve where the (off-the-run) bonds originally issued as 30-year bonds are represented as diamonds and all other securities are plotted as solid circles. The disconnect between on- and off-the-run 10-year bonds during the global financial crisis is evident. Sources: Panel A: Using data from AQR Capital Management. Panel B: Gürkaynak and Wright (2012). 14.6. SWAPS AND SWAP SPREADS An interest-rate swap is a derivative that exchanges the cash flows of a fixed-rate loan to those of a floating-rate loan. The counterparty paying the fixed rate is called the “payer,” and the counterparty receiving the fixed rate is called the “receiver.” We will take the viewpoint of the receiver (who faces an interest-rate risk similar to that of an investor who is long on a bond).


pages: 218 words: 62,889

Sabotage: The Financial System's Nasty Business by Anastasia Nesvetailova, Ronen Palan

Alan Greenspan, algorithmic trading, bank run, banking crisis, barriers to entry, Basel III, Bear Stearns, Bernie Sanders, big-box store, bitcoin, Black-Scholes formula, blockchain, Blythe Masters, bonus culture, Bretton Woods, business process, collateralized debt obligation, corporate raider, Credit Default Swap, credit default swaps / collateralized debt obligations, critique of consumerism, cryptocurrency, currency risk, democratizing finance, digital capitalism, distributed ledger, diversification, Double Irish / Dutch Sandwich, en.wikipedia.org, Eugene Fama: efficient market hypothesis, financial engineering, financial innovation, financial intermediation, financial repression, fixed income, gig economy, Glass-Steagall Act, global macro, Gordon Gekko, high net worth, Hyman Minsky, independent contractor, information asymmetry, initial coin offering, interest rate derivative, interest rate swap, Joseph Schumpeter, junk bonds, Kenneth Arrow, litecoin, London Interbank Offered Rate, London Whale, Long Term Capital Management, margin call, market fundamentalism, Michael Milken, mortgage debt, new economy, Northern Rock, offshore financial centre, Paul Samuelson, peer-to-peer lending, plutocrats, Ponzi scheme, Post-Keynesian economics, price mechanism, regulatory arbitrage, rent-seeking, reserve currency, Ross Ulbricht, shareholder value, short selling, smart contracts, sovereign wealth fund, Thorstein Veblen, too big to fail

The overall aim of these exercises, a UK Parliamentary Committee would discover, was to pass on to customers as much of RBS’s bad debts as possible, while at the same time to extract ‘value’ from small- and medium-size business customers to buffer the bank’s profits. There hardly appears to be any aspect of business at RBS that was not sabotage. Following the onset of the financial-market contagion from the subprime debt crisis, the bank sought to offload some of its ill-judged long-term interest rate swaps. Many of those deals, known as interest rate swaps, had been signed during the good times with the intention of protecting the bank against interest rate rises. Now that interest rates were tumbling, those swaps arrangements threatened to cost RBS billions upon billions of dollars. Managers at RBS (though, admittedly, not only at the RBS) hit on the ingenious idea that their own customers were their best bet of resolving this problem.

To help with the deal, RBS would often loan their customers the funds necessary to buy the costly hedges, at fixed interest rates of 7 or 8 per cent – at a time when interest rates were heading towards 0 per cent, thus making extra profits. The scheme worked so smoothly (for RBS, not the clients) that thereafter, and separately, RBS required all members of the RBS Group to make all new commercial loans over £500k subject to the purchase of interest rate swaps. ‘Every deal which we have seen sold to an RBS customer,’ concluded the UK Parliamentary Committee, was a ‘heads we win, tails you lose’ trade: the customer was always the loser.3 A variety of schemes was used to incentivize staff. RBS business managers were given ‘ovation’ vouchers, tax free and acceptable as a payment method by major stores.

A special ‘reward’ was given for introducing business customers to employees in the RBS Markets team, where such customers were subsequently sold those expensive hedging products. An RBS corporate manager could double his year’s basic salary with additional bonuses by helping to sell only a few interest rate swaps to his customers. Some single sales alone could be worth 20–30 per cent of an annual target.4 A whole division within RBS was dedicated to helping customers in difficulties: the Global Restructuring Group (GRG), so renamed in 2009 to oversee some 16,500 small and medium enterprises (SMEs) in distress with assets worth £65bn that had been placed in special measures.5 GRG’s mission was described by the law firm Clifford Chance, RBS’s lawyers, as ‘to return customers to financial health and to protect the bank’s position by minimising losses and maximising recoveries’.6 It was the latter and not the former that proved to be the case.


pages: 701 words: 199,010

The Crisis of Crowding: Quant Copycats, Ugly Models, and the New Crash Normal by Ludwig B. Chincarini

affirmative action, Alan Greenspan, asset-backed security, automated trading system, bank run, banking crisis, Basel III, Bear Stearns, Bernie Madoff, Black-Scholes formula, Bob Litterman, business cycle, buttonwood tree, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, collective bargaining, corporate governance, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, delta neutral, discounted cash flows, diversification, diversified portfolio, family office, financial engineering, financial innovation, financial intermediation, fixed income, Flash crash, full employment, Gini coefficient, Glass-Steagall Act, global macro, high net worth, hindsight bias, housing crisis, implied volatility, income inequality, interest rate derivative, interest rate swap, John Meriwether, Kickstarter, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, low interest rates, low skilled workers, managed futures, margin call, market design, market fundamentalism, merger arbitrage, Mexican peso crisis / tequila crisis, Mitch Kapor, money market fund, moral hazard, mortgage debt, Myron Scholes, National best bid and offer, negative equity, Northern Rock, Occupy movement, oil shock, price stability, proprietary trading, quantitative easing, quantitative hedge fund, quantitative trading / quantitative finance, Ralph Waldo Emerson, regulatory arbitrage, Renaissance Technologies, risk free rate, risk tolerance, risk-adjusted returns, Robert Shiller, Ronald Reagan, Sam Peltzman, Savings and loan crisis, Sharpe ratio, short selling, sovereign wealth fund, speech recognition, statistical arbitrage, statistical model, survivorship bias, systematic trading, tail risk, The Great Moderation, too big to fail, transaction costs, value at risk, yield curve, zero-coupon bond

The Long-Dated Swap Imbalance Lehman was in the intermediary business.4 To illustrate the damage that Lehman’s bankruptcy did to the financial system, assume that all of Lehman’s exposure was from market making, giving the firm only counterparty risks from its large OTC book. Then consider one part of Lehman’s book: 30-year interest-rate swaps (IRS). An interest-rate swap is an agreement between two parties to exchange a series of cash flows over a defined number of years. In a typical IRS, one party pays a fixed interest rate for the entire period and the other party pays a floating rate, which depends on prevailing interest rates at the time of payment.

See also Greed and housing bubble blame for circle of greed causing Federal Reserve and financial crisis of 2008 and overview of Huang, Chi-Fu HUD (Housing and Urban Development), affordable-housing goal of Hufschmid, Hans Hunsader, Eric Scott Hybrid ARM ICD (Investment Corporation of Dubai) IG (investment grade) index III Fund LP Illiquid securities Implied volatility Income distribution Index art Indices: ABX index average returns of CDX index CMBX index IG index IndyMac Insurance, basics of Interest-rate risk Interest rates Interest-rate swap (IRS) International Swaps and Derivatives Association Internet stock bubble of 2000 Investment banks. See also specific banks capital markets client services conflicts of interest corporate and risk management demise of equities exposure to residential real estate fixed income foreign exchange global distribution leverage of Main Street and mortgage market and overview of profits research stock prices structure technology Investment Corporation of Dubai (ICD) Investment grade (IG) index Investors, interconnected IRS (interest-rate swap) Isaacs, Jeremy M.

(A liquid security is one that can easily be bought and sold near its last traded price, such as a Treasury bond. An illiquid security is one that might be hard to buy or sell; its purchase price may move significantly from the last quoted price.) The Short U.S. Swap Trade LTCM traders made many swap trades during the firm’s lifetime. A plain vanilla interest-rate swap is a basic transaction in which one party agrees to pay a floating interest rate to another party over a specific time period, and the other party agrees to pay a fixed interest rate over the same specific time period. Of course, LTCM traders didn’t use the vanilla version. They made money on the swap spread: the difference between a swap interest yield that represents the cost of borrowing between banks, and the government bond yield, which is the government’s cost of borrowing.


pages: 291 words: 91,783

Griftopia: Bubble Machines, Vampire Squids, and the Long Con That Is Breaking America by Matt Taibbi

addicted to oil, affirmative action, Affordable Care Act / Obamacare, Alan Greenspan, Bear Stearns, Bernie Sanders, Bretton Woods, buy and hold, carried interest, classic study, clean water, collateralized debt obligation, collective bargaining, computerized trading, creative destruction, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, David Brooks, desegregation, diversification, diversified portfolio, Donald Trump, financial innovation, Glass-Steagall Act, Goldman Sachs: Vampire Squid, Gordon Gekko, greed is good, Greenspan put, illegal immigration, interest rate swap, laissez-faire capitalism, London Interbank Offered Rate, Long Term Capital Management, margin call, market bubble, medical malpractice, military-industrial complex, money market fund, moral hazard, mortgage debt, Nixon triggered the end of the Bretton Woods system, obamacare, passive investing, Ponzi scheme, prediction markets, proprietary trading, prudent man rule, quantitative easing, reserve currency, Ronald Reagan, Savings and loan crisis, Sergey Aleynikov, short selling, sovereign wealth fund, too big to fail, trickle-down economics, Y2K, Yom Kippur War

The financial services industry was faced with yet another potential catastrophe in early 2010 when some of the interest rate swaps Goldman had created for the nation of Greece blew up. The Greece scandal was a variation on a predatory scam that banks like Goldman and JPMorgan had been using to fleece municipalities in the United States for years; the swaps essentially allowed cities, counties, and countries to refinance their debt in a scheme that was very similar to the mortgage-refi schemes used by predatory lenders in the mid-2000s. The idea behind an interest rate swap, which is yet another type of unregulated derivative instrument, goes like this: a debtor who is paying variable-rate interest pays a bank like Goldman a fee in exchange for the security of fixed interest.

In this case the Nostradamus was McArdle, who a half year before Greece blew up was reaming me for being too general in my description of Goldman’s aggressive forays into the unregulated derivatives market. “At any rate,” she wrote, “none of these derivatives have much to do with CDOs or CDSs; you might as well conflate stocks and bonds because they’re both ‘securities.’ No one, as far as I know, is now proposing that we need to curtail the use of interest rate swaps [emphasis mine].” An earlier example of an interest rate swap disaster had been Jefferson County, Alabama, which in 2008 had been virtually bankrupted by a series of swap deals it entered into with JPMorgan, deals that forced the county to institute mass layoffs and unpaid leave and left its residents facing a generation of massively inflated sewer bills.

Common sense sounds great, but if you’re too lazy to penetrate the mysteries of carbon dioxide—if you haven’t mastered the whole concept of breathing by the time you’re old enough to serve in the U.S. Congress—you’re not going to get the credit default swap, the synthetic collateralized debt obligation, the interest rate swap. And understanding these instruments and how they were used (or misused) is the difference between perceiving how Wall Street made its money in the last decades as normal capitalist business and seeing the truth of what it often was instead, which was simple fraud and crime. It’s not an accident that Bachmann emerged in the summer of 2010 (right as she was forming the House Tea Party Caucus) as one of the fiercest opponents of financial regulatory reform; her primary complaint with the deeply flawed reform bill sponsored by Senator Chris Dodd and Congressman Barney Frank was that it would “end free checking accounts.”


pages: 399 words: 114,787

Dark Towers: Deutsche Bank, Donald Trump, and an Epic Trail of Destruction by David Enrich

"World Economic Forum" Davos, Affordable Care Act / Obamacare, Alan Greenspan, anti-globalists, Asian financial crisis, banking crisis, Bear Stearns, Berlin Wall, buy low sell high, collateralized debt obligation, commoditize, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, Donald Trump, East Village, estate planning, Fall of the Berlin Wall, financial innovation, forensic accounting, high net worth, housing crisis, interest rate derivative, interest rate swap, Jeffrey Epstein, junk bonds, London Interbank Offered Rate, low interest rates, Lyft, Mikhail Gorbachev, NetJets, obamacare, offshore financial centre, post-materialism, proprietary trading, Quicken Loans, Ralph Waldo Emerson, Renaissance Technologies, risk tolerance, Robert Mercer, rolodex, SoftBank, sovereign wealth fund, Steve Bannon, too big to fail, transcontinental railway, Vision Fund, yield curve

Bill and Edson expanded the menu. Bill started dreaming up new types of a popular derivative known as swaps that were designed to help institutions protect themselves from changes in things like interest rates. He combined different types of swaps into mutant instruments with names like callable interest rate swaps and yield curve swaps and swaptions. This was good news for clients and great news for Merrill. Each time Merrill sold a swap to a client, it pocketed a fee. What’s more, Broeksmit devised clever new ways for Merrill to protect itself by using derivatives when it bought assets from customers.

John Breit, a particle physicist hired to rein in some of the traders, many years later would credit Bill with having saved his job from an angry Edson on multiple occasions. By the early 1990s, Merrill’s board of directors was getting nervous about the bank’s expanding portfolio of derivatives. The imprudent use of derivatives had caused violent explosions inside some proud American companies, such as Procter & Gamble, which lost $157 million on a batch of interest-rate swaps it had purchased with borrowed money. (“Derivatives such as these are dangerous,” P&G’s chairman lamented.) Such blowups had damaged the reputations of the banks that had sold the soon-to-be-toxic instruments. Merrill’s board wanted to avoid their bank stumbling into a similar trap. One source of the bank’s anxiety was that by the early 1990s, swaps and other derivatives had changed dramatically—and, more important, were being used very differently.

It was thanks to Merrill that Robert Citron, the treasurer of Orange County in Southern California, ended up using taxpayers’ money to dabble in derivatives. The bank’s salesmen in California had spent years wooing this quirky man (Citron liked to wear turquoise jewelry and loud ties and he regularly consulted astrology charts) because they could tell he was a “pigeon”—an easy mark. Sure enough, Citron soon started gorging on the tasty new interest-rate swaps that Merrill was cooking up. Orange County placed an astronomical wager that interest rates in the United States and in Switzerland would move in different directions. Citron’s municipality even agreed to buy the derivatives with money it borrowed from Merrill, fattening the bank’s profits.


pages: 318 words: 99,524

Why Aren't They Shouting?: A Banker’s Tale of Change, Computers and Perpetual Crisis by Kevin Rodgers

Alan Greenspan, algorithmic trading, bank run, banking crisis, Basel III, Bear Stearns, Berlin Wall, Big bang: deregulation of the City of London, bitcoin, Black Monday: stock market crash in 1987, Black-Scholes formula, buy and hold, buy low sell high, call centre, capital asset pricing model, collapse of Lehman Brothers, Credit Default Swap, currency peg, currency risk, diversification, Fall of the Berlin Wall, financial innovation, Financial Instability Hypothesis, fixed income, Flash crash, Francis Fukuyama: the end of history, Glass-Steagall Act, Hyman Minsky, implied volatility, index fund, interest rate derivative, interest rate swap, invisible hand, John Meriwether, latency arbitrage, law of one price, light touch regulation, London Interbank Offered Rate, Long Term Capital Management, Minsky moment, money market fund, Myron Scholes, Northern Rock, Panopticon Jeremy Bentham, Ponzi scheme, prisoner's dilemma, proprietary trading, quantitative easing, race to the bottom, risk tolerance, risk-adjusted returns, Silicon Valley, systems thinking, technology bubble, The Myth of the Rational Market, The Wisdom of Crowds, Tobin tax, too big to fail, value at risk, vertical integration, Y2K, zero-coupon bond, zero-sum game

But primarily, the risk comes from the fact you might not pay back the loan. This is ‘credit risk’. Away from the aeons-old business of lending money at interest, many large banks run various trading businesses, most of which use the principal model. Merrill Lynch was no exception. Merrill’s bankers traded bonds; they traded interest rate swaps; they traded loans; they traded short-dated deposits. Loic would take me around the cavernous trading floor during quieter moments and point out where all these businesses were located, their staff hunched over tightly packed rows of desks. These tours were useful, but the most vital part of the education I got from Loic in those first few weeks was about how our department, FX, functioned.

In essence, because the share forward can be ‘manufactured’ using other components (the ‘share now’ combined with borrowing or lending) – its price must be the same as the sum of the components. ‘Pricing derivatives: just find the way they can be made from other things,’ I scribbled down hurriedly as the lecture ended. It was a useful lesson and under our professor’s steely gaze we learned to apply it to a large number of different markets: currency forwards, interest rate swaps, commodity futures and so on. But all the derivatives in these examples have one thing in common – they have a linear payout, which is to say the profit or loss from holding them is a straight line depending on the price of the underlying asset. In our simple share example, if the correct price of £110 was shown to a customer who agreed to buy the share for delivery in one year’s time, then, if the current price of the share went up 5 per cent, so too would the value of the customer’s deal since the share forward would now not be worth £110 but £115.50 – this is simply the new, correct forward price with a current share price of £105 and 10 per cent interest rates for a year.

Computer power then started to play a part. First, via the familiar route of allowing the product to be priced and risk-managed. At its simplest, pricing a CDS is an easy matter which relies on the same kind of arbitrage logic as my finance professor’s ‘share forward’ example because you can replicate a CDS with a bond, an interest rate swap and a loan.fn1 But any departure from this simplest case – a CDS which doesn’t match the bond maturity, for example, or one which is linked to multiple bonds because it references a borrower, not a bond – requires analytic firepower to be brought to bear. The use of DBAnalytics in Deutsche Bank and its equivalent in other rival firms directly led to the expansion of the market.


pages: 741 words: 179,454

Extreme Money: Masters of the Universe and the Cult of Risk by Satyajit Das

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", "there is no alternative" (TINA), "World Economic Forum" Davos, affirmative action, Alan Greenspan, Albert Einstein, algorithmic trading, Andy Kessler, AOL-Time Warner, Asian financial crisis, asset allocation, asset-backed security, bank run, banking crisis, banks create money, Basel III, Bear Stearns, behavioural economics, Benoit Mandelbrot, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Black Swan, Bonfire of the Vanities, bonus culture, book value, Bretton Woods, BRICs, British Empire, business cycle, buy the rumour, sell the news, capital asset pricing model, carbon credits, Carl Icahn, Carmen Reinhart, carried interest, Celtic Tiger, clean water, cognitive dissonance, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, corporate raider, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, Daniel Kahneman / Amos Tversky, deal flow, debt deflation, Deng Xiaoping, deskilling, discrete time, diversification, diversified portfolio, Doomsday Clock, Dr. Strangelove, Dutch auction, Edward Thorp, Emanuel Derman, en.wikipedia.org, Eugene Fama: efficient market hypothesis, eurozone crisis, Everybody Ought to Be Rich, Fall of the Berlin Wall, financial engineering, financial independence, financial innovation, financial thriller, fixed income, foreign exchange controls, full employment, Glass-Steagall Act, global reserve currency, Goldman Sachs: Vampire Squid, Goodhart's law, Gordon Gekko, greed is good, Greenspan put, happiness index / gross national happiness, haute cuisine, Herman Kahn, high net worth, Hyman Minsky, index fund, information asymmetry, interest rate swap, invention of the wheel, invisible hand, Isaac Newton, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", job automation, Johann Wolfgang von Goethe, John Bogle, John Meriwether, joint-stock company, Jones Act, Joseph Schumpeter, junk bonds, Kenneth Arrow, Kenneth Rogoff, Kevin Kelly, laissez-faire capitalism, load shedding, locking in a profit, Long Term Capital Management, Louis Bachelier, low interest rates, margin call, market bubble, market fundamentalism, Market Wizards by Jack D. Schwager, Marshall McLuhan, Martin Wolf, mega-rich, merger arbitrage, Michael Milken, Mikhail Gorbachev, Milgram experiment, military-industrial complex, Minsky moment, money market fund, Mont Pelerin Society, moral hazard, mortgage debt, mortgage tax deduction, mutually assured destruction, Myron Scholes, Naomi Klein, National Debt Clock, negative equity, NetJets, Network effects, new economy, Nick Leeson, Nixon shock, Northern Rock, nuclear winter, oil shock, Own Your Own Home, Paul Samuelson, pets.com, Philip Mirowski, Phillips curve, planned obsolescence, plutocrats, Ponzi scheme, price anchoring, price stability, profit maximization, proprietary trading, public intellectual, quantitative easing, quantitative trading / quantitative finance, Ralph Nader, RAND corporation, random walk, Ray Kurzweil, regulatory arbitrage, Reminiscences of a Stock Operator, rent control, rent-seeking, reserve currency, Richard Feynman, Richard Thaler, Right to Buy, risk free rate, risk-adjusted returns, risk/return, road to serfdom, Robert Shiller, Rod Stewart played at Stephen Schwarzman birthday party, rolodex, Ronald Reagan, Ronald Reagan: Tear down this wall, Satyajit Das, savings glut, shareholder value, Sharpe ratio, short selling, short squeeze, Silicon Valley, six sigma, Slavoj Žižek, South Sea Bubble, special economic zone, statistical model, Stephen Hawking, Steve Jobs, stock buybacks, survivorship bias, tail risk, Teledyne, The Chicago School, The Great Moderation, the market place, the medium is the message, The Myth of the Rational Market, The Nature of the Firm, the new new thing, The Predators' Ball, The Theory of the Leisure Class by Thorstein Veblen, The Wealth of Nations by Adam Smith, Thorstein Veblen, too big to fail, trickle-down economics, Turing test, two and twenty, Upton Sinclair, value at risk, Yogi Berra, zero-coupon bond, zero-sum game

To limit losses, Harvard borrowed money to terminate the swaps, paying $498 million to banks during 2009 to cancel $1.1 billion of interest rate swaps. It agreed to pay $425 million over 30–40 years to offset an additional $764 million in swaps. Harvard implemented austerity measures—freezing salaries, reducing staff, and cutting capital spending, including the planned expansion. Harvard’s swaps had created a liquidity crisis of their own, which no one, least of all Summers, had imagined. Along with Robert Rubin and Alan Greenspan, Summers was instrumental in defeating the U.S. Commodity Futures Trading Commission’s attempt in 1998 to regulate over-the-counter derivatives, including interest rate swaps. In 2009 Summers, now director of President Obama’s National Economic Council, sought to regulate the derivatives market “to protect the American people.”

Indiana Finance Authority’s consultant came up with 50 percent lower traffic forecasts, valuing the toll road at half the $3.8 billion purchase price. A third consultant concluded that Maunsell’s forecasts exceeded the highway capacity after 2020. Macquarie used derivatives, known as accreting interest rate swaps, to lower early payments by increasing later payments. Complex securities, such as TICKETs (tradeable interest bearing convertible to equity trust securities), with low early interest rates that increased over time, were used. The arrangements were identical to those used in subprime mortgages.

As part of a settlement, the County agreed to build a sewer system collecting overflows and cleaning the water. The original $3.2 billion cost ultimately doubled. Between 1997 and 2002, Jefferson County issued $2.9 billion in sewer bonds. In 2002, bankers advised refinancing the debt using adjustable rate bonds and interest rate swaps, saving millions of dollars in interest cost. In an adjustable rate bond, the interest rate is reset periodically by reference to market rates. Between 2002 and 2004, Jefferson County issued more than $3 billion of adjustable rate bonds, predominantly auction rate securities (ARSs), bonds with a long maturity where the rate is regularly reset through a Dutch auction6 typically held every 7, 28, or 35 days.


pages: 280 words: 79,029

Smart Money: How High-Stakes Financial Innovation Is Reshaping Our WorldÑFor the Better by Andrew Palmer

Affordable Care Act / Obamacare, Alan Greenspan, algorithmic trading, Andrei Shleifer, asset-backed security, availability heuristic, bank run, banking crisis, behavioural economics, Black Monday: stock market crash in 1987, Black-Scholes formula, bonus culture, break the buck, Bretton Woods, call centre, Carmen Reinhart, cloud computing, collapse of Lehman Brothers, collateralized debt obligation, computerized trading, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Daniel Kahneman / Amos Tversky, David Graeber, diversification, diversified portfolio, Edmond Halley, Edward Glaeser, endogenous growth, Eugene Fama: efficient market hypothesis, eurozone crisis, family office, financial deregulation, financial engineering, financial innovation, fixed income, Flash crash, Google Glasses, Gordon Gekko, high net worth, housing crisis, Hyman Minsky, impact investing, implied volatility, income inequality, index fund, information asymmetry, Innovator's Dilemma, interest rate swap, Kenneth Rogoff, Kickstarter, late fees, London Interbank Offered Rate, Long Term Capital Management, longitudinal study, loss aversion, low interest rates, margin call, Mark Zuckerberg, McMansion, Minsky moment, money market fund, mortgage debt, mortgage tax deduction, Myron Scholes, negative equity, Network effects, Northern Rock, obamacare, payday loans, peer-to-peer lending, Peter Thiel, principal–agent problem, profit maximization, quantitative trading / quantitative finance, railway mania, randomized controlled trial, Richard Feynman, Richard Thaler, risk tolerance, risk-adjusted returns, Robert Shiller, Savings and loan crisis, short selling, Silicon Valley, Silicon Valley startup, Skype, South Sea Bubble, sovereign wealth fund, statistical model, subprime mortgage crisis, tail risk, Thales of Miletus, the long tail, transaction costs, Tunguska event, unbanked and underbanked, underbanked, Vanguard fund, web application

Because the value of a bond rises and falls in an inverse relationship to the trajectory of interest rates, investors who have bought a bond can protect themselves from an interest-rate rise by selling a future: as they lose money on one, they gain on the other. The first futures were for a type of mortgage-­backed security; they paved the way for much more actively traded contracts in Treasury-bond futures. Other types of derivatives followed. The first interest-rate swap, in which a borrower paying a floating-rate loan agrees to swap payments with a borrower who has taken out a fixed-rate loan, was agreed to in 1981. Equity-derivatives contracts based on the S&P 500 index were introduced in 1982. Credit-default swaps, which act as a kind of insurance policy against default by a corporate borrower, were invented in the 1990s.

The role of the US government in promoting the securitization markets is well known. Ginnie Mae, a government-owned corporation, was the first to sell securities backed by a portfolio of mortgage loans in 1970; the first collateralized mortgage obligation was issued by Fannie Mae in 1983. The first currency and interest-rate swap was written in London between the World Bank and IBM, in an agreement that saw the World Bank exchange its surplus dollars for the computing firm’s stock of unwanted Swiss francs and deutsche marks. The first credit-default swap transaction, in 1994, saw the European Bank for Reconstruction and Development, a multilateral organization ostensibly dedicated to funding the transition economies of Eastern Europe, insure JP Morgan against the risk of Exxon defaulting.12 Political goals are also important in driving financial markets forward.

They are then sliced into different tranches: the most senior tranches of CDOs of mortgage-backed securities were given high ratings during the most recent US housing boom because the performance of all the different mortgages in the pool was thought to be diversified. Counterparty risk: The risk that the other party to a contract will not live up to its obligations. The counterparty risk in an interest-rate swap is that one of the parties to the swap will not pay up. Credit-default swap: A credit-default swap is a form of insurance against default by a bond issuer. Credit ratings: An evaluation by a credit-rating agency of the creditworthiness of a debtor. Ratings are widely used by investors and are embedded in international rules, including those on how much equity banks have to use to fund themselves.


Principles of Corporate Finance by Richard A. Brealey, Stewart C. Myers, Franklin Allen

3Com Palm IPO, accelerated depreciation, accounting loophole / creative accounting, Airbus A320, Alan Greenspan, AOL-Time Warner, Asian financial crisis, asset allocation, asset-backed security, banking crisis, Bear Stearns, Bernie Madoff, big-box store, Black Monday: stock market crash in 1987, Black-Scholes formula, Boeing 747, book value, break the buck, Brownian motion, business cycle, buy and hold, buy low sell high, California energy crisis, capital asset pricing model, capital controls, Carl Icahn, Carmen Reinhart, carried interest, collateralized debt obligation, compound rate of return, computerized trading, conceptual framework, corporate governance, correlation coefficient, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, cross-border payments, cross-subsidies, currency risk, discounted cash flows, disintermediation, diversified portfolio, Dutch auction, equity premium, equity risk premium, eurozone crisis, fear index, financial engineering, financial innovation, financial intermediation, fixed income, frictionless, fudge factor, German hyperinflation, implied volatility, index fund, information asymmetry, intangible asset, interest rate swap, inventory management, Iridium satellite, James Webb Space Telescope, junk bonds, Kenneth Rogoff, Larry Ellison, law of one price, linear programming, Livingstone, I presume, London Interbank Offered Rate, Long Term Capital Management, loss aversion, Louis Bachelier, low interest rates, market bubble, market friction, money market fund, moral hazard, Myron Scholes, new economy, Nick Leeson, Northern Rock, offshore financial centre, PalmPilot, Ponzi scheme, prediction markets, price discrimination, principal–agent problem, profit maximization, purchasing power parity, QR code, quantitative trading / quantitative finance, random walk, Real Time Gross Settlement, risk free rate, risk tolerance, risk/return, Robert Shiller, Scaled Composites, shareholder value, Sharpe ratio, short selling, short squeeze, Silicon Valley, Skype, SpaceShipOne, Steve Jobs, subprime mortgage crisis, sunk-cost fallacy, systematic bias, Tax Reform Act of 1986, The Nature of the Firm, the payments system, the rule of 72, time value of money, too big to fail, transaction costs, University of East Anglia, urban renewal, VA Linux, value at risk, Vanguard fund, vertical integration, yield curve, zero-coupon bond, zero-sum game, Zipcar

Swaps allow them to change their risk in these ways. The market for swaps is huge. In 2011 the total notional amount of interest rate and currency swaps outstanding was over $460 trillion. By far the major part of this figure consisted of interest rate swaps.21 We therefore show first how interest rate swaps work, and then describe a currency swap. We conclude with a brief look at total return swaps. Interest Rate Swaps Friendly Bancorp has made a five-year, $50 million loan to fund part of the construction cost of a large cogeneration project. The loan carries a fixed interest rate of 8%. Annual interest payments are therefore $4 million.

Convenience yield After a record harvest, grain silos are full to the brim. Are storage costs likely to be high or low? What does this imply for the net convenience yield? 9. Interest rate swaps A year ago a bank entered into a $50 million five-year interest rate swap. It agreed to pay company A each year a fixed rate of 6% and to receive in return LIBOR. When the bank entered into this swap, LIBOR was 5%, but now interest rates have risen, so on a four-year interest rate swap the bank could expect to pay 6½% and receive LIBOR. a. Is the swap showing a profit or loss to the bank? b. Suppose that at this point company A approaches the bank and asks to terminate the swap.

Let’s see what happens. TABLE 26.3 The top panel shows the cash flows in millions of dollars to a homemade fixed-to-floating interest rate swap. The bottom panel shows the cash flows to a standard swap transaction. Friendly Bancorp calls a swap dealer, which is typically a large commercial or investment bank, and agrees to swap the payments on a $66.67 million fixed-rate loan for the payments on an equivalent floating-rate loan. The swap is known as a fixed-to-floating interest rate swap and the $66.67 million is termed the notional principal amount of the swap. Friendly Bancorp and the dealer are the counterparties to the swap.


pages: 369 words: 94,588

The Enigma of Capital: And the Crises of Capitalism by David Harvey

accounting loophole / creative accounting, Alan Greenspan, anti-communist, Asian financial crisis, bank run, banking crisis, Bernie Madoff, Big bang: deregulation of the City of London, Bretton Woods, British Empire, business climate, call centre, capital controls, cotton gin, creative destruction, credit crunch, Credit Default Swap, David Ricardo: comparative advantage, deindustrialization, Deng Xiaoping, deskilling, equal pay for equal work, European colonialism, failed state, financial innovation, Frank Gehry, full employment, gentrification, Glass-Steagall Act, global reserve currency, Google Earth, Great Leap Forward, Guggenheim Bilbao, Gunnar Myrdal, guns versus butter model, Herbert Marcuse, illegal immigration, indoor plumbing, interest rate swap, invention of the steam engine, Jane Jacobs, joint-stock company, Joseph Schumpeter, Just-in-time delivery, land reform, liquidity trap, Long Term Capital Management, market bubble, means of production, megacity, microcredit, military-industrial complex, Money creation, moral hazard, mortgage debt, Myron Scholes, new economy, New Urbanism, Northern Rock, oil shale / tar sands, peak oil, Pearl River Delta, place-making, Ponzi scheme, precariat, reserve currency, Ronald Reagan, Savings and loan crisis, sharing economy, Shenzhen special economic zone , Silicon Valley, special drawing rights, special economic zone, statistical arbitrage, structural adjustment programs, subprime mortgage crisis, technological determinism, the built environment, the market place, The Theory of the Leisure Class by Thorstein Veblen, The Wealth of Nations by Adam Smith, Thomas L Friedman, Thomas Malthus, Thorstein Veblen, Timothy McVeigh, too big to fail, trickle-down economics, urban renewal, urban sprawl, vertical integration, white flight, women in the workforce

Then, towards the end of the 1980s, to offset the volatility, the practice of hedging (placing two-way bets on currency futures) became more common. An ‘over the counter’ market arose outside of the regulatory framework and the rules of the exchanges. This was the kind of private initiative that led to an avalanche of new financial products in the 1990s – credit default swaps, currency derivatives, interest rate swaps, and all the rest of it – which constituted a totally unregulated shadow banking system in which many corporations became intense players. If this shadow system could operate in New York, then why not also in London, Frankfurt, Zurich and Singapore? And why confine the activity to banks? Enron was supposed to be about making and distributing energy but it increasingly merely traded in energy futures and when it went bankrupt in 2002 it was shown to be nothing but a derivatives trading company that had been caught out in high-risk markets.

., followed by recession, unemployment and collapses in foreign trade met by various Keynesian-style stimulus packages and liquidity injections by central banks Appendix 2: Financial Innovations and the Rise of Derivative Markets in the US, 1973–2009 1970 Mortgage-backed securities introduced 1972 Chicago Currency Futures Market opens 1973 Chicago Board Options Exchange; trading in equity futures begins 1975 Trading in Treasury Bill and mortgage-backed bonds futures 1977 Trading in Treasury bond futures 1979 Over-the-counter and unregulated trading, particularly in currency futures, becomes commonplace. The ‘shadow banking system’ emerges 1980 Currency swaps 1981 Portfolio insurance introduced; interest rate swaps; futures markets in Eurodollars, in Certificates of Deposit and in Treasury instruments 1983 Options markets on currency, equity values and Treasury instruments; collateralised mortgage obligation introduced 1985 Deepening and widening of options and futures markets; computerised trading and modelling of markets begins in earnest; statistical arbitrage strategies introduced 1986 Big Bang unification of global stock, options and currency trading markets 1987–8 Collateralised Debt Obligations (CDOs) introduced along with Collateralised Bond Obligations (CBOs) and Collateralised Mortgage Obligations (CMOs) 1989 Futures on interest rate swaps 1990 Credit default swaps introduced along with equity index swaps 1991 ‘Off balance sheet’ vehicles known as special purpose entities or special investment vehicles sanctioned 1992–2009 Rapid evolution in volume of trading across all of these instruments.

The ‘shadow banking system’ emerges 1980 Currency swaps 1981 Portfolio insurance introduced; interest rate swaps; futures markets in Eurodollars, in Certificates of Deposit and in Treasury instruments 1983 Options markets on currency, equity values and Treasury instruments; collateralised mortgage obligation introduced 1985 Deepening and widening of options and futures markets; computerised trading and modelling of markets begins in earnest; statistical arbitrage strategies introduced 1986 Big Bang unification of global stock, options and currency trading markets 1987–8 Collateralised Debt Obligations (CDOs) introduced along with Collateralised Bond Obligations (CBOs) and Collateralised Mortgage Obligations (CMOs) 1989 Futures on interest rate swaps 1990 Credit default swaps introduced along with equity index swaps 1991 ‘Off balance sheet’ vehicles known as special purpose entities or special investment vehicles sanctioned 1992–2009 Rapid evolution in volume of trading across all of these instruments. Volume of trading, insignificant in 1990, rose to more then $600 trillion annually by 2008 Sources and Further reading I relied on news reports for much of the detailed information I cite throughout the text.


Layered Money: From Gold and Dollars to Bitcoin and Central Bank Digital Currencies by Nik Bhatia

Alan Greenspan, bank run, basic income, Bear Stearns, bitcoin, blockchain, Bretton Woods, British Empire, central bank independence, Cornelius Vanderbilt, Credit Default Swap, cryptocurrency, distributed ledger, fiat currency, fixed income, Fractional reserve banking, interest rate derivative, interest rate swap, Isaac Newton, joint-stock company, Kickstarter, Long Term Capital Management, margin call, Money creation, money market fund, money: store of value / unit of account / medium of exchange, moral hazard, offshore financial centre, quantitative easing, reserve currency, risk free rate, Satoshi Nakamoto, slashdot, smart contracts, time value of money, tulip mania, universal basic income

He confessed that the system might have collapsed had it not been for a measly $3.6 billion bailout. Why? The answer lies in derivatives. Derivatives are financial contracts not considered securities. (Securities describe stocks and bonds for example, and derivatives describe stock options, futures contracts, and interest rate swaps.) Derivatives blossomed in the 1990s as a way to synthetically expose a portfolio to an array of outcomes, most commonly the fluctuation of interest rates. They were bank liabilities in a new form, one that was difficult for financial regulators or even the banking system as a whole to fully comprehend.

An enormous margin call from the investment bank and major LTCM counterparty Bear Stearns in September 1998 triggered a collective realization that derivatives held by the hedge fund had the power to bring down the entire house of flimsy interbank risk. At the time of the LTCM bailout, the total market value of all the world’s derivatives including interest rate swaps, credit default swaps, and foreign exchange currency swaps was $3 trillion. To compare, the total supply of U.S. Treasuries was also about $3 trillion. By 2007, the total supply of U.S. Treasuries increased to $4 trillion but the market value of derivatives outstanding increased to $11 trillion.


pages: 345 words: 86,394

Frequently Asked Questions in Quantitative Finance by Paul Wilmott

Abraham Wald, Albert Einstein, asset allocation, beat the dealer, Black-Scholes formula, Brownian motion, butterfly effect, buy and hold, capital asset pricing model, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, delta neutral, discrete time, diversified portfolio, Edward Thorp, Emanuel Derman, Eugene Fama: efficient market hypothesis, financial engineering, fixed income, fudge factor, implied volatility, incomplete markets, interest rate derivative, interest rate swap, iterative process, lateral thinking, London Interbank Offered Rate, Long Term Capital Management, Louis Bachelier, mandelbrot fractal, margin call, market bubble, martingale, Myron Scholes, Norbert Wiener, Paul Samuelson, power law, quantitative trading / quantitative finance, random walk, regulatory arbitrage, risk free rate, risk/return, Sharpe ratio, statistical arbitrage, statistical model, stochastic process, stochastic volatility, transaction costs, urban planning, value at risk, volatility arbitrage, volatility smile, Wiener process, yield curve, zero-coupon bond

The mark-to-market value of the CDS depends on changes in credit spreads. Therefore they can be used to get exposure to or hedge against changes in credit spreads. To price these contracts one needs a model for risk of default. However, commonly, one backs out an implied risk of default from the prices of traded CDSs. Diff(erential) swap is an interest rate swap of floating for fixed or floating, where one of the floating legs is a foreign interest rate. The exchange of payments are defined in terms of a domestic notional. Thus there is a quanto aspect to this instrument. One must model interest rates and the exchange rate, and as with quantos generally, the correlation is important.

On later payment dates this principal can then be amortized again, starting from its current level at the previous payment date and not based on its original level. This makes this contract very path dependent. The contract can be priced in either a partial differential equation framework based on a one- or two-factor spot-rate based model, or using Monte Carlo simulations and a Libor market-type model. Interest rate swap is a contract between two parties to exchange interest on a specified principal. The exchange may be fixed for floating or floating of one tenor for floating of another tenor. Fixed for floating is a particularly common form of swap. These instruments are used to convert a fixed-rate loan to floating, or vice versa.

Inverse floater is a floating-rate interest-rate contract where coupons go down as interest rates go up. The relationship is linear (up to any cap or floor) and not an inverse one. Knock-in/out option are types of barrier option for which the payoff is contingent on a barrier level being hit/missed before expiration. LIBOR-in-arrears swap is an interest rate swap but one for which the floating leg is paid at the same time as it is set, rather than at the tenor later. This small difference means that there is no exact relationship between the swap and bond prices and so a dynamic model is needed. This amounts to pricing the subtle convexity in this product.


pages: 261 words: 86,905

How to Speak Money: What the Money People Say--And What It Really Means by John Lanchester

"Friedman doctrine" OR "shareholder theory", "World Economic Forum" Davos, asset allocation, Basel III, behavioural economics, Bernie Madoff, Big bang: deregulation of the City of London, bitcoin, Black Swan, blood diamond, Bretton Woods, BRICs, business cycle, Capital in the Twenty-First Century by Thomas Piketty, Celtic Tiger, central bank independence, collapse of Lehman Brothers, collective bargaining, commoditize, creative destruction, credit crunch, Credit Default Swap, crony capitalism, Dava Sobel, David Graeber, disintermediation, double entry bookkeeping, en.wikipedia.org, estate planning, fear index, financial engineering, financial innovation, Flash crash, forward guidance, Garrett Hardin, Gini coefficient, Glass-Steagall Act, global reserve currency, high net worth, High speed trading, hindsight bias, hype cycle, income inequality, inflation targeting, interest rate swap, inverted yield curve, Isaac Newton, Jaron Lanier, John Perry Barlow, joint-stock company, joint-stock limited liability company, junk bonds, Kodak vs Instagram, Kondratiev cycle, Large Hadron Collider, liquidity trap, London Interbank Offered Rate, London Whale, loss aversion, low interest rates, margin call, McJob, means of production, microcredit, money: store of value / unit of account / medium of exchange, moral hazard, Myron Scholes, negative equity, neoliberal agenda, New Urbanism, Nick Leeson, Nikolai Kondratiev, Nixon shock, Nixon triggered the end of the Bretton Woods system, Northern Rock, offshore financial centre, oil shock, open economy, paradox of thrift, plutocrats, Ponzi scheme, precautionary principle, proprietary trading, purchasing power parity, pushing on a string, quantitative easing, random walk, rent-seeking, reserve currency, Richard Feynman, Right to Buy, road to serfdom, Ronald Reagan, Satoshi Nakamoto, security theater, shareholder value, Silicon Valley, six sigma, Social Responsibility of Business Is to Increase Its Profits, South Sea Bubble, sovereign wealth fund, Steve Jobs, survivorship bias, The Chicago School, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, Tragedy of the Commons, trickle-down economics, two and twenty, Two Sigma, Tyler Cowen, Washington Consensus, wealth creators, working poor, yield curve

Third, and finally, one of the most brilliant things the financial services industry ever did was to take the word “debt,” which people were brought up to consider a bad thing that you want to avoid, and to rename it as “credit,” which sounds like a good thing that you want more of. This is a major example of reversification at work. credit default swap (CDS) A financial instrument arising from interest rate swaps. The simplest way of looking at a CDS is as a form of insurance. If you are receiving interest from someone to whom you’ve lent money, you may start to wonder what happens if she starts to have trouble paying you. If you get worried, you might want to insure the interest you’re getting, so that in the event of a default by your borrower, you still get your money.

Also, 11. inflation will fall—remember, inflation means that money is worth less, whereas a rise in interest rates means that money is more expensive. There’s more, too, but these eleven things provide a starting point for all the things that are completely taken for granted by people who speak money when they hear “interest rates.” interest rate swaps Financial techniques in which two parties do what it says on the tin: they swap interest rates. The most common example is when A has a floating interest rate and B has a fixed rate, and they both, for their differing reasons, would prefer to be on the other kind of deal. So they enter into a contract where A pays B’s interest rate, and B pays A’s.

Unfortunately some of these swaps were mis-sold by banks, with the effect of severely damaging small businesses that didn’t know what they were getting into and thought they were reducing their risks. Instead they were locking themselves into unfavorable deals that were ruinously expensive to undo. The UK interest rate swap scandal has attracted less attention and opprobrium than the PPI scandal, perhaps because the victims tended to be small businesses rather than individuals, but in its essential detail—banks knowingly selling customers an unsuitable product—it was the same. inventory The amount of stuff a business has in stock.


pages: 515 words: 132,295

Makers and Takers: The Rise of Finance and the Fall of American Business by Rana Foroohar

"Friedman doctrine" OR "shareholder theory", "World Economic Forum" Davos, accounting loophole / creative accounting, activist fund / activist shareholder / activist investor, additive manufacturing, Airbnb, Alan Greenspan, algorithmic trading, Alvin Roth, Asian financial crisis, asset allocation, bank run, Basel III, Bear Stearns, behavioural economics, Big Tech, bonus culture, Bretton Woods, British Empire, business cycle, buy and hold, call centre, Capital in the Twenty-First Century by Thomas Piketty, Carl Icahn, Carmen Reinhart, carried interest, centralized clearinghouse, clean water, collateralized debt obligation, commoditize, computerized trading, corporate governance, corporate raider, corporate social responsibility, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, crowdsourcing, data science, David Graeber, deskilling, Detroit bankruptcy, diversification, Double Irish / Dutch Sandwich, electricity market, Emanuel Derman, Eugene Fama: efficient market hypothesis, financial deregulation, financial engineering, financial intermediation, Ford Model T, Frederick Winslow Taylor, George Akerlof, gig economy, Glass-Steagall Act, Goldman Sachs: Vampire Squid, Gordon Gekko, greed is good, Greenspan put, guns versus butter model, High speed trading, Home mortgage interest deduction, housing crisis, Howard Rheingold, Hyman Minsky, income inequality, index fund, information asymmetry, interest rate derivative, interest rate swap, Internet of things, invisible hand, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", John Bogle, John Markoff, joint-stock company, joint-stock limited liability company, Kenneth Rogoff, Kickstarter, knowledge economy, labor-force participation, London Whale, Long Term Capital Management, low interest rates, manufacturing employment, market design, Martin Wolf, money market fund, moral hazard, mortgage debt, mortgage tax deduction, new economy, non-tariff barriers, offshore financial centre, oil shock, passive investing, Paul Samuelson, pensions crisis, Ponzi scheme, principal–agent problem, proprietary trading, quantitative easing, quantitative trading / quantitative finance, race to the bottom, Ralph Nader, Rana Plaza, RAND corporation, random walk, rent control, Robert Shiller, Ronald Reagan, Satyajit Das, Savings and loan crisis, scientific management, Second Machine Age, shareholder value, sharing economy, Silicon Valley, Silicon Valley startup, Snapchat, Social Responsibility of Business Is to Increase Its Profits, sovereign wealth fund, Steve Jobs, stock buybacks, subprime mortgage crisis, technology bubble, TED Talk, The Chicago School, the new new thing, The Spirit Level, The Wealth of Nations by Adam Smith, Tim Cook: Apple, Tobin tax, too big to fail, Tragedy of the Commons, trickle-down economics, Tyler Cowen: Great Stagnation, Vanguard fund, vertical integration, zero-sum game

But by the 1990s, and much more so after 2000, derivatives began to explode and expand in a way that made it clear that at least some of what was being traded had nothing to do with protecting people or companies in the real economy, but was more about speculation—one could call it gambling—with an increasingly complex array of financial instruments, on things like interest rate swaps, credit default swaps, and even bets on what the weather would be like from day to day. Derivatives are best known to most people as the “financial weapons of mass destruction” that Warren Buffett has warned us about, the complex securities that blew up our financial system in 2008. These financial instruments—be they interest rate swaps, foreign exchange bets, or grain futures—have very real, very tangible impacts. Yet to the banks, hedge funds, and the other institutions that trade them, they are simply another part of the economy that can be arbitraged for profit.

Gensler remembers going out to LTCM’s headquarters in Greenwich, Connecticut, on a Sunday to investigate. “It quickly became clear to me that we had no idea what the ramifications would be in our financial system, and where, because these trades were booked in the Cayman Islands,” he says. “It was a terrible feeling.”24 Derivatives—be they interest rate swaps, foreign exchange bets, or energy futures—have real-world impacts, as we’ve already seen. Yet to the banks, hedge funds, and the other institutions that trade them, they are simply another moneymaking vehicle, something to be bought and sold. What’s more, most of us play a part in the cycle that drives up commodity prices and disproportionately enriches the financial sector, via our retirement savings.

That Wall Street debt was “the biggest contributing factor to the increase in Detroit’s legacy expenses,” explains Turbeville, who wrote an influential report in 2013 outlining the role that finance had played in Detroit’s demise.35 The long and short of it was that the people negotiating the debt settlement on behalf of the city were completely outsmarted and outflanked by financiers, who cut deals for millions of dollars of extremely long-term interest rate swaps that were subject to immediate termination if the city’s credit deteriorated, which of course it quickly did. The termination of the contracts required immediate payment of all projected profits that would be earned by the banks had the contract not been terminated. That meant that Detroit was suddenly on the hook for a huge lump-sum payment that made its cash flow position completely untenable.


Commodity Trading Advisors: Risk, Performance Analysis, and Selection by Greg N. Gregoriou, Vassilios Karavas, François-Serge Lhabitant, Fabrice Douglas Rouah

Asian financial crisis, asset allocation, backtesting, buy and hold, capital asset pricing model, collateralized debt obligation, commodity trading advisor, compound rate of return, constrained optimization, corporate governance, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, discrete time, distributed generation, diversification, diversified portfolio, dividend-yielding stocks, financial engineering, fixed income, global macro, high net worth, implied volatility, index arbitrage, index fund, interest rate swap, iterative process, linear programming, London Interbank Offered Rate, Long Term Capital Management, managed futures, market fundamentalism, merger arbitrage, Mexican peso crisis / tequila crisis, p-value, Pareto efficiency, Performance of Mutual Funds in the Period, Ponzi scheme, proprietary trading, quantitative trading / quantitative finance, random walk, risk free rate, risk-adjusted returns, risk/return, selection bias, Sharpe ratio, short selling, stochastic process, survivorship bias, systematic trading, tail risk, technology bubble, transaction costs, value at risk, zero-sum game

Among the large set of potential candidates, we have selected: the return on the Goldman Sachs Commodity Index (GSCI), previously used by Capocci and Hübner (2004); the return on Moody’s Commodity Index (MCOM); the U.S. Moody’s Baa Corporate Bond Yield to proxy for the default risk premium (DEF) as well as the monthly change on this yield (∆DEF); the U.S. 10-year/6-month Interest Rate Swap Rate to proxy for the maturity risk premium (MAT) as well as its monthly change (∆MAT); and finally the monthly change in the U.S. dollar/Swiss franc exchange rate to proxy for the currency risk premium (FX). These data series were extracted from the JCFQuant database. The Performance of CTAs in Changing Market Conditions 119 Finally, we use the option strategy factor proposed by Agarwal and Naik (2002) and Liang (2003) to capture the optionality component of CTA returns.

The values are significant at the 5 percent level. 0.154 0.163 0.194 0.173 CTA Index Systematic Fin/Metal Diversified R2adj 0.335 0.371 0.333 0.358 (continued) CTA Index Systematic Fin/Metal Diversified TABLE 6.6 — — — — — — — — Bear −0.001 −0.001 −0.001 −0.002 — — — — RUS3 Strong Bull RUS2 — — — — — — — — UMD — — — — — — — — HDMZD −0.153 −0.202* −0.180 −0.199 0.289* 0.376** 0.274** 0.417* ∆MAT — — — — 0.522* 0.591* −0.263 0.781* ∆DEF 122 TABLE 6.7 PERFORMANCE Tailor-Made Model Results for Currency Index R2adj Entire Period Weak Bull Moderate Bull Strong Bull Bear Alpha ATMC DEF MAT 0.099 −3.188 −0.485** 2.364* — 0.332 — 0.090 — 0.372 −0.757* — 3.923 — — 0.273 — FX UMD HDMZD RUS2 0.099 0.083* 0.122** — 0.409* 0.569** 0.030 — — — — — — — — — — −3.172 — — — — — — — — — — ATMC = series of returns on the one-month ATM call written on the Russell 3000 index. DEF = U.S. Moody’s Baa corporate bond yield. MAT = U.S. 10-year/6-month Interest Rate Swap Rate. FX = monthly change in the U.S. dollar/Swiss franc exchange rate. UMD (Up Minus Down) = average return on the two high prior return portfolios minus the average return on the two low prior return portfolios. HDMZD (High Dividend Minus Zero Dividend) = average return of the highestdividend-paying stocks versus the stocks that do not dispense dividends.

UMD (Up Minus Down) = average return on the two high prior return portfolios minus the average return on the two low prior return portfolios. HDMZD (High Dividend Minus Zero Dividend) = average return of the highest-dividend-paying stocks versus the stocks that do not dispense dividends. ∆MAT = change in the U.S. 10-year/6-month Interest Rate Swap Rate. GSCI = return on the Goldman Sachs Commodity Index. RUS2 = square of the excess returns on the Russell 3000. RUS3 = cube of the excess returns on the Russell 3000. MCOM = return on Moody’s Commodity Index. ** The values are significant at the 10 percent level. ** The values are significant at the 5 percent level.


pages: 526 words: 144,019

A First-Class Catastrophe: The Road to Black Monday, the Worst Day in Wall Street History by Diana B. Henriques

Alan Greenspan, asset allocation, bank run, banking crisis, Bear Stearns, behavioural economics, Bernie Madoff, Black Monday: stock market crash in 1987, break the buck, buttonwood tree, buy and hold, buy low sell high, call centre, Carl Icahn, centralized clearinghouse, computerized trading, Cornelius Vanderbilt, corporate governance, corporate raider, Credit Default Swap, cuban missile crisis, Dennis Tito, Edward Thorp, Elliott wave, financial deregulation, financial engineering, financial innovation, Flash crash, friendly fire, Glass-Steagall Act, index arbitrage, index fund, intangible asset, interest rate swap, It's morning again in America, junk bonds, laissez-faire capitalism, locking in a profit, Long Term Capital Management, margin call, Michael Milken, money market fund, Myron Scholes, plutocrats, Ponzi scheme, pre–internet, price stability, proprietary trading, quantitative trading / quantitative finance, random walk, Ronald Reagan, Savings and loan crisis, short selling, Silicon Valley, stock buybacks, The Chicago School, The Myth of the Rational Market, the payments system, tulip mania, uptick rule, Vanguard fund, web of trust

Increasingly, they also competed with banks in the rapidly growing private market for over-the-counter “swaps,” a new type of derivative contract that the futures exchanges wanted the CFTC to regulate in the face of resistance from both banks and brokerage firms. At the time, most members of oversight panels such as the Wirth subcommittee seemed to have no idea what swaps were or how they worked. Swaps are simply contracts by which two parties agree to exchange two future streams of cash that each is entitled to receive. In the case of interest rate swaps, the fastest-growing category in the mid-1980s, the streams of cash being “swapped” are the future interest payments on loans. Say Bank A is due to get fixed interest payments on a $100 million loan over the next ten years. On an identical loan, Bank B is due to collect variable interest payments, which will fluctuate with the market.

As private contracts, they created invisible obligations between all kinds of financial institutions, debts that could suddenly go sour and leave one party to the contract exposed to enormous losses. Corrigan had shared his concerns at a meeting of the Federal Open Market Committee in May 1984, just as the Chicago crisis was unfolding. These gimmicks, “interest-rate swaps and other things,” were piling up in the shadows of the banking system, Corrigan told Paul Volcker and his colleagues on the committee. And they involved risks that “may not be totally understood, even by those who are playing in the markets.” He added, “And worse than that, they may not even be fully understood by us.

But that was a landscape that would contain a daunting array of risks, including systemic risk, which he called “the ever-present snowball effect.” With large banks and other financial firms tightly but invisibly linked to one another and to counterparts overseas, systemic risk was a growing concern. “I have in mind such things as futures, options, options on futures, interest rate swaps,” and a host of other contingent liabilities, he said. These derivatives were often structured through Wall Street brokerage firms, and they were being used heavily by giant insurance companies. And because most of them were invisible to auditors and regulators, it was impossible to gauge how many Wall Street firms and insurance companies would be in danger if a major firm on one side of a derivatives deal failed.


pages: 314 words: 101,452

Liar's Poker by Michael Lewis

barriers to entry, Bear Stearns, Bonfire of the Vanities, business cycle, Carl Icahn, cognitive dissonance, corporate governance, corporate raider, disinformation, financial independence, financial innovation, fixed income, Glass-Steagall Act, Home mortgage interest deduction, interest rate swap, Irwin Jacobs, John Meriwether, junk bonds, London Interbank Offered Rate, low interest rates, margin call, Michael Milken, mortgage tax deduction, nuclear winter, Ponzi scheme, risk free rate, The Predators' Ball, yield curve

The Salomon salesmen, having schmoozed their client, move in to finish him off. They recommend that the thrift managers buy a billion dollars' worth of interest rate swaps. The thrift managers clearly don't know what an interest rate swap is; they look at each other and shrug. One of the Salomon salesmen tries to explain. The thrift men don't want to hear; they want to play golf. But the Salomon salesmen have them by the short hairs and won't let go. "Just give us a billion of them interest rate swaps, so we can be off," the thrift managers finally say. End of skit. *In the interest of variety, thrift will be used interchangeably with savings and loans throughout the text, as it is on Wall Street.


pages: 367 words: 110,161

The Bond King: How One Man Made a Market, Built an Empire, and Lost It All by Mary Childs

Alan Greenspan, asset allocation, asset-backed security, bank run, Bear Stearns, beat the dealer, break the buck, buy and hold, Carl Icahn, collateralized debt obligation, commodity trading advisor, coronavirus, creative destruction, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, diversification, diversified portfolio, Edward Thorp, financial innovation, fixed income, global macro, high net worth, hiring and firing, housing crisis, Hyman Minsky, index card, index fund, interest rate swap, junk bonds, Kevin Roose, low interest rates, Marc Andreessen, Minsky moment, money market fund, mortgage debt, Myron Scholes, NetJets, Northern Rock, off-the-grid, pneumatic tube, Ponzi scheme, price mechanism, quantitative easing, Robert Shiller, Savings and loan crisis, skunkworks, sovereign wealth fund, stem cell, Steve Jobs, stocks for the long run, The Great Moderation, too big to fail, Vanguard fund, yield curve

An inverted curve is a strong recession indicator, and it freaks people out every time. But as the crisis burned off, Pimco could see that things would revert to normal. Traders would again demand more yield for longer-term Treasuries. So Pimco put on a curve “steepener,” buying the very short-term Treasuries and selling longer-dated ones, and it expressed it through interest rate swaps. Just as it predicted, as markets calmed, the curve recurved. Pimco raked in its profits. Elsewhere, another pocket was humming along: Pimco Advisory, where Dick Weil was running the firm’s consulting for public and private institutions, along with Sabrina Callin, a partner who’d helmed the Commercial Paper Funding Facility program.

Investors benchmark Total Return’s performance against an index, which always has a substantial slug of Treasuries. Any marginal deviation from the index weightings was a call, which clients tracked carefully. Total Return was disregarding an entire category, the most foundational one. Gross ramped up his bet in April, adding positions in derivatives like interest rate swaps betting against Treasuries. Now he wasn’t just at 0 percent Treasuries—these bets gave him essentially negative ownership of Treasuries. If Treasury prices fell, he would make even more money. He was in battle mode, and this was just another big contrarian call—the kind he was accustomed to getting right.

No one would know the final numbers until someone won. How could he know the price before it was priced? This was by no means the first time Gross had encountered an auction. Why was this confusing to him? The explanations weren’t good enough for Gross, king of the secondary market, of liquid Treasuries and interest rate swaps, where things were priced in an instant. Finally, others including Ivascyn did interject, trying to slow Gross’s growing aggression at the team. These aren’t for you, they tried to say. You’re being unfair. Which just turned his attention toward them. On to Ivascyn. “So, you’re buying stuff you don’t know how to value?”


pages: 1,544 words: 391,691

Corporate Finance: Theory and Practice by Pierre Vernimmen, Pascal Quiry, Maurizio Dallocchio, Yann le Fur, Antonio Salvi

"Friedman doctrine" OR "shareholder theory", accelerated depreciation, accounting loophole / creative accounting, active measures, activist fund / activist shareholder / activist investor, AOL-Time Warner, ASML, asset light, bank run, barriers to entry, Basel III, Bear Stearns, Benoit Mandelbrot, bitcoin, Black Swan, Black-Scholes formula, blockchain, book value, business climate, business cycle, buy and hold, buy low sell high, capital asset pricing model, carried interest, collective bargaining, conceptual framework, corporate governance, correlation coefficient, credit crunch, Credit Default Swap, currency risk, delta neutral, dematerialisation, discounted cash flows, discrete time, disintermediation, diversification, diversified portfolio, Dutch auction, electricity market, equity premium, equity risk premium, Eugene Fama: efficient market hypothesis, eurozone crisis, financial engineering, financial innovation, fixed income, Flash crash, foreign exchange controls, German hyperinflation, Glass-Steagall Act, high net worth, impact investing, implied volatility, information asymmetry, intangible asset, interest rate swap, Internet of things, inventory management, invisible hand, joint-stock company, joint-stock limited liability company, junk bonds, Kickstarter, lateral thinking, London Interbank Offered Rate, low interest rates, mandelbrot fractal, margin call, means of production, money market fund, moral hazard, Myron Scholes, new economy, New Journalism, Northern Rock, performance metric, Potemkin village, quantitative trading / quantitative finance, random walk, Right to Buy, risk free rate, risk/return, shareholder value, short selling, Social Responsibility of Business Is to Increase Its Profits, sovereign wealth fund, Steve Jobs, stocks for the long run, supply-chain management, survivorship bias, The Myth of the Rational Market, time value of money, too big to fail, transaction costs, value at risk, vertical integration, volatility arbitrage, volatility smile, yield curve, zero-coupon bond, zero-sum game

Such financial flows can be: currency swaps without principal; interest rate swaps (IRS); currency swaps with principal. Unlike financial assets, financial flows are traded over the counter with no impact on the balance sheet, and allow the parties to modify the exchange or interest rate terms (or both simultaneously) on current or future assets or liabilities. Interest rate swaps are a long-term portfolio of FRAs (from one to 15 years). As with FRAs, the principle is to compare a floating rate and a guaranteed rate and to make up the difference without an exchange of principal. Interest rate swaps are especially suited for managing a company’s long-term currency exposure.

Lastly, the issuer can deduct the coupon payments from its corporate income tax, thus reducing the actual cost of the loan. 1. Spreads The spread is the difference between the rate of return on a bond and that on a benchmark used by the market. In the euro area, the benchmark for long-term debt is most often the interest rate swap (IRS) rate; sometimes the spread to government bond yields is also mentioned. For floating-rate bonds and bank loans (which are most often with floating rates), the spread is measured to a short-term rate, the three- or six-month Euribor in the eurozone. The easyJet bond was issued with a spread of 147 basis points (1.47%) to mid swap rate, meaning that easyJet had to pay 1.47% more per year than the risk-free rate to raise funds.

. −0.331% (3 months) LIBOR (London Interbank Offered Rate) Money-market rate observed in London corresponding to the arithmetic mean of offered rates on the London banking market for a given maturity (between 1 and 12 months) and a given currency (euro, sterling, dollar, etc.). −0.376% (euro 3 months) IRS The IRS rate indicates the fixed interest rate that will equate the present value of the fixed-rate payments with the present value of the floating-rate payments in an interest rate swap contract. The convention in the market is for the swap market makers to set the floating leg – normally at Euribor – and then quote the fixed rate that is payable for that maturity. Section 20.4 Socially responsible bonds Green bonds are, from a purely financial point of view, standard bonds.


pages: 400 words: 121,988

Trading at the Speed of Light: How Ultrafast Algorithms Are Transforming Financial Markets by Donald MacKenzie

algorithmic trading, automated trading system, banking crisis, barriers to entry, bitcoin, blockchain, Bonfire of the Vanities, Bretton Woods, Cambridge Analytica, centralized clearinghouse, Claude Shannon: information theory, coronavirus, COVID-19, cryptocurrency, disintermediation, diversification, en.wikipedia.org, Ethereum, ethereum blockchain, family office, financial intermediation, fixed income, Flash crash, Google Earth, Hacker Ethic, Hibernia Atlantic: Project Express, interest rate derivative, interest rate swap, inventory management, Jim Simons, level 1 cache, light touch regulation, linked data, lockdown, low earth orbit, machine readable, market design, market microstructure, Martin Wolf, proprietary trading, Renaissance Technologies, Satoshi Nakamoto, Small Order Execution System, Spread Networks laid a new fibre optics cable between New York and Chicago, statistical arbitrage, statistical model, Steven Levy, The Great Moderation, transaction costs, UUNET, zero-sum game

Trying to understand and explain those differences then became one of the goals of the research. In this book, I focus on four classes of instrument—futures, shares, governments’ sovereign bonds, and foreign exchange—that are all comparable in that they are simple and highly liquid. (The research also encompassed options and interest-rate swaps, but the greater complexity of these instruments makes them less directly comparable. Apart from chapter 6, in which the options market offers an extreme case of what is being discussed, I have not considered these markets, again to avoid overcomplicating the book.)36 Understanding and explaining how trading is organized requires taking a historical perspective, because its organization is “path dependent”: how trading was organized in the past affects how it is organized today.

Differences in market structure among the main classes of highly liquid financial instrument US Europe Futures Dominated by anonymous order books and HFT Dominated by anonymous order books and HFT Shares Largely dominated by anonymous order books and HFT Largely dominated by anonymous order books and HFT Sovereign bonds Dealer-client market, but with anonymous order books and HFT in interdealer trading Much electronic trading, but almost intact dealer-client market, with virtually no HFT Foreign exchange Dealer-client market; partially colonized by anonymous order books and HFT Dealer-client market; partially colonized by anonymous order books and HFT Listed options Anonymous order books but only limited amounts of “classic” HFT; some face-to-face trading (suspended in coronavirus crisis) Some anonymous order-book trading but much dealer intermediation Interest-rate swaps Much electronic trading, but largely intact dealer-client market; only limited HFT Almost intact dealer-client market; little HFT Source: Author’s interviews. As indicated by tables 4.1 and 4.2, however, the anonymous order book/HFT market structure is far from universal, and in some markets dealers still play central roles.

The near-catastrophic 2008 banking crisis prompted another phase of intense congressional involvement in reform efforts, but those efforts have not played a major part in the events described in this book, because their greatest effects were on one of the markets that I researched but (to prevent this book from becoming overcomplicated) I have not discussed: interest-rate swaps, in which efforts to practice HFT have to date largely been unsuccessful.16 The legal crackdown on spoofing, touched on above, was, however, largely made possible by this post-2008 congressional reform effort. On the face of it, this is puzzling, since spoofing played no discernible role in the crisis, but widespread involvement of Congress in reform can create political opportunities for regulators to move on unrelated matters.


Where Does Money Come From?: A Guide to the UK Monetary & Banking System by Josh Ryan-Collins, Tony Greenham, Richard Werner, Andrew Jackson

bank run, banking crisis, banks create money, Basel III, Big bang: deregulation of the City of London, book value, Bretton Woods, business cycle, capital controls, cashless society, central bank independence, credit crunch, currency risk, double entry bookkeeping, en.wikipedia.org, eurozone crisis, fiat currency, financial innovation, fixed income, floating exchange rates, Fractional reserve banking, full employment, global reserve currency, Goodhart's law, Hyman Minsky, inflation targeting, interest rate derivative, interest rate swap, Joseph Schumpeter, low skilled workers, market clearing, market design, market friction, Modern Monetary Theory, Money creation, money market fund, money: store of value / unit of account / medium of exchange, moral hazard, Northern Rock, offshore financial centre, Post-Keynesian economics, price mechanism, price stability, proprietary trading, purchasing power parity, quantitative easing, Real Time Gross Settlement, reserve currency, Ronald Reagan, seigniorage, special drawing rights, the payments system, trade route, transaction costs

Currency swaps: Currency swaps allow for the exchange of two currencies on a specific date at a set exchange rate, and then a reversal of the swap on a future date, usually at a different exchange rate. Commonly, this is a combination of a spot trade with a forward trade of opposite direction (e.g. sell CHF 100,000 and buy EUR spot; buy CHF 100,000 and sell EUR 30 days forward). On average, currency swaps accounted for $1,765 billion a day in 2010. Foreign interest rate swaps: Interest swaps allow counterparties to exchange streams of interest payments for a period of time, with the exchange of principle at a pre agreed exchange rate at maturity. On average, interest swaps accounted for $43 billion a day in 2010. Options: Currency options give the holders the right (which they do not have to exercise) to acquire or sell foreign currency at a specified price for a certain period of time.

INDEX A | B | C | D | E | F G | H | I | K | L | M N | O | P | Q | R | S T | U | V | W allocation, credit 105, 106, 109, 111, 141 anti-Bullionist school 43 Article 101 EC 118 Asset Purchase Facility see Quantitative Easing Babylon 34 bank accounts balances 15, 16 customers’ ownership of money in 11-12 government 153 importance of 138 Bank Charter Act 1833 43 Bank Charter Act 1844 43-5 bank deposits 15, 17, 20-1 Bank of England bank deposits, quotes about 17 bank reserves, control of 19 commercial bank money, little control over 21-2 creation of 41, 42 credit creation for public spending 143-4 demand-driven interest rates 150-1 effecting the market rate of interest 77 electronic money creation 14 foreign exchange reserves 160 Lender of Last Resort 24, 97, 103, 138 LIBOR and 70-1, 83n, 102 money supply 6, 20 Moral Suasion 47 regulation of credit 24 regulation of wider range of financial institutions 49 repurchasing agreements (repos) 78-9, 101 standing facilities 79-80 supply-driven interest rates 150-1 see also cash; central bank money; central bank reserves; liquidity Bank of International Settlements 61 Bank of Japan 80-1, 104, 112 banking central see Bank of England commercial see commercial banks confusion around 11 crises 42-3, 45 earliest systems 34-5 lending 7 liability 11-12, 16, 62, 63, 85, 106 misconceptions of 7 modern, origins of 37-42 online 52-3 perceptions of 11-14 reform, questions to consider 141-2 see also clearing system Banking school 43 banknotes liquidity of 60 sale of 72-4 bartering 29, 30, 32, 32n base money see central bank money Basel Committee on Banking Supervision (BCBS) 52, 93-4, 95 Bernanke, Ben 81n bilateral netting 165 bilateral settlement 64 Bills of Exchange 37, 38n, 137 bonds government 41, 78, 118, 120, 122, 124-5 issuance of 37, 40-2 liquidity of 60 purchase operations 81 Bradbury bills 45-6 Bretton Woods agreement 46, 50 broad money 48, 51, 60-1 building societies 16 Bullionist school 42-3, 44 capital equity 84-5, 87-8, 94 forms of 84 minimum levels required of banks 93-5 own 84, 85, 93-4 retained earnings 93-4 capital adequacy effect on bank credit creation 95 levels 100, 140 leverage ratios 96-7, 97n rules 93-5 capital flows, international 50, 52, 127-33 capitalism 32, 61, 137-8 cash decline in use of 52-3 definition 6, 14 on demand 71, 72 sale of banknotes 72-4 central bank see Bank of England central bank money banks’ liquidity requirements 74-5 comparison with commercial bank money 75-7 definition 6, 14, 60 ratio to commercial bank money 22, 75 central bank reserves definition 6, 14-15 economic growth, little impact on 22 intangibility 67 interbank payments 64-71, 102 lending to commercial banks 21 liquidity for clearing system 65 liquidity of 60 Chartalism 35, 36 Chinese economic reforms 111-12 classical economics 30-1 clearing system Bank of England 64-5 clearing banks 48-9 early banking systems and 34-5 electronic payments 16, 64 goldsmiths 38 interbank 68-9 ratio of reserves held 7 Cobbett, William 44 coinage exchange rates 45 holders and exchangers of 37 silver 37 value of 36 commercial bank money comparison with central bank money 75-7 definition 6, 15 liquidity of 60 modern, creation of 40 ratio of money in circulation 52-3 ratio to base money 22 supply, no limits to 23-4 commercial banks bank accounts with Bank of England 64-5 business loans 106, 107-8 confidence of 23-4, 140 corridor system of reserve targets 83n, 99, 150-1 credit controls 47 credit creation 6, 62-4 credit lending criteria 7-8 credit rationing 105-10 definition 13 deposits 6 determining quantity of central bank reserves 7, 21 fear of insolvency 23-4, 24 financial intermediaries 12-14, 19 IOUs see liability lending criteria 7-8 LIBOR and 70-1, 83n, 102 money creation see money creation mortgages 107 profits 87, 94 regional 42, 43-4 shadow banking 101-2 ‘special profit’ from interest on credit 74 see also capital; credit; liquidity; money creation commodity theory of money 30-3 Competition and Credit Control (CCC) 49-50, 98 compulsory cash-reserve requirements 21 compulsory reserve ratios 98 computer money 14 Consolidated Fund 153-4 Consolidated Fund Extra Receipts (CFERs) 153n Continuous Linked Settlement (CLS) Bank 165-6, 168 corridor system 83n, 99, 150-1 country banks 42, 43-4 crawling pegs 130 credit credit creation see credit creation deregulation of controls on 48-52 direct regulation of 24, 96, 110-12 lending criteria 7-8 leverage ratios 96-7, 97n rationing 105-10 see also Competition and Credit Control (CCC); goldsmiths credit creation allocation 105, 106, 109, 111, 141 bank lending 6 booms 49-50, 51 capital adequacy rules 93-5 fiscal policy links 126-7 liquidity regulation 97-100 money as 34 money created by banks 62-4 quantity theory of 109-10 window guidance 111-12 see also money creation; productive credit creation; unproductive credit creation credit theory of money 33-4 credit unions 16 crowding out 124-6 currency bands 130 Currency school 42-3 currency swaps 162 Davies, Glynn 34, 46, 50 Debt Management Account (DMA) 154-7 Debt Management Office (DMO) 122, 124, 154, 155n, 156 debts 34-5 declining marginal utility 106 deductive reasoning 33n Defoe, Daniel 10 deposits bank 15, 17, 20-1 commercial banks creation of 7 demand 15, 43-4, 64, 65, 138 facilities 79 insurance 76-7 rates 150 receipts 34, 37, 38, 39, 40 deregulation 48-52 digital money 52-3 Discount Window Facility 84 double-entry bookkeeping 63 East Asian Economic Miracle 111-12 electronic money 14, 52-3, 67 endogenous money 103-4, 106, 109 equation of exchange 31n equity capital 84-5, 87-8, 94 eurodollars 50 European Central Bank (ECB) 52, 120-1 European Union (EU) 118-21 eurozone economies 120-1, 132-3 Exchange Equalisation Account (EEA) 158-60 exchange rates foreign 127-33, 158-60, 161, 162-8 government intervention 130-2 regimes 45-53, 129-30 Exchequer Pyramid 153, 154, 156 exogenous money 103-4, 109 Federal Reserve Bank of Chicago 44 Ferguson, Niall 28, 36 financial crisis eurozone 120-1 key questions raised 5-6 North Atlantic 29 originate and distribute model of banking 100-1 as a solvency and liquidity crisis 102-3 subprime mortgages 101, 138 Financial Services Authority (FSA) 99 Financial Services Compensation Scheme (FSCS) 16, 76 fiscal policy see Government Fisher, L. 31n floating currency regimes 130 floor system 152 foreign exchange eurozone 132-3 government intervention 130-2 markets 127-9 payment system 162-8 regimes 129-30 reserves 158-60 trade and speculation 161 transactions 162 foreign interest rate swaps 162 forex transactions 162-8 forwards (forex transaction) 161, 162 fractional reserve banking 7, 37, 38-40, 44 Galbraith, Professor J.K. 58, 146 GDP transactions 24, 51-2, 83, 96, 109-10, 125-6 see also productive credit creation general equilibrium 32 Gilt Edged Market Makers (GEMMs) 122-3, 156 gilts 41, 82, 155-6 gold standard 45-7 Gold Standard Act 1925 46 Golden Period 45 goldsmiths 37, 38-9, 40 Goodhart’s law 61, 138 Government bank accounts 153-60 bonds 41, 78, 118, 120, 122, 124-5 borrowing 122-3, 124-6 intervention to manage exchange rates 130-2 linking fiscal policy to credit creation 126-7 monetary policy 42-5, 47, 49-50, 120-1, 141-2 money creation, bypassing restrictions 119-20 money creation, EU restrictions on 117-19 money-financed fiscal expenditure 144-5 money supply, effect of borrowing on 124-6 productive investment 125-6 spending 123-4 taxation 35-6, 41, 121, 139, 140 Government Banking Service 156 gross non-payment versus payment settlement method 163-4 hedging 161 Herstatt risk 164 high-powered money see central bank money hire purchase houses 48 ICP/Cobden Centre poll 11, 12 imperfect information 7, 105, 107, 140 see also perfect information Impossible Trinity 131-2 Independent Commission on Banking 13 Ingham, Geoffrey 119 Innes, Mitchell 35 insolvency explanation of 86, 87 protection against 93-7 see also solvency interest compound 39 debt, interest-bearing 144-5 legalisation of 41 savings accounts 12 interest rates crowding out 124-6 foreign rate swaps 162 government debt 119 interbank rate 102, 150, 152 LIBOR 70-1, 83n, 102 margin 12 market rate 50, 77 monetary policy and 80-1 negative 80 policy rate 50, 79, 150 intra-day clearing 68 investment banking 13 investors bonds 40-1 government 126 private 125 IOUs see liability Keynes, John Maynard 4, 33, 71 lending cycles of 18-19 facilities 79-80 fractional reserve banking 7, 37, 38-40, 44 rates 150 leverage ratios 96-7, 97n liability 11-12, 16, 62, 63, 85, 106 LIBOR 70-1, 83n, 102 liquidity Bank of England influence on 78 crisis 86-7 Discount Window Facility 84 expectations, centrality to 138-9 financial crisis and 102-3 regulation of 97-100 solvency and 84-7 loans Bank of England influence on 77 business 106, 107-8 central bank 65-6, 78-9 central bank reserves 78-9 commercial banks 6 confidence in borrower to repay 20-1, 140 credit unions 16 in economic downturn 71 goldsmiths 38 maturity transformation 12 risk rating 94 secured 106-7 securitisation 100-1 M0 see central bank money M1, broad money 60 M2, broad money 61 M3, broad money 61 M4, broad money 15, 61 Maastricht Treaty 118-19 margin 12 marginal utility 31-2 market-makers 155 Marx, Karl 32, 39 maturity transformation 12 McKenna, Reginald 4 medium of exchange 29, 35, 38, 52, 139 Mill, John Stuart 30 Minimum Lending Rate (MLR) 50 Minsky, Hyman 33 Modern Monetary Theory (MMT) 121n monetary policy early 42-5 government reforms 49-50 politics of 120-1 reform, questions to consider 141-2 review of 47 Monetary Policy Committee (MPC) 79, 150 money acceptability of 139-40 commodity theory of 30-3 credit theory of 33-4 definition 6, 138-9 efficiency of exchange 30 emergence of modern money 137-8 endogenous 103-4, 106, 109 exogenous 103-4, 109 functions of 29 as information 67 local currency 145-6 marginal utility 31-2 money creation see money creation neutrality of 30-2 role of state in defining 35-7 as social relationship 33-4, 139-40 see also cash; money creation money creation allocation of 105, 106, 109, 111, 141 capital adequacy ratios 95 commercial banks and 6, 61, 64, 139-40 confidence of banks 23-4 creation of, misunderstanding 5 endogenous and exogenous money 103-4, 106, 109 implications for economic prosperity and financial stability 7-8 link to central reserves 7 multiplier model 18-21 securitisation 100-1 shadow banking 101-2 see also credit; Quantitative Easing money supply Bank of England measures of 60-1 control of 20, 48 definition 15 effects on 71 expansion by governments 145 money creation creation see credit; money creation overview 6 money tax 74 Mosler, Warren 36 multiplier model 18-21 national currency 6 National Loans Fund (NLF) 154, 158 National Savings and Investments (NS&I) 154, 158 neoclassical economics 31-4, 51 new money see money creation non-GDP transactions 24, 109 non-PVP method 163-4 Northern Rock 103 Open Market Operations (OMOs) 78, 79, 151 Operational Lending Facility 79-80 options (hedging) 161, 162 orthodox economics 31-4 Outright Monetary Transactions (OMTs) 121 own capital 84, 85, 93-4 payment versus payment (PVP) systems 165-6, 167, 168 pegged exchange rate regimes 130 perfect information 31, 32, 77, 105 see also imperfect information policy rate 50, 79, 150 productive credit creation 24, 111, 142 see also GDP transactions promissory notes 37, 38 Promissory Notes Act 1704 40, 42 PVP systems 165-6, 167, 168 Quantitative Easing (QE) Bank of England 81 bond purchases 81 definition 80-1 effect on economy 82-3 financial assets, purchase of 152 lending, impact on 22, 23 Quantity Theory of Credit 24n, 51, 109-10, 141 real time gross settlement (RTGS) 76, 79 repurchasing agreements (repos) 78-9, 101 reserve accounts 64-5 reserve ratios 19, 20, 21, 49, 51, 98 reserve targeting 150-1 residential mortgage-backed securities (RMBSs) 100-1 retail banking 13 risk management systems 94 safe-deposit boxes 11 savings, investment of 12-13 savings accounts 60 Schumpeter, Joseph 10, 30-1 secondary banking crisis 1974 50 securities 40-1 securitisation 100-1 seigniorage 74 settlement 29, 59, 64, 76, 128n, 162-3, 167-8 shadow banking system 101-2 Simmel, Georg 28 solvency financial crisis and 102-3 regulation of 84-7 see also insolvency; liquidity speculators 161 spots (forex transaction) 162 sterling stock liquidity regime (SLR) 98-100 store of value 29, 33 subordinated debt 85 subprime mortgages 101, 138 supply and demand 31 T-accounts 63 tally sticks 34-5, 41 taxation 35-6, 41, 121, 139, 140 textbook model 18-21 traditional correspondent banking 163-4 Treaty of Maastricht 118-19 Tucker, Paul 21, 106 unit of account 29, 35, 36, 139 unproductive credit creation 24, 111 see also GDP transactions; productive credit creation On Us, with and without settlement risk 167 USA, gold standard 46-7 usury see interest value, measurement of 35 Walras, Leon 31 Ways and Means Advances 117n Wergeld 35 Werner, Richard 44, 81n, 109-10 wholesale banking 13 wholesale money markets 50 window guidance 111-12 WIR credit-clearing circle 145 * ‘Central bank money in the UK economy takes two forms: banknotes and banks’ balances with the Bank of England (reserves).


pages: 438 words: 84,256

The Great Demographic Reversal: Ageing Societies, Waning Inequality, and an Inflation Revival by Charles Goodhart, Manoj Pradhan

asset-backed security, banks create money, Berlin Wall, bonus culture, Boris Johnson, Branko Milanovic, Brexit referendum, business cycle, capital controls, carbon tax, central bank independence, commodity super cycle, coronavirus, corporate governance, COVID-19, deglobalization, demographic dividend, demographic transition, Deng Xiaoping, en.wikipedia.org, Fall of the Berlin Wall, financial independence, financial repression, fixed income, full employment, gig economy, Gini coefficient, Greta Thunberg, housing crisis, income inequality, inflation targeting, interest rate swap, job automation, Kickstarter, long term incentive plan, longitudinal study, low interest rates, low skilled workers, manufacturing employment, Martin Wolf, mass immigration, middle-income trap, non-tariff barriers, offshore financial centre, oil shock, old age dependency ratio, open economy, paradox of thrift, Pearl River Delta, pension reform, Phillips curve, price stability, private sector deleveraging, quantitative easing, rent control, savings glut, secular stagnation, shareholder value, special economic zone, The Great Moderation, The Wealth of Nations by Adam Smith, total factor productivity, working poor, working-age population, yield curve, zero-sum game

The benefits of equity finance are obvious, but worth reiterating. First, unlike debt, equity has no maturity and hence no looming deadline for redemption. Second, dividends are both discretionary and can be shaped to revenues or earnings in a way that fixed coupon payments cannot. Some debt instruments, like interest rate swaps and inflation indexed bonds, do show payments that are variable in nature, but the bulk of the debt universe is comprised of fixed coupon paying bonds. Missed coupon payments count as a default in a way that not paying dividends doesn’t. Finally, during periods of stress around debt, an income stream of fixed payments that is supposed to protect creditors turns out to be a dubious asset at best.

Immigrants, taking up unskilled jobs Immigration Immigration, and productivity Immigration, causes political tension Immigration, impact on public finance Immigration, opposition to Immigration, public opposition to Immigration, targeted for care workers Immigration control Impossible trinity Incentives, of managers, misaligned Income inequality Income percentile Income share, of top percentiles Income taxation, progressive Index tracking, by asset managers India India, abundant supply of labour India, administration and reform India, administrative capital, weak India, airports India, facing decline in world labour supply India, growth decline in 2018/19 India, have the ability to replicate China’s ascent India, inflection of dependency ratio distant India, massive population, an attractive market India, new bankruptcy code (IBC) India, population of India’s growth India’s growth, private sector drives Indirect taxes Indonesia Industrialization Industrial Revolution Inequality Inequality, between countries Inequality, declining Inequality, falling Inequality, global Inequality, within countries Inequality, within economies Inequality of income Inequality of wealth Inflation Inflation, a monetary phenomenon Inflation, consequence of wars Inflation, low in Japan Inflation, reviving Inflation, stronger pressures for Inflation, surge of Inflation target, political pressure to modify Inflation, targets Inflation, unexpected Inflation accelerated Inflation and age-structure of population, linked Inflationary bias, major Inflation expectations, well anchored Inflation indexed bonds Inflation targeting Inflexion Inflexion point Informal care costs Information and communication technology Infrastructure Innovation Insiders Insiders, in Japan Insiders in Japan, having primary loyalty to company Insiders, in labour force Insolvency risks Institute for Fiscal Studies Institutional shareholders, when large can gain information and influence management Intangible investment Intellectual property rights Interest, paid on commercial bank reserves at central bank Interest rates Interest rates, exceptionally low Interest rates, extraordinarily low Interest rates, falling Interest rates, falling to historical lows Interest rates, trending down Interest rate swaps ‘Internal Labour Markets’ in Japan Internal migration International Monetary Fund (IMF) Inter-war period Inventories Inventory accumulation Investment Investment cycle, US Investment, ex ante (expected) Investment, in Japan, collapsing Investment, offshored to Asia Investment, reduced by shift of production via globalization Inward investment, into Japan Ipsos MORI Iran Iraq Ireland Islamic finance Italy J Jackson Hole Jackson Hole Conference Japan Japan, affected by China’s growth Japan, blueprint for ageing societies Japan, collapse of investment growth Japan, conventional analysis flawed Japan, corporate sector, delevering Japan, distinction between output per capita and output per worker Japan, dividend exemption policy Japan, experience of Japan, impressive record of productivity Japan, labour supply decline Japan, lessons of Japan, lost decade Japan, ‘miracle’ decades Japan, no sign of inflationary pressures Japan, owes debt to households Japan, revisionist history Japan, unit labour costs Japan, wage growth Japan, wage inflation in Japan corporate sector Japanese business, offshored production to China Japanese corporates, investing abroad rather than at home Japanese evolution, conventional interpretation Japanese labour market, particular features of Japan’s domestic investment Japan Spillover Report Japan’s Productivity Surge Jetsupphasuk, M.


pages: 511 words: 151,359

The Asian Financial Crisis 1995–98: Birth of the Age of Debt by Russell Napier

Alan Greenspan, Asian financial crisis, asset allocation, bank run, banking crisis, banks create money, Berlin Wall, book value, Bretton Woods, business cycle, Buy land – they’re not making it any more, capital controls, central bank independence, colonial rule, corporate governance, COVID-19, creative destruction, credit crunch, crony capitalism, currency manipulation / currency intervention, currency peg, currency risk, debt deflation, Deng Xiaoping, desegregation, discounted cash flows, diversification, Donald Trump, equity risk premium, financial engineering, financial innovation, floating exchange rates, Fractional reserve banking, full employment, Glass-Steagall Act, hindsight bias, Hyman Minsky, If something cannot go on forever, it will stop - Herbert Stein's Law, if you build it, they will come, impact investing, inflation targeting, interest rate swap, invisible hand, Japanese asset price bubble, Jeff Bezos, junk bonds, Kickstarter, laissez-faire capitalism, lateral thinking, Long Term Capital Management, low interest rates, market bubble, mass immigration, means of production, megaproject, Mexican peso crisis / tequila crisis, Michael Milken, Money creation, moral hazard, Myron Scholes, negative equity, offshore financial centre, open borders, open economy, Pearl River Delta, price mechanism, profit motive, quantitative easing, Ralph Waldo Emerson, regulatory arbitrage, rent-seeking, reserve currency, risk free rate, risk-adjusted returns, Ronald Reagan, Savings and loan crisis, savings glut, Scramble for Africa, short selling, social distancing, South China Sea, The Wealth of Nations by Adam Smith, too big to fail, yield curve

Remember that the key way of bypassing such Basle Accord rules is via off-balance sheet derivatives. The BIS estimated that at the end of last year there was US$30,000bn in credit market exposure outstanding in interest rate swap agreements. That’s 24× the core capital of the developed world banking system, and that’s assuming that Japanese banks have all the core capital which they are reporting. Of course interest rate swaps are only one form of off balance sheet derivative. We had all better hope that the rocket scientists put the right equations into those laptops and that that practice represents a genuine improvement in our understanding of risk rather than just another mystified form of extrapolation.

Among the binarist cognoscenti (definition: those who believe that 0 and 1 have all the answers for forecasting), LTCM are the star players. If they can get it wrong then there must be a prospect that the lesser binarists might be having problems with their equations. This is terrible news. According to the BIS there is US$30trn outstanding in interest rate swaps alone. If the big binary guns could get the equations wrong then how big could the mispricing in the global derivatives business be? Of course the reply will be that such mispricing will come out in the wash in our new hedged world and thus there is not a problem. However, the wealth swings away from one bank and to another due to mispricing could threaten the stability of that bank.


pages: 1,164 words: 309,327

Trading and Exchanges: Market Microstructure for Practitioners by Larry Harris

active measures, Andrei Shleifer, AOL-Time Warner, asset allocation, automated trading system, barriers to entry, Bernie Madoff, Bob Litterman, book value, business cycle, buttonwood tree, buy and hold, compound rate of return, computerized trading, corporate governance, correlation coefficient, data acquisition, diversified portfolio, equity risk premium, fault tolerance, financial engineering, financial innovation, financial intermediation, fixed income, floating exchange rates, High speed trading, index arbitrage, index fund, information asymmetry, information retrieval, information security, interest rate swap, invention of the telegraph, job automation, junk bonds, law of one price, London Interbank Offered Rate, Long Term Capital Management, margin call, market bubble, market clearing, market design, market fragmentation, market friction, market microstructure, money market fund, Myron Scholes, National best bid and offer, Nick Leeson, open economy, passive investing, pattern recognition, payment for order flow, Ponzi scheme, post-materialism, price discovery process, price discrimination, principal–agent problem, profit motive, proprietary trading, race to the bottom, random walk, Reminiscences of a Stock Operator, rent-seeking, risk free rate, risk tolerance, risk-adjusted returns, search costs, selection bias, shareholder value, short selling, short squeeze, Small Order Execution System, speech recognition, statistical arbitrage, statistical model, survivorship bias, the market place, transaction costs, two-sided market, vertical integration, winner-take-all economy, yield curve, zero-coupon bond, zero-sum game

Financial managers call this problem the duration mismatch problem. The duration of the bank’s assets is greater than the duration of its liabilities. To manage this risk, Wilshire Savings and Loan needs to hedge its uncertain cash flows. Hedging with Swaps Wilshire can hedge its interest rate risk by entering an interest rate swap. An interest rate swap is an agreement between two parties to swap a fixed-rate cash flow for a variable-rate cash flow. The swap contract specifies both cash flows. A typical swap contract involves a five-year swap of semiannual payments. The variable-rate cash flow depends on some short-term interest rate index, like the London InterBank Offered Rate (LIBOR).

Simultaneously, the Clearing House pays Brad 250 dollars in variation margin. If the price of silver is the same when the contract expires, Brad will pay 4.55 an ounce for the silver, and Sharon will receive 4.55 an ounce. ◀ * * * Swaps are contracts for the exchange of two future cash flows. A cash flow is a series of payments. An interest rate swap provides for the exchange of a future series of fixed-rate interest payments for a future series of variable floating-rate interest payments. When they enter the contract, the traders negotiate the fixed-rate payments and agree upon a formula for computing the future variable-rate payments.

A currency swap provides for the exchange of a future series of fixed payments in one currency for a future series of payments in another currency. Since the values of these contracts depend on the values of the cash flows that the traders swap, swaps are derivative contracts. * * * ▶ The Third Order Derivative of LIFFE The London International Financial Futures and Options Exchange (LIFFE) trades a euro interest rate swap futures contract called the Swapnote. This is a cash-settled futures contract that prices the expiration day value of a standard bond-pricing formula for a hypothetical fixed-rate bond. The hypothetical bond consists of a series of notional fixed 6 percent interest payments followed by the return of the notional principal at the maturity of the hypothetical bond.


pages: 543 words: 157,991

All the Devils Are Here by Bethany McLean

Alan Greenspan, Asian financial crisis, asset-backed security, bank run, Bear Stearns, behavioural economics, Black-Scholes formula, Blythe Masters, break the buck, buy and hold, call centre, Carl Icahn, collateralized debt obligation, corporate governance, corporate raider, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, diversification, Dr. Strangelove, Exxon Valdez, fear of failure, financial innovation, fixed income, Glass-Steagall Act, high net worth, Home mortgage interest deduction, interest rate swap, junk bonds, Ken Thompson, laissez-faire capitalism, Long Term Capital Management, low interest rates, margin call, market bubble, market fundamentalism, Maui Hawaii, Michael Milken, money market fund, moral hazard, mortgage debt, Northern Rock, Own Your Own Home, Ponzi scheme, proprietary trading, quantitative trading / quantitative finance, race to the bottom, risk/return, Ronald Reagan, Rosa Parks, Savings and loan crisis, shareholder value, short selling, South Sea Bubble, statistical model, stock buybacks, tail risk, Tax Reform Act of 1986, telemarketer, the long tail, too big to fail, value at risk, zero-sum game

The earliest derivatives attempted to mitigate interest rate risk and currency risk. In the volatile economic environment of the 1980s, when interest rates and currency values could swing suddenly and unpredictably, big companies were desperate for ways to protect themselves; derivatives became the way. An interest rate swap allowed a company to lock in an interest rate and pay a fee to another entity—a counterparty, as they were called on Wall Street—willing to take the risk that rates would suddenly jump. (If rates dropped instead, the counterparty would make a nice profit.) The counterparty, in turn, would often want to hedge, or reduce, its own risks by entering into an offsetting trade with another entity.

See Derivatives Cribiore, Alberto Cuomo Andrew Currency swaps Dallas, Bill Dallavecchia, Enrico Daurio, Jon Davis Square III Defaults, on subprimes Depository Institutions Deregulation and Monetary Control Act (1980) D’Erchia, Peter Derivatives of AIG Financial Products CDOs CDOs, multisector CDOs, synthetic credit default swaps currency swaps danger and warning about futures classification defeat high ratings, reasons for interest rate swaps of J.P. Morgan LTCM collapse netting out quants’ development of regulatory efforts structured investment vehicles (SIVs) tranches of See also specific instruments Deutsche Bank, ABS index Dimon, Jamie Dodge, Patti Donilon, Tom Dooley, Bill Drexel Burnham Lambert Dubrish, Robert Dugan, John Dunne, Jimmy Dynamic hedging Dyron, Dick Edper Edwards, Jeff Eichel, Scott Eisman, Steve Empiris LLC Enron European Bank for Reconstruction and Development (EBRD) Evans, Gay Everquest Exception pricing system Exxon Valdez Fakahany, Ahmass Falcon, Armando, Jr.

“Hank,” AIG FP, control of biographical information earnings management by on FM Watch leaves AIG risk-management system of and Sosin style/personality of See also AIG Financial Products; American International Group (AIG) Greenberger, Michael Greenlining Institute Greenspan, Alan antiregulatory position on capital reserves “Committee to Save the World,” as derivatives supporter interest rate cuts on LTCM collapse subprimes, neglect of issue Gregory, Joe Guardian Savings & Loan Guldimann, Till, Value at Risk (VaR) developed by Gutierrez, Michael Habayeb, Elias Hagler, Grayland Scott, Reverend Hard-money lenders leading companies legislation and expansion of operation of second-lien mortgages by subprime MBS, first Harris, Patricia Hawke, John Hedge funds, at Bear Stearns, collapse of Hedging, dynamic hedging Hibbert, Eric High loan-to-value lending (HLTV) Holder, Steve Holding companies Home equity loans Homeownership and baby boomers Bush initiatives Clinton initiatives increase for credit risks and interest rates loan defaults, rise in Mozilo support of Home Ownership and Equity Protection Act (HOEPA) Home values drop in homes abandoned by owners increase in (2001-2006) Household Finance Howard, Tim HSBC Hudson Mezzanine Hunter, Allan Oakley Hybrid CDOs Icahn, Carl IKB IMARC Implicit government guarantee, Fannie Mae Incentive compensation Independent Swaps and Derivatives Association (ISDA) IndyMac Interest rates cuts and home buying increases Interest rate swaps Investment firms. See Wall Street; specific firms ISDA swap contract J. Aron Jedinak, Russell and Rebecca Johnson, Jim biographical information Fannie expansion under on Maxwell style/personality of J.P. Morgan Bear Stearns acquired by BISTRO CEOs. See Weatherstone, Sir Dennis credit default swaps derivatives lobbying by quants/quantitative analysis risk management special purpose entity (SPE) synthetics trading business entry Value at Risk (VaR) measure Jungman, Michael Junk bonds Kamilla, Rajiv Kapnick, Scott Karaoglan, Alain Kemp, Jack Kendall, Leon Kennedy, Judy Killian, Debbie Killinger, Kerry Kim, Dow Kindleberger, Charles Koch, Richard Kolchinsky, Eric Komansky, David Kronthal, Jeff firing of and Fleming Merrill CDOs returns to Merrill Kudlow, Larry Kurland, Stanford as Countrywide president leaves Countrywide style/personality of Kushman, Todd LaFalsce, John Lattanzio, Dale firing of and Merrill CDOs Lay, Ken Lazio, Rick Leach, Jim Lee, Wayne Lehman, David Lehman, Phil Lehman Brothers collapse of fraudulent activities losses (2007) Paulson during collapse Letters of credit Levine, Howard Levitt, Arthur Levy, Gus Lewis, Bob Lewis, Ken Lewis, Michael Lippman, Greg Lipton, Andrew Litton, Larry Litton Loan Servicing Lobbying derivatives supporters by Fannie Mae Lockhart, Jim Loeb, David Long Beach Mortgage establishment of federal investigations of Long Beach Savings & Loan establishment of Goldman deals loans, selling to Wall St.


pages: 361 words: 97,787

The Curse of Cash by Kenneth S Rogoff

Alan Greenspan, Andrei Shleifer, Asian financial crisis, bank run, Ben Bernanke: helicopter money, Berlin Wall, bitcoin, blockchain, Boris Johnson, Bretton Woods, business cycle, capital controls, Carmen Reinhart, cashless society, central bank independence, cryptocurrency, debt deflation, disruptive innovation, distributed ledger, Dr. Strangelove, Edward Snowden, Ethereum, ethereum blockchain, eurozone crisis, Fall of the Berlin Wall, fiat currency, financial exclusion, financial intermediation, financial repression, forward guidance, frictionless, full employment, George Akerlof, German hyperinflation, government statistician, illegal immigration, inflation targeting, informal economy, interest rate swap, Isaac Newton, Johann Wolfgang von Goethe, Johannes Kepler, Kenneth Rogoff, labor-force participation, large denomination, liquidity trap, low interest rates, Modern Monetary Theory, Money creation, money market fund, money: store of value / unit of account / medium of exchange, moral hazard, moveable type in China, New Economic Geography, offshore financial centre, oil shock, open economy, payday loans, price stability, purchasing power parity, quantitative easing, RAND corporation, RFID, savings glut, secular stagnation, seigniorage, The Great Moderation, the payments system, The Rise and Fall of American Growth, transaction costs, unbanked and underbanked, unconventional monetary instruments, underbanked, unorthodox policies, Y2K, yield curve

On top of that, the Internal Revenue Service exercises considerable discretion over the timing of the refund; it is hardly a fully liquid asset. There are many solutions to the tax prepayment problem, and it is just not a serious obstacle. We discussed in chapter 10 the logistical complications that negative rates could create for bond issuers, and how they might be resolved. Relatedly, interest rate swap markets have become a key element of the financial ecosystem, allowing firms to conveniently hedge interest rate risk. A world of negative rates might require a restructuring of some of the institutions and legal frameworks surrounding these markets, but again, early experience in Europe suggests that this issue may not be nearly as problematic as some feared.

., 234n6 history of currency, 15–17; birth of paper currency in China, 21–25; early coinage, 17–20; Franklin and paper currency in the colonial United States, 26–28; from gold-backed to pure fiat paper currency, 28–30; origin of coinage, 21; private notes in Europe, 25–26 hoarding, problem of, 87–88, 97, 115, 175, 233n8 Hong Kong: currency/GDP ratio, 2015, 36; currency per capita, 37, 40; foreign demand for paper currency of, 34; foreign holdings of currency, 41, 236n13 Hong Kong Monetary Authority, 138 horizontal equity, 59 human trafficking, 73–74 Ice Cube (musician, actor), 233n5 illegal drug market, estimated size of, 69 illegal immigration, 2, 74–76 Incas, 16–17 India, 73, 204, 215 inflation: Bitcoin and, 213; cumulative change in a currency’s value versus the dollar, examples of, 184; of early Chinese paper currencies, 23–25; fiscally engineered, 157; governmental default on debt and, 184–86; government intentions regarding, the negative interest rate and, 183–84; higher, drawbacks to, 149–50; historical examples of high, 183–84; optimal choice of inflation target, effect of proposal on, 105–6; quantitative easing and, 136–37; rates of and wages/unemployment, 247n1; 4% target for, 121, 125–26, 133, 147–50, 152–53; target inflation rates, the zero bound constraint and, 147–51; targeting, relaxing rigidity of the framework for, 152–54, 231–32; tightening policies of Volcker and Thatcher in response to, 119–20; in the United States, periods of, 27–28; war financing and, 27–28; the zero bound problem and collapse of, 120 inflation-targeting evangelism, 120, 232 inflation tax, 80, 82 interest-paying anonymous bearer bonds, 233n6 interest rates: central bank cuts in response to recent crises, 131–32; financial stability and, 177; monetary cost seigniorage and, 87; negative (see negative interest rates); New York Federal Reserve discount rates, 1929–1939, 128–29; nominal and real, 121, 243n1; nominal policy for the United States, Eurozone, and United Kingdom, 2000–2015, 130; opportunity cost seigniorage and, 82–83; on paper currency, Gesell’s proposal for, 163–67; quantitative easing and, 137–38 (see also quantitative easing); United Kingdom, 1930–present, 128; United Kingdom and United States short-term market, 1929–1939, 129; zero bound, at or near the, 130–32 interest rate swap markets, 180 Internal Revenue Service (IRS), 60 international dimensions to phasing out paper currency, 199; coordinated action, benefits of, 202–4; emerging markets, 204–5; foreign notes as substitutes for domestic ones, 199–201; forgone profits from supplying the world underground with currency, 202–4 international monetary policy coordination, 205–6 Irons, Jeremy (actor, Moonlighting), 74 ISIS (Islamic State of Iraq and Syria), 77 Israel, 131 Issing, Otmar, 7 Italy: cash used for different kinds of purchases, percentage of, 55–56; currency/GDP ratio, 1995, 46; restrictions on the use of cash, 64; seigniorage revenues from currency, 85; underground economy, estimated size of, 62–63 Itami, Juzo, 236n8 Itskhoki, Oleg, 250n18 Jackson, Andrew (US president), 192 Japan: cash circulating, amount of, 35–36, 235n6; currency/GDP ratio, 1953–2015, 35; currency per capita, 37, 40; double-digit inflation, 183; interest rates near the zero bound, 131; large-denomination notes, 31; loss of seigniorage as nonissue, 203; negative interest rates by the central bank, 123; negative interest rates in, 5; paper currency phaseout, costs and benefits of, 89–90; underground economy, 35; zero bound, continued struggle with, 122.


pages: 311 words: 99,699

Fool's Gold: How the Bold Dream of a Small Tribe at J.P. Morgan Was Corrupted by Wall Street Greed and Unleashed a Catastrophe by Gillian Tett

"World Economic Forum" Davos, accounting loophole / creative accounting, Alan Greenspan, asset-backed security, bank run, banking crisis, Bear Stearns, Black-Scholes formula, Blythe Masters, book value, break the buck, Bretton Woods, business climate, business cycle, buy and hold, collateralized debt obligation, commoditize, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, diversification, easy for humans, difficult for computers, financial engineering, financial innovation, fixed income, Glass-Steagall Act, housing crisis, interest rate derivative, interest rate swap, inverted yield curve, junk bonds, Kickstarter, locking in a profit, Long Term Capital Management, low interest rates, McMansion, Michael Milken, money market fund, mortgage debt, North Sea oil, Northern Rock, Plato's cave, proprietary trading, Renaissance Technologies, risk free rate, risk tolerance, Robert Shiller, Satyajit Das, Savings and loan crisis, short selling, sovereign wealth fund, statistical model, tail risk, The Great Moderation, too big to fail, value at risk, yield curve

He agreed that it was highly unlikely Exxon would default, and he was impressed by the steady stream of income from the fees. It was much higher than anything else he could earn on a highly rated bond or loan. “It seemed like a win-win situation,” Donaldson later recalled. Just as Salomon Brothers’ early interest-rate swaps deal between IBM and the World Bank had met two sets of needs, the Exxon deal was brilliantly transferring risk in a way that suited both parties. For several weeks, Masters made endless phone calls to London from New York as she and Donaldson—together with a phalanx of lawyers—worked out legal terms for the deal.

Chase Manhattan had always had a formidable sales force, covering numerous corners of the financial world that J.P. Morgan had never managed to reach. It also had its own pool of creative financiers, including some in the CDO world. And, of course, the combined bank now had the advantage of vast size. The combined bank was estimated to control about half of the market for interest-rate swaps, a potentially formidable platform. Indeed, in early 2001, a few months after the merger was completed, the bank was named “Derivatives House of the Year.” Yet, as the J.P. Morgan swaps alums tried to adjust to the Chase influence, it was impossible to recapture the thrill of their early achievements.


pages: 352 words: 98,561

The City by Tony Norfield

accounting loophole / creative accounting, air traffic controllers' union, anti-communist, Asian financial crisis, asset-backed security, bank run, banks create money, Basel III, Berlin Wall, Big bang: deregulation of the City of London, Bretton Woods, BRICs, British Empire, capital controls, central bank independence, colonial exploitation, colonial rule, continuation of politics by other means, currency risk, dark matter, Edward Snowden, Fall of the Berlin Wall, financial innovation, financial intermediation, foreign exchange controls, Francis Fukuyama: the end of history, G4S, global value chain, Goldman Sachs: Vampire Squid, interest rate derivative, interest rate swap, Irish property bubble, Leo Hollis, linked data, London Interbank Offered Rate, London Whale, Londongrad, low interest rates, Mark Zuckerberg, Martin Wolf, means of production, Money creation, money market fund, mortgage debt, North Sea oil, Northern Rock, Occupy movement, offshore financial centre, plutocrats, purchasing power parity, quantitative easing, Real Time Gross Settlement, regulatory arbitrage, reserve currency, Ronald Reagan, seigniorage, Sharpe ratio, sovereign wealth fund, Suez crisis 1956, The Great Moderation, transaction costs, transfer pricing, zero-sum game

The banks’ sale of mortgage securities played a major role in the expansion of mortgage debt to more and more borrowers, including in the end to those who were in no position to pay that debt back. Banks also create other kinds of security, known as derivatives, for hedging and speculative purposes. These include interest rate swaps, and futures and options on interest rates and currency values. They appear on a bank’s balance sheet as an asset or a liability, and the banks also earn dealing margins and other fees when they buy or sell derivatives. While derivatives are part of a bank’s business dealings, they are not capital invested in a bank’s or any other company’s operations.

Table 8.4 shows London’s even stronger dominance in the ‘over-the-counter’ (OTC) interest rate derivatives market – where trading is done directly between banks and their customers, not on a financial exchange. This global business, of which London has nearly half, began only in the 1980s, but it forms the biggest part of the derivatives market, principally made up from the trading of interest rate swaps. In these transactions, companies and dealers exchange with their counterparties one form of interest payment for another, usually an interest rate that is fixed over a number of years for a rate set according to market conditions every six months. Other trading of derivatives takes place on exchanges, and the US is home to the biggest of these, mainly based in Chicago.


pages: 354 words: 26,550

High-Frequency Trading: A Practical Guide to Algorithmic Strategies and Trading Systems by Irene Aldridge

algorithmic trading, asset allocation, asset-backed security, automated trading system, backtesting, Black Swan, Brownian motion, business cycle, business process, buy and hold, capital asset pricing model, centralized clearinghouse, collapse of Lehman Brothers, collateralized debt obligation, collective bargaining, computerized trading, diversification, equity premium, fault tolerance, financial engineering, financial intermediation, fixed income, global macro, high net worth, implied volatility, index arbitrage, information asymmetry, interest rate swap, inventory management, Jim Simons, law of one price, Long Term Capital Management, Louis Bachelier, machine readable, margin call, market friction, market microstructure, martingale, Myron Scholes, New Journalism, p-value, paper trading, performance metric, Performance of Mutual Funds in the Period, pneumatic tube, profit motive, proprietary trading, purchasing power parity, quantitative trading / quantitative finance, random walk, Renaissance Technologies, risk free rate, risk tolerance, risk-adjusted returns, risk/return, Sharpe ratio, short selling, Small Order Execution System, statistical arbitrage, statistical model, stochastic process, stochastic volatility, systematic trading, tail risk, trade route, transaction costs, value at risk, yield curve, zero-sum game

Spot trading in both interest rate products and bonds implies instantaneous or “on-the-spot” delivery and transfer of possession of the traded security. Futures trading denotes delivery and transfer of possession at a prespecified date. Swap trading is a contractual transfer of cash flows between two parties. Interest rate swaps may specify swapping of a fixed rate for a floating rate; bond swaps refer mostly to a trading strategy whereby the investor sells one bond and buys another at a comparable price, but with different characteristics. In fixed-income markets, many investors are focused on the product payouts rather than on the prices of the investments themselves.

Instead of pricing default risk into the rate explicitly, exchanges trading interest rate futures require borrowers to post collateral accounts that reflect the creditworthiness of the borrower. Swap products are the most populous interest rate category, yet most still trade OTC. Selected swap products have made inroads into electronic trading. CME Group, for example, has created electronic programs for 30day Fed Funds futures and CBOT 5-year, 10-year, and 30-year interest rate swap futures; 30-day Fed Funds options; 2-year, 5-year and 10-year Treasury note options; and Treasury bond options. As Table 4.2 shows, however, electronic trading volumes of interest rate products remain limited. Bond Markets Bonds are publicly issued debt obligations. Bonds can be issued by a virtual continuum of organizations ranging from federal governments through local governments to publicly held corporations.


pages: 576 words: 105,655

Austerity: The History of a Dangerous Idea by Mark Blyth

"there is no alternative" (TINA), accounting loophole / creative accounting, Alan Greenspan, balance sheet recession, bank run, banking crisis, Bear Stearns, Black Swan, book value, Bretton Woods, business cycle, buy and hold, capital controls, Carmen Reinhart, Celtic Tiger, central bank independence, centre right, collateralized debt obligation, correlation does not imply causation, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, debt deflation, deindustrialization, disintermediation, diversification, en.wikipedia.org, ending welfare as we know it, Eugene Fama: efficient market hypothesis, eurozone crisis, financial engineering, financial repression, fixed income, floating exchange rates, Fractional reserve banking, full employment, German hyperinflation, Gini coefficient, global reserve currency, Greenspan put, Growth in a Time of Debt, high-speed rail, Hyman Minsky, income inequality, information asymmetry, interest rate swap, invisible hand, Irish property bubble, Joseph Schumpeter, Kenneth Rogoff, liberal capitalism, liquidationism / Banker’s doctrine / the Treasury view, Long Term Capital Management, low interest rates, market bubble, market clearing, Martin Wolf, Minsky moment, money market fund, moral hazard, mortgage debt, mortgage tax deduction, Occupy movement, offshore financial centre, paradox of thrift, Philip Mirowski, Phillips curve, Post-Keynesian economics, price stability, quantitative easing, rent-seeking, reserve currency, road to serfdom, Robert Solow, savings glut, short selling, structural adjustment programs, tail risk, The Great Moderation, The Myth of the Rational Market, The Wealth of Nations by Adam Smith, Tobin tax, too big to fail, Two Sigma, unorthodox policies, value at risk, Washington Consensus, zero-sum game

Equities will decline in value, commodities too, as global demand weakens, and housing, outside a few markets, is not going to be increasing in value at 7 to 10 percent a year anytime soon. But deprived of fuel for the asset cycle, all those wonderful paper assets that can be based off these booms—commodity ETFs, interest rate swaps, CDOs and CDSs—to name but a few—will cease to be the great money machine that they have been to date. Having pumped and dumped every asset class on the planet, finance may have exhausted its own growth model. The banks’ business model for the past twenty-five years may be dying. If so, saving it in the bust is merely, and most expensively, prolonging the agony.

(with Keynes), 123, 124–125 Henry, James, 244 Hirschman, Albert, 39, 100, 108, 109 Holland, 4 Hoover, Herbert, 119, 187 Hubbard, Glenn, 243 Hume, David, 17, 100–101, 167 on government debt, 107, 108–109 “On Money”, 107 producing austerity, 114–115 relationship between and market and the state, 115–122, 123 Hungary and austerity, 221 hyperinflation in the 1920s, 56 Hutchinson, Martin, 207, 209 Iceland bailout in, 231 economic strategies in, 235–240 Stock Exchange, 237 inflation, 240, 241 ING, 83 Inoue, Junnosuke, 198, 200 Inside Job, (documentary), 21 interest rate swaps, 234 international capital-flow cycle, 11 International Monetary Fund, 3, 17, 45, 55 and austerity, 122, 206, 213, 221 and bailouts, 71–73, 221 and loans to Ireland, 235 and the Bretton Woods institutions, 162–163 and the consolidation in Denmark, 207 and the hidden “Treasury View”, 163–165 and the situation in Iceland, 238–239 and the success of the REBLL states, 216 and “the Washington consensus”, 102, 161–163, 164 Polak model, 163–165 World Economic Outlook, 212, 215 See also Kahn, Dominique Strauss Ireland, 3, 4, 5, 205, 222 austerity in, 17, 169–170, 179, 205, 206 expansion, 207–208, 209 bailout in, 221, 231 capital-flow cycle in, 11 economic strategies in, 235–240 Eurozone current account imbalances, 78 fig. 3.1 Eurozone Ten-Year Government Bond Yields, 80 fig. 3.2 fiscal adjustment in, 173 government debt 2006–2012, 46, 47, 53, 62, 65, 66 real estate in rise in prices, 27, 64–68 Italy, 1, 3, 4, 5, 222 Eurozone Current Account Imbalances, 78 fig. 3.1 Eurozone Ten-Year Government Bond Yields, 80 fig. 3.2 fiscal adjustment in, 173 government debt 2006–2012, 47, 53, 62 slow growth crisis, 68–71 slow-growth problem, 69 sovereign debt of, 108 Janeway, Bill, 125 Jayadev, Arjun, 212, 213 Japan and Keynesianism, 225 and the London Naval Treaty, 199, d austerity in, 17, 178–180, 197–200, 204 Bank of Japan, 197 Seiyukai party, 199 Showa Depression, 198 See also Hamaguchi, Prime Minister; Korekiyo, Takahashi Johnson, Simon, 11, 72 Kahn, Dominique Strauss, 222 Kahn, R.


pages: 393 words: 115,263

Planet Ponzi by Mitch Feierstein

Affordable Care Act / Obamacare, Alan Greenspan, Albert Einstein, Asian financial crisis, asset-backed security, bank run, banking crisis, barriers to entry, Bear Stearns, Bernie Madoff, book value, break the buck, centre right, collapse of Lehman Brothers, collateralized debt obligation, commoditize, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Daniel Kahneman / Amos Tversky, disintermediation, diversification, Donald Trump, energy security, eurozone crisis, financial innovation, financial intermediation, fixed income, Flash crash, floating exchange rates, frictionless, frictionless market, Future Shock, Glass-Steagall Act, government statistician, high net worth, High speed trading, illegal immigration, income inequality, interest rate swap, invention of agriculture, junk bonds, light touch regulation, Long Term Capital Management, low earth orbit, low interest rates, mega-rich, money market fund, moral hazard, mortgage debt, negative equity, Neil Armstrong, Northern Rock, obamacare, offshore financial centre, oil shock, pensions crisis, plutocrats, Ponzi scheme, price anchoring, price stability, proprietary trading, purchasing power parity, quantitative easing, risk tolerance, Robert Shiller, Ronald Reagan, tail risk, too big to fail, trickle-down economics, value at risk, yield curve

So, for example, if you are paying a floating interest rate on some debt, and you’d prefer to pay a fixed interest rate instead, you and I could arrange a deal whereby we enter into a interest rate swap agreement. I’ll pay you a floating rate‌—‌for example, three-month Libor. In exchange, you pay me an agreed fixed rate‌—‌for example, 4%. In effect, you’ve swapped your floating rate obligation for a fixed rate obligation. That achieves your objective. Now, if you borrowed $100 million in the first place, and if our interest rate swap was for that full $100 million, then the notional principal outstanding is $100 million. That doesn’t, however, mean that anything like that amount of cash is at stake.


pages: 320 words: 33,385

Market Risk Analysis, Quantitative Methods in Finance by Carol Alexander

asset allocation, backtesting, barriers to entry, Brownian motion, capital asset pricing model, constrained optimization, credit crunch, Credit Default Swap, discounted cash flows, discrete time, diversification, diversified portfolio, en.wikipedia.org, financial engineering, fixed income, implied volatility, interest rate swap, low interest rates, market friction, market microstructure, p-value, performance metric, power law, proprietary trading, quantitative trading / quantitative finance, random walk, risk free rate, risk tolerance, risk-adjusted returns, risk/return, seminal paper, Sharpe ratio, statistical arbitrage, statistical model, stochastic process, stochastic volatility, systematic bias, Thomas Bayes, transaction costs, two and twenty, value at risk, volatility smile, Wiener process, yield curve, zero-sum game

Financial firms, of course, should be the experts at managing market risks; it is their métier. Indeed, over the last generation, there has been a marked increase in the size of market risks handled by banks in comparison to a reduction in the size of their credit risks. Since the 1980s, banks have provided products (e.g. interest rate swaps, currency protection, index linked loans, capital guaranteed investments) to facilitate the risk management of their customers. They have also built up arbitrage and proprietary trading books to profit from perceived market anomalies and take advantage of their market views. More recently, banks have started to manage credit risks actively by transferring them to the capital markets instead of warehousing them.

The first and second derivatives of an investor’s utility function tell us whether the investor is risk averse, risk loving or risk neutral. 2 Quantitative Methods in Finance context refers to a financial instrument that is a contract on a contract, such as a futures contract on an interest rate, or an option on an interest rate swap.3 We shall employ numerous sensitivities throughout these volumes. For instance, the first order yield sensitivity of a bond is called the modified duration. This is the first partial derivative of the bond price with respect to the yield, expressed as a percentage of the price; and the second order yield sensitivity of a bond is called the convexity.


pages: 435 words: 127,403

Panderer to Power by Frederick Sheehan

Alan Greenspan, Asian financial crisis, asset-backed security, bank run, banking crisis, Bear Stearns, book value, Bretton Woods, British Empire, business cycle, buy and hold, California energy crisis, call centre, central bank independence, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, deindustrialization, diversification, financial deregulation, financial innovation, full employment, Glass-Steagall Act, Greenspan put, guns versus butter model, inflation targeting, interest rate swap, inventory management, Isaac Newton, John Meriwether, junk bonds, low interest rates, margin call, market bubble, Mary Meeker, McMansion, Menlo Park, Michael Milken, money market fund, mortgage debt, Myron Scholes, new economy, Nixon triggered the end of the Bretton Woods system, Norman Mailer, Northern Rock, oil shock, Paul Samuelson, place-making, Ponzi scheme, price stability, reserve currency, rising living standards, Robert Solow, rolodex, Ronald Reagan, Sand Hill Road, Savings and loan crisis, savings glut, shareholder value, Silicon Valley, Silicon Valley startup, South Sea Bubble, stock buybacks, stocks for the long run, supply-chain management, supply-chain management software, The Great Moderation, too big to fail, transaction costs, trickle-down economics, VA Linux, Y2K, Yom Kippur War, zero-sum game

Banks have counterparty risk to their borrowers: the borrower may not repay a loan. That was a concern when the value of LTCM’s collateral fell below the amount of money it had borrowed. There is also counterparty risk in a derivative contract. A hypothetical example: when Citigroup and J. P. Morgan enter an interest-rate swap, Citigroup will receive floating-rate interest payments every six months, and J. P. Morgan will receive fixed-rate interest payments at the same time.5 The interest-rate payments are computed based on a principal amount upon which the interest is earned: $100 million, for instance. The “counterparty” risk is that one of the participants fails and cannot pay back the $100 million of principal.

A staffer offered more bad news: “The off-balance-sheet leverage was 100 to 1 or 200 to 1—I don’t know how to calculate it.”17 The staffer wasn’t alone. 14 Ibid., p. 118. 15 Ibid., pp. 110–111. 16 Ibid., p. 108. 17 Ibid., p. 108. Greenspan’s “first line of regulatory defense” didn’t know whether LTCM was trading interest-rate swaps or stolen cars. Greenspan expressed his exasperation several times during the meeting: “It is one thing for one bank to have failed to appreciate what was happening to [LTCM], but this list of institutions is just mind boggling.”18 So boggled was the man that Greenspan (and his successor Ben Bernanke) allowed the commercial banking system to leverage as never before, writing over $100 trillion worth of derivatives contracts between then and 2008—without so much as a dollar bill of reserves for these off-balance-sheet structures.


pages: 471 words: 124,585

The Ascent of Money: A Financial History of the World by Niall Ferguson

Admiral Zheng, Alan Greenspan, An Inconvenient Truth, Andrei Shleifer, Asian financial crisis, asset allocation, asset-backed security, Atahualpa, bank run, banking crisis, banks create money, Bear Stearns, Black Monday: stock market crash in 1987, Black Swan, Black-Scholes formula, Bonfire of the Vanities, Bretton Woods, BRICs, British Empire, business cycle, capital asset pricing model, capital controls, Carmen Reinhart, Cass Sunstein, central bank independence, classic study, collateralized debt obligation, colonial exploitation, commoditize, Corn Laws, corporate governance, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, Daniel Kahneman / Amos Tversky, deglobalization, diversification, diversified portfolio, double entry bookkeeping, Edmond Halley, Edward Glaeser, Edward Lloyd's coffeehouse, equity risk premium, financial engineering, financial innovation, financial intermediation, fixed income, floating exchange rates, Fractional reserve banking, Francisco Pizarro, full employment, Future Shock, German hyperinflation, Greenspan put, Herman Kahn, Hernando de Soto, high net worth, hindsight bias, Home mortgage interest deduction, Hyman Minsky, income inequality, information asymmetry, interest rate swap, Intergovernmental Panel on Climate Change (IPCC), Isaac Newton, iterative process, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", John Meriwether, joint-stock company, joint-stock limited liability company, Joseph Schumpeter, junk bonds, Kenneth Arrow, Kenneth Rogoff, knowledge economy, labour mobility, Landlord’s Game, liberal capitalism, London Interbank Offered Rate, Long Term Capital Management, low interest rates, market bubble, market fundamentalism, means of production, Mikhail Gorbachev, Modern Monetary Theory, Money creation, money market fund, money: store of value / unit of account / medium of exchange, moral hazard, mortgage debt, mortgage tax deduction, Myron Scholes, Naomi Klein, National Debt Clock, negative equity, Nelson Mandela, Nick Bostrom, Nick Leeson, Northern Rock, Parag Khanna, pension reform, price anchoring, price stability, principal–agent problem, probability theory / Blaise Pascal / Pierre de Fermat, profit motive, quantitative hedge fund, RAND corporation, random walk, rent control, rent-seeking, reserve currency, Richard Thaler, risk free rate, Robert Shiller, rolling blackouts, Ronald Reagan, Savings and loan crisis, savings glut, seigniorage, short selling, Silicon Valley, South Sea Bubble, sovereign wealth fund, spice trade, stocks for the long run, structural adjustment programs, subprime mortgage crisis, tail risk, technology bubble, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, Thomas Bayes, Thomas Malthus, Thorstein Veblen, tontine, too big to fail, transaction costs, two and twenty, undersea cable, value at risk, W. E. B. Du Bois, Washington Consensus, Yom Kippur War

An explosion of ‘securitization’, whereby individual debts like mortgages are ‘tranched’ then bundled together and repackaged for sale, pushed the total annual issuance of mortgage backed securities, asset-backed securities and collateralized debt obligations above $3 trillion. The volume of derivatives - contracts derived from securities, such as interest rate swaps or credit default swaps (CDS) - has grown even faster, so that by the end of 2007 the notional value of all ‘over-the-counter’ derivatives (excluding those traded on public exchanges) was just under $600 trillion. Before the 1980s, such things were virtually unknown. New institutions, too, have proliferated.

A put option is just the opposite: the buyer has the right, but not the obligation, to sell an agreed quantity of something to the seller of the option. A third kind of derivative is the swap, which is effectively a bet between two parties on, for example, the future path of interest rates. A pure interest rate swap allows two parties already receiving interest payments literally to swap them, allowing someone receiving a variable rate of interest to exchange it for a fixed rate, in case interest rates decline. A credit default swap, meanwhile, offers protection against a company’s defaulting on its bonds.


pages: 1,242 words: 317,903

The Man Who Knew: The Life and Times of Alan Greenspan by Sebastian Mallaby

airline deregulation, airport security, Alan Greenspan, Alvin Toffler, Andrei Shleifer, anti-communist, Asian financial crisis, balance sheet recession, bank run, barriers to entry, Bear Stearns, behavioural economics, Benoit Mandelbrot, Black Monday: stock market crash in 1987, bond market vigilante , book value, Bretton Woods, business cycle, central bank independence, centralized clearinghouse, classic study, collateralized debt obligation, conceptual framework, corporate governance, correlation does not imply causation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, Dr. Strangelove, energy security, equity premium, fiat currency, financial deregulation, financial engineering, financial innovation, fixed income, Flash crash, forward guidance, full employment, Future Shock, Glass-Steagall Act, Greenspan put, Hyman Minsky, inflation targeting, information asymmetry, interest rate swap, inventory management, invisible hand, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", junk bonds, Kenneth Rogoff, Kickstarter, Kitchen Debate, laissez-faire capitalism, Lewis Mumford, Long Term Capital Management, low interest rates, low skilled workers, market bubble, market clearing, Martin Wolf, Money creation, money market fund, moral hazard, mortgage debt, Myron Scholes, Neil Armstrong, new economy, Nixon shock, Nixon triggered the end of the Bretton Woods system, Northern Rock, paper trading, paradox of thrift, Paul Samuelson, Phillips curve, plutocrats, popular capitalism, price stability, RAND corporation, Reminiscences of a Stock Operator, rent-seeking, Robert Shiller, Robert Solow, rolodex, Ronald Reagan, Saturday Night Live, Savings and loan crisis, savings glut, secular stagnation, short selling, stock buybacks, subprime mortgage crisis, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, Tipper Gore, too big to fail, trade liberalization, unorthodox policies, upwardly mobile, We are all Keynesians now, WikiLeaks, women in the workforce, Y2K, yield curve, zero-sum game

According to the ISDA market surveys, the notional value of outstanding currency and interest-rate swaps rose from $11.3 trillion in H2 1994 to $37 trillion in H1 1998. “Market Surveys Data, 1987–2010” (International Swaps and Derivatives Association, Inc., June 30, 2010). 8. Robert Rubin and Jacob Weisberg, In an Uncertain World: Tough Choices from Wall Street to Washington (New York: Random House, 2003), 287–88. 9. It is sometimes pointed out that Born’s concerns related mainly to interest-rate swaps, not to the credit-default swaps that proved dangerous when the insurer AIG failed in 2008.

Firms such as Morgan Stanley assembled teams of scientists to apply ideas like chaos theory to markets, and hedge funds such as Long-Term Capital Management began to bet not on the direction of a market’s move but rather on how far it would move in either direction. The sheer speed with which derivatives proliferated was remarkable. As of the end of 1987, the face value of privately negotiated derivatives—mostly interest-rate swaps—amounted to under $1 trillion. Seven years later, the number had soared more than tenfold, reaching $11 trillion.1 In the wake of the disasters at Orange County, Procter & Gamble, and Gibson Greeting Cards, Fortune’s Carol Loomis did her best to understand what was happening. Loomis was the doyenne of financial journalists, the writer who had exposed the workings of the first ever “hedged fund”—she was not easily bamboozled.

It is sometimes pointed out that Born’s concerns related mainly to interest-rate swaps, not to the credit-default swaps that proved dangerous when the insurer AIG failed in 2008. But if Born’s instincts on central clearing and margin requirements had been adopted for interest-rate swaps, the same principles would presumably have been applied to credit-default swaps as that market developed in the next decade. Further, it is true that Born did not present a fully fleshed-out proposal; rather, the CFTC issued a “concept release,” consisting of a laundry list of discussion points, and Timothy Geithner, then at the Treasury, recalls her ideas as “mostly impenetrable.” But the implication of the release was that the over-the-counter market would benefit from safer foundations.


pages: 566 words: 155,428

After the Music Stopped: The Financial Crisis, the Response, and the Work Ahead by Alan S. Blinder

Affordable Care Act / Obamacare, Alan Greenspan, asset-backed security, bank run, banking crisis, banks create money, Bear Stearns, book value, break the buck, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, conceptual framework, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, Detroit bankruptcy, diversification, double entry bookkeeping, eurozone crisis, facts on the ground, financial engineering, financial innovation, fixed income, friendly fire, full employment, Glass-Steagall Act, hiring and firing, housing crisis, Hyman Minsky, illegal immigration, inflation targeting, interest rate swap, Isaac Newton, junk bonds, Kenneth Rogoff, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, low interest rates, market bubble, market clearing, market fundamentalism, McMansion, Minsky moment, money market fund, moral hazard, naked short selling, new economy, Nick Leeson, Northern Rock, Occupy movement, offshore financial centre, Paul Volcker talking about ATMs, price mechanism, proprietary trading, quantitative easing, Ralph Waldo Emerson, Robert Shiller, Robert Solow, Ronald Reagan, Savings and loan crisis, shareholder value, short selling, South Sea Bubble, statistical model, the payments system, time value of money, too big to fail, vertical integration, working-age population, yield curve, Yogi Berra

While their ancestry dates back centuries, modern financial derivatives really came into their own in the late 1980s and early 1990s. The International Swaps and Derivatives Association (ISDA), the industry’s trade association, estimates that the notional value of outstanding privately negotiated derivatives—mostly interest-rate swaps—amounted to under $1 trillion at the end of 1987. But they grew like kudzu, to $11 trillion by the end of 1992 and a staggering $69 trillion by 2001. WHAT IS A DERIVATIVE? “Derivative” is a generic term for any security or contract whose value is derived from that of some underlying natural security, such as a stock or a bond.

See Interest-rate spreads time value of money, 29 unconventional tactics by Fed. See Unconventional monetary policy (UMP) Interest-rate spreads, 237–43 and bond-related risk, 41–42 and European crisis, 410 in normal economy, 239, 241 quantitative easing (QE) to reduce, 248–56 reducing, methods of, 242–43 widening and crisis, 237–40 Interest-rate swaps, 60 International Swaps and Derivatives Association (ISDA), 60 Internet bubble, 35, 38 Investment banks Bulge Bracket firms. See Bear Stearns; Goldman Sachs; Lehman Brothers; Merrill Lynch; Morgan Stanley credit-ratings, manipulation of, 80–81 as derivative broker-dealers, 61 executive compensation, 81–84 federal bailouts for.


pages: 244 words: 58,247

The Gone Fishin' Portfolio: Get Wise, Get Wealthy...and Get on With Your Life by Alexander Green

Alan Greenspan, Albert Einstein, asset allocation, asset-backed security, backtesting, behavioural economics, borderless world, buy and hold, buy low sell high, cognitive dissonance, diversification, diversified portfolio, Elliott wave, endowment effect, Everybody Ought to Be Rich, financial independence, fixed income, framing effect, hedonic treadmill, high net worth, hindsight bias, impulse control, index fund, interest rate swap, Johann Wolfgang von Goethe, John Bogle, junk bonds, Long Term Capital Management, means of production, mental accounting, Michael Milken, money market fund, Paul Samuelson, Ponzi scheme, risk tolerance, risk-adjusted returns, short selling, statistical model, stocks for the long run, sunk-cost fallacy, transaction costs, Vanguard fund, yield curve

The fund’s non-inflation-indexed holdings may include the following:• Corporate debt obligations • U.S. government and agency bonds • Cash investments • Futures, options, and other derivatives • Restricted or illiquid securities • Mortgage dollar rolls The fund may invest up to 20% of its total assets in bond futures contracts, options, credit swaps, interest rate swaps, and other types of derivatives. These contracts may be used to keep cash on hand to meet shareholder redemptions or other needs while simulating full investment in bonds, to reduce transaction costs, for hedging purposes, or to add value when these instruments are favorably priced. Losses (or gains) involving futures can be substantial—in part because a relatively small price movement in a futures contract may result in an immediate and substantial loss (or gain) for the fund.


pages: 195 words: 63,455

Damsel in Distressed: My Life in the Golden Age of Hedge Funds by Dominique Mielle

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", activist fund / activist shareholder / activist investor, airline deregulation, Alan Greenspan, banking crisis, Bear Stearns, Black Monday: stock market crash in 1987, blood diamond, Boris Johnson, British Empire, call centre, capital asset pricing model, Carl Icahn, centre right, collateralized debt obligation, Cornelius Vanderbilt, coronavirus, COVID-19, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, diversification, Donald Trump, Elon Musk, Eugene Fama: efficient market hypothesis, family office, fear of failure, financial innovation, fixed income, full employment, glass ceiling, high net worth, hockey-stick growth, index fund, intangible asset, interest rate swap, John Meriwether, junk bonds, Larry Ellison, lateral thinking, Long Term Capital Management, low interest rates, managed futures, mega-rich, merger arbitrage, Michael Milken, Myron Scholes, Northpointe / Correctional Offender Management Profiling for Alternative Sanctions, offshore financial centre, Paul Samuelson, profit maximization, Reminiscences of a Stock Operator, risk free rate, risk tolerance, risk-adjusted returns, satellite internet, Savings and loan crisis, Sharpe ratio, Sheryl Sandberg, SoftBank, survivorship bias, Tesla Model S, too big to fail, tulip mania, union organizing

Lehman was the liquidity provider for many funds and countless companies, a critical piece of the Wall Street maze in which all the players were hopelessly intertwined. Canyon, like every hedge fund, used Lehman as a counterparty, or a trading partner. We had not been only sitting on pending trades where we had sold them stocks, bonds and loans, but also ongoing contracts, credit and interest rate swaps, warehousing lines, you name it. So when Lehman’s stock started falling, from $65 per share at the beginning of 2008 to $12 in July, and rumors of a potential insolvency could be validated by an even cursory analysis of the cash balance, it became clear that left to its own fate, Lehman would unravel.


Digital Accounting: The Effects of the Internet and Erp on Accounting by Ashutosh Deshmukh

accounting loophole / creative accounting, AltaVista, book value, business continuity plan, business intelligence, business logic, business process, call centre, computer age, conceptual framework, corporate governance, currency risk, data acquisition, disinformation, dumpster diving, fixed income, hypertext link, information security, interest rate swap, inventory management, iterative process, late fees, machine readable, money market fund, new economy, New Journalism, optical character recognition, packet switching, performance metric, profit maximization, semantic web, shareholder value, six sigma, statistical model, supply chain finance, supply-chain management, supply-chain management software, telemarketer, transaction costs, value at risk, vertical integration, warehouse automation, web application, Y2K

XML-based languages and accounting cycles Accounting Cycle Transaction Type Revenue Cycle • • • • • Sales order Credit approval Shipping Billing Payment Expenditure Cycle • • • • • Review of inventory Choosing a supplier Purchase order Receipt of goods Receipt and payment of the bill Conversion Cycle • Product design • Production planning and control • Manufacturing • Inventory control • Source journals • General ledger • Financial reporting • Derivatives, interest rate swaps • Capital markets • Transfer of financial data Financial Reporting Finance XML Application ebXML BASDA e-Business XML BizCodes cXML ECML IOPT VISA XML Specification XML Voucher BIPS cXML eCX XML XML-EDI ECML IOPT VISA XML Specification XML Voucher BIPS XML UPS Tracking PDML PDX XBRL fpML FinXML FIXML RIXML MDML IFX OFX can be directly exchanged between different accounting applications.

Financial Management, Strategic Management and Digital Accounting 295 Corporate Treasury Functions Corporate treasury functions include cash management, investment and debt management, financial risk management and investor relations. This is a catchall description, not an authoritative definition, and there is considerable overlap in these classifications. Treasury functions also deal with complex financial areas, such as foreign exchange rates, derivatives and interest rate swaps, among other things. Treasury functions also might differ between, say, a manufacturing firm and a bank. These treasury functions have changed due to Web-based tools and technologies. The pace of change is uneven; several years ago e-treasury or virtual treasury was projected to be a fait accompli for corporations.


pages: 192 words: 72,822

Freedom Without Borders by Hoyt L. Barber

accounting loophole / creative accounting, Affordable Care Act / Obamacare, Albert Einstein, banking crisis, diversification, El Camino Real, estate planning, fiat currency, financial engineering, financial independence, fixed income, high net worth, illegal immigration, interest rate swap, money market fund, obamacare, offshore financial centre, passive income, quantitative easing, reserve currency, road to serfdom, selective serotonin reuptake inhibitor (SSRI), subprime mortgage crisis, too big to fail

The capitalization and qualification requirements are reasonable. Licensing also includes an excellent correspondent bank relationship. 30 Freedom Without Borders The bank has full power and authority to conduct all banking business that banks in Europe and North America can do (e.g., it can offer CDs and bank paper of all kinds, trade currencies, do interest rate swaps, and offer mortgages). It can conduct banking business with any client in any part of the world, except for the jurisdiction where it’s chartered and licensed. A Class 1 banking license has no requirements or limits on lending, with the exception that the bank may not lend out any loans or advances to directors or shareholders in excess of 1 percent of paid- in capital.


The Handbook of Personal Wealth Management by Reuvid, Jonathan.

asset allocation, banking crisis, BRICs, business cycle, buy and hold, carbon credits, collapse of Lehman Brothers, correlation coefficient, credit crunch, cross-subsidies, currency risk, diversification, diversified portfolio, estate planning, financial deregulation, fixed income, global macro, high net worth, income per capita, index fund, interest rate swap, laissez-faire capitalism, land tenure, low interest rates, managed futures, market bubble, merger arbitrage, negative equity, new economy, Northern Rock, pattern recognition, Ponzi scheme, prediction markets, proprietary trading, Right to Buy, risk tolerance, risk-adjusted returns, risk/return, short selling, side project, sovereign wealth fund, statistical arbitrage, systematic trading, transaction costs, yield curve

Specialists can help evaluate an aircraft’s integrity and history of maintenance and damage, as ____________________________________________________ ADVISORY SERVICES 49 ឣ well as the fairness of the seller’s asking price. It is important to go through these steps so undisclosed damage can be uncovered. Buyers will need to choose from an extensive choice of credit structures, including fixed and variable-rate loans, flexible lines of credit and innovative interest-rate swaps. Lending terms and payment schedules can be designed to accommodate the client’s specific requirements, including issues pertaining to tax efficiency, cash-flow management and other financial goals. In addition, refinancing can be a valuable way to free up some of the equity in an aircraft that is owned outright.


pages: 192 words: 75,440

Getting a Job in Hedge Funds: An Inside Look at How Funds Hire by Adam Zoia, Aaron Finkel

backtesting, barriers to entry, Bear Stearns, collateralized debt obligation, commodity trading advisor, Credit Default Swap, credit default swaps / collateralized debt obligations, deal flow, discounted cash flows, family office, financial engineering, fixed income, global macro, high net worth, interest rate derivative, interest rate swap, Long Term Capital Management, managed futures, merger arbitrage, offshore financial centre, proprietary trading, random walk, Renaissance Technologies, risk-adjusted returns, rolodex, short selling, side project, statistical arbitrage, stock buybacks, stocks for the long run, systematic trading, two and twenty, unpaid internship, value at risk, yield curve, yield management

Positions are designed to generate profits from the fixed income security as well as the short sale of stock, while protecting principal from market moves. Fixed Income Arbitrage A fund that follows this strategy aims to profit from price anomalies between related interest rate securities. Most managers trade globally with a goal of generating steady returns with low volatility. This category includes interest rate swap arbitrage, U.S. and non-U.S. government bond arbitrage, forward yield curve arbitrage, and mortgage-backed securities (MBS) arbitrage. The mortgage-backed market is primarily U.S.-based, over-the-counter (OTC), and particularly complex. Note: Fixed income arbitrage is a generic description of a variety of strategies involving investments in fixed income instruments, and weighted in an attempt to eliminate or reduce exposure to changes in the yield curve.


pages: 209 words: 13,138

Empirical Market Microstructure: The Institutions, Economics and Econometrics of Securities Trading by Joel Hasbrouck

Alvin Roth, barriers to entry, business cycle, conceptual framework, correlation coefficient, discrete time, disintermediation, distributed generation, experimental economics, financial intermediation, index arbitrage, information asymmetry, interest rate swap, inventory management, market clearing, market design, market friction, market microstructure, martingale, payment for order flow, power law, price discovery process, price discrimination, quantitative trading / quantitative finance, random walk, Richard Thaler, second-price auction, selection bias, short selling, statistical model, stochastic process, stochastic volatility, transaction costs, two-sided market, ultimatum game, zero-sum game

Many of the same financial institutions that rely heavily on electronic access to markets have also gone to great lengths and expense to maintain the trading operations for their diverse markets together on large, contiguous trading floors. This facilitates coordination when a deal involves multiple markets. The pricing and offering of a corporate bond, for example, might well involve the government bond, interest-rate swap, credit swap, and/or the interest rate futures desks. Thus, while no longer necessary to realize (in a single market) economies of scale, personal proximity may promote (across multiple markets) economies of scope. 2.3 Dealers 2.3.1 Dealer Markets A dealer is simply an intermediary who is willing to act as a counterparty for the trades of his customers.


pages: 322 words: 77,341

I.O.U.: Why Everyone Owes Everyone and No One Can Pay by John Lanchester

Alan Greenspan, asset-backed security, bank run, banking crisis, Bear Stearns, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Black Monday: stock market crash in 1987, Black-Scholes formula, Blythe Masters, Celtic Tiger, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, Daniel Kahneman / Amos Tversky, diversified portfolio, double entry bookkeeping, Exxon Valdez, Fall of the Berlin Wall, financial deregulation, financial engineering, financial innovation, fixed income, George Akerlof, Glass-Steagall Act, greed is good, Greenspan put, hedonic treadmill, hindsight bias, housing crisis, Hyman Minsky, intangible asset, interest rate swap, invisible hand, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", Jane Jacobs, John Maynard Keynes: Economic Possibilities for our Grandchildren, John Meriwether, junk bonds, Kickstarter, laissez-faire capitalism, light touch regulation, liquidity trap, Long Term Capital Management, loss aversion, low interest rates, Martin Wolf, money market fund, mortgage debt, mortgage tax deduction, mutually assured destruction, Myron Scholes, negative equity, new economy, Nick Leeson, Norman Mailer, Northern Rock, off-the-grid, Own Your Own Home, Ponzi scheme, quantitative easing, reserve currency, Right to Buy, risk-adjusted returns, Robert Shiller, Ronald Reagan, Savings and loan crisis, shareholder value, South Sea Bubble, statistical model, Tax Reform Act of 1986, The Great Moderation, the payments system, too big to fail, tulip mania, Tyler Cowen, value at risk

The boom began with the Reagan years, and it only gained strength with the deregulatory policies of the Bill Clinton and George W. Bush administrations. Several other factors helped fuel the financial industry’s ascent. Paul Volcker’s monetary policy in the 1980s, and the increased volatility in interest rates that accompanied it, made bond trading much more lucrative. The invention of securitization, interest rate swaps, and credit default swaps greatly increased the volume of transactions that bankers could make money on. And the aging and increasingly wealthy population invested more and more money in securities, helped by the invention of the IRA and the 401(k) plan. Together, these developments vastly increased the profit opportunities in financial services.


pages: 253 words: 79,214

The Money Machine: How the City Works by Philip Coggan

activist fund / activist shareholder / activist investor, algorithmic trading, asset-backed security, Bear Stearns, Bernie Madoff, Big bang: deregulation of the City of London, Black Monday: stock market crash in 1987, bond market vigilante , bonus culture, Bretton Woods, call centre, capital controls, carried interest, central bank independence, collateralized debt obligation, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, disintermediation, diversification, diversified portfolio, Edward Lloyd's coffeehouse, endowment effect, financial deregulation, financial independence, floating exchange rates, foreign exchange controls, Glass-Steagall Act, guns versus butter model, Hyman Minsky, index fund, intangible asset, interest rate swap, inverted yield curve, Isaac Newton, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", joint-stock company, junk bonds, labour market flexibility, large denomination, London Interbank Offered Rate, Long Term Capital Management, low interest rates, merger arbitrage, Michael Milken, money market fund, moral hazard, mortgage debt, negative equity, Nick Leeson, Northern Rock, pattern recognition, proprietary trading, purchasing power parity, quantitative easing, reserve currency, Right to Buy, Ronald Reagan, shareholder value, South Sea Bubble, sovereign wealth fund, technology bubble, time value of money, too big to fail, tulip mania, Washington Consensus, yield curve, zero-coupon bond

Its extra costs are £2,500, the cost of the premium, but its borrowing costs are £5,000 less than it might have expected at the time when it bought the option. SWAPS Swaps were once seen as exclusive products which were tailor-made to suit the few sophisticated borrowers who could understand them. Nowadays they are a huge global market, with many simple, standardized products. The basic concept behind the interest-rate swap is that two borrowers raise money separately and then agree to service each other’s interest payments. However, many swap deals are much more complicated and can involve several currencies and half a dozen borrowers, with only the bank in the middle aware of all the details. Why should two borrowers want to pay each other’s interest?


pages: 301 words: 88,082

The Great Tax Robbery: How Britain Became a Tax Haven for Fat Cats and Big Business by Richard Brooks

accounting loophole / creative accounting, bank run, Big bang: deregulation of the City of London, bonus culture, Bretton Woods, carried interest, Celtic Tiger, collateralized debt obligation, commoditize, Corn Laws, corporate social responsibility, crony capitalism, cross-border payments, Double Irish / Dutch Sandwich, financial deregulation, financial engineering, haute couture, information security, intangible asset, interest rate swap, Jarndyce and Jarndyce, mega-rich, Northern Rock, offshore financial centre, race to the bottom, shareholder value, short selling, supply-chain management, The Chicago School, The Wealth of Nations by Adam Smith, transfer pricing, two and twenty

The foreign currency debt legally remains, but the ‘currency swap’ removes exposure to the currency and money markets. All pretty standard, but not yet ‘tax enhanced’. Under the tax laws brought in by the mid-nineties’ Tory government, currency swaps would be taxed under two sets of rules, one covering foreign exchange, another ‘financial instruments’ such as interest rate swaps. Although the laws were complex, the principle was simple: the tax outcome should follow the economic result, so that if a hedge produced an overall profit it would be taxed and if it made a loss this could be deducted from a company’s other taxable profits. But intricate, overlapping tax laws make perfect playthings for a tax consultant, and the Ernst & Young advisers had certainly had their fun before their visit to the Pru.


pages: 323 words: 92,135

Running Money by Andy Kessler

Alan Greenspan, Andy Kessler, Apple II, bioinformatics, Bob Noyce, British Empire, business intelligence, buy and hold, buy low sell high, call centre, Charles Babbage, Corn Laws, cotton gin, Douglas Engelbart, Fairchild Semiconductor, family office, flying shuttle, full employment, General Magic , George Gilder, happiness index / gross national happiness, interest rate swap, invisible hand, James Hargreaves, James Watt: steam engine, joint-stock company, joint-stock limited liability company, junk bonds, knowledge worker, Leonard Kleinrock, Long Term Capital Management, mail merge, Marc Andreessen, margin call, market bubble, Mary Meeker, Maui Hawaii, Menlo Park, Metcalfe’s law, Michael Milken, Mitch Kapor, Network effects, packet switching, pattern recognition, pets.com, railway mania, risk tolerance, Robert Metcalfe, Sand Hill Road, Silicon Valley, South China Sea, spinning jenny, Steve Jobs, Steve Wozniak, Suez canal 1869, Toyota Production System, TSMC, UUNET, zero-sum game

You needed advanced calcu- 16 Running Money lus to figure out the value of those. But Nash wasn’t thinking about puts and calls. Here was an old-fashioned trader looking to get in the flow. He was clearly a guy who couldn’t let go. I’m used to the “roving eye” at meetings. One guy in Denver was trading interest rate swaps for his own account while we talked. He checked the quote screen in his office so often, I thought his eyeballs would pop out. But even he was an amateur compared to this. Fred finished up and there was a long silence. I jumped in. “Thanks again for taking the time to meet with us. We would be honored to have you involved in our fund.”


High-Frequency Trading by David Easley, Marcos López de Prado, Maureen O'Hara

algorithmic trading, asset allocation, backtesting, Bear Stearns, Brownian motion, capital asset pricing model, computer vision, continuous double auction, dark matter, discrete time, finite state, fixed income, Flash crash, High speed trading, index arbitrage, information asymmetry, interest rate swap, Large Hadron Collider, latency arbitrage, margin call, market design, market fragmentation, market fundamentalism, market microstructure, martingale, National best bid and offer, natural language processing, offshore financial centre, pattern recognition, power law, price discovery process, price discrimination, price stability, proprietary trading, quantitative trading / quantitative finance, random walk, Sharpe ratio, statistical arbitrage, statistical model, stochastic process, Tobin tax, transaction costs, two-sided market, yield curve

Equity Description BR Brazilian Bovespa futures CF CAC 40 index futures DA Dax futures DJ DJIA Futures EN Nikkei 225 Futures ES S&P 500 E-mini FT FTSE 100 index HI Hang-Seng index futures IB IBEX 35 II FTSE MIB KM KOSPI 200 MD S&P 400 MidCap MG MSCI EAFE Mini MI ND NE NK NQ NZ PT RL RM SP SW TP TW VH XP XX YM Interest rates Volume Description 5,582 AX Australian 10 yr bond 56,521 AY Australian 3 yr bond 97,337 BL Euro-bobl 5 yr 596 BN Euro-bund 10 yr 26,729 BZ Euro-schatz 2 yr 478,029 CB Canadian 10 yr 54,259 ED Eurodollar 55,812 FV T-Note 5 yr 16,791 GL Long gilt 16,775 JB Japanese 10 yr bond 46,121 KE Korean 3 yr 42 ST Sterling 3 months 2,022 TS 10-year interest rate swap 28,266 TU T-Note 2 yr S&P 400 MidCap E-mini Nasdaq 100 788 Nikkei 225 Futures 8,519 Nikkei 225 Futures 6,048 Nasdaq 100 173,211 New Zealand Dollar 3,809 S&P Canada 60 11,374 Russell 2000 91 Russell 1000 Mini 418 S&P 500 6,142 Swiss Market Index 18,880 TOPIX 8,416 MSCI Taiwan 24,533 STOXX Europe 50 196 ASX SPI 200 16,716 EURO STOXX 50 80,299 Dow Jones E-mini 110,122 TY UB UR US T-Note 10 yr Ultra T-Bond Euribor 3 months T-Bond 30 yr Volume 3,889 3,159 27,228 53,292 16,136 8,276 11,864 59,830 16,353 5,401 3,707 1,765 41 24,912 95,793 9,341 3,747 57,588 The volume of trades over a 67-month period is given in thousands.


pages: 279 words: 87,875

Underwater: How Our American Dream of Homeownership Became a Nightmare by Ryan Dezember

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", activist fund / activist shareholder / activist investor, Airbnb, Bear Stearns, business cycle, call centre, Carl Icahn, Cesare Marchetti: Marchetti’s constant, cloud computing, collateralized debt obligation, company town, coronavirus, corporate raider, COVID-19, Credit Default Swap, credit default swaps / collateralized debt obligations, data science, deep learning, Donald Trump, Home mortgage interest deduction, housing crisis, interest rate swap, low interest rates, margin call, McMansion, mortgage debt, mortgage tax deduction, negative equity, opioid epidemic / opioid crisis, pill mill, rent control, rolodex, Savings and loan crisis, sharing economy, sovereign wealth fund, transaction costs

The bank and its consultants had told the New York private-equity firm that bought American Roads as well as debt investors and a bond insurance company to expect 10 million cars to cross the bridge in 2012. Really, though, just 2.3 million trips were recorded. Worse yet for American Roads, interest rate swaps attached to the debt financing backfired. The swaps were meant to protect against rising interest rates. When rates were cut in response to the housing crash, a bill came due from the bank with which Macquarie had wagered. The wrong-way bet added $334 million to American Roads’ debt. In 2012, the toll road company faced debt payments of $35 million against $14.2 million in pretax earnings.


pages: 326 words: 91,532

The Pay Off: How Changing the Way We Pay Changes Everything by Gottfried Leibbrandt, Natasha de Teran

"World Economic Forum" Davos, Alan Greenspan, Ayatollah Khomeini, bank run, banking crisis, banks create money, Bear Stearns, Big Tech, bitcoin, blockchain, call centre, cashless society, Clayton Christensen, cloud computing, coronavirus, COVID-19, Credit Default Swap, cross-border payments, cryptocurrency, David Graeber, Donald Trump, Edward Snowden, Ethereum, ethereum blockchain, financial exclusion, global pandemic, global reserve currency, illegal immigration, information asymmetry, initial coin offering, interest rate swap, Internet of things, Irish bank strikes, Julian Assange, large denomination, light touch regulation, lockdown, low interest rates, M-Pesa, machine readable, Money creation, money: store of value / unit of account / medium of exchange, move fast and break things, Network effects, Northern Rock, off grid, offshore financial centre, payday loans, post-industrial society, printed gun, QR code, RAND corporation, ransomware, Real Time Gross Settlement, reserve currency, Rishi Sunak, Silicon Valley, Silicon Valley startup, Skype, smart contracts, sovereign wealth fund, special drawing rights, tech billionaire, the payments system, too big to fail, transaction costs, WikiLeaks, you are the product

It may look like that from some angles, but the global large-value transfer system is an integral part of the engine that enables us to pay and borrow and that oils the wheels of commerce and trade. No one has yet found a better way to do that. Without foreign exchange markets, there would be fewer, slower and more expensive cross-border payments and therefore less trade. Without interest rate swaps there would be no defined-benefit pensions, no mortgages or loans – or at least far fewer – because the banks and other providers would be able to offer them only when they found investors ready to take the opposing risk. And without banks and capital markets for stocks and bonds, businesses would have much less access to funding.


pages: 295 words: 89,441

Aiming High: Masayoshi Son, SoftBank, and Disrupting Silicon Valley by Atsuo Inoue

Adam Neumann (WeWork), air freight, Apple II, bitcoin, Black Lives Matter, business climate, cloud computing, coronavirus, COVID-19, fixed income, game design, George Floyd, hive mind, information security, interest rate swap, Internet of things, Jeff Bezos, Kickstarter, Kōnosuke Matsushita, Larry Ellison, lateral thinking, Masayoshi Son, off grid, popular electronics, self-driving car, shareholder value, sharing economy, Silicon Valley, social distancing, SoftBank, Steve Ballmer, Steve Jobs, Steve Wozniak, TikTok, Vision Fund, WeWork

Born in 1962 to an upper-middle-class Indian family, Rajeev Misra won a scholarship to Pennsylvania University and then worked as a computer programmer before taking an MBA at Massachusetts Institute of Technology. When he graduated from MIT it was the start of the credit boom and for the next 20-odd years – initially at Merrill-Lynch, later at Deutsche Bank – he would ride the crest of that wave, conducting derivative and interest-rate swaps and dealing in foreign exchange and credit derivatives, eventually being named Global Head of Credit at Deutsche Bank and leading a team of 3,000 around the world. When Son asked him how he had managed such an impeccable track record, Misra replied that ‘performance is absolutely crucial in finance but it’s not just about making money – you had to be entrepreneurial: build businesses, hire and manage well, develop strong relationships with clients.’


pages: 327 words: 103,336

Everything Is Obvious: *Once You Know the Answer by Duncan J. Watts

"World Economic Forum" Davos, active measures, affirmative action, Albert Einstein, Amazon Mechanical Turk, AOL-Time Warner, Bear Stearns, behavioural economics, Black Swan, business cycle, butterfly effect, carbon credits, Carmen Reinhart, Cass Sunstein, clockwork universe, cognitive dissonance, coherent worldview, collapse of Lehman Brothers, complexity theory, correlation does not imply causation, crowdsourcing, death of newspapers, discovery of DNA, East Village, easy for humans, difficult for computers, edge city, en.wikipedia.org, Erik Brynjolfsson, framing effect, Future Shock, Geoffrey West, Santa Fe Institute, George Santayana, happiness index / gross national happiness, Herman Kahn, high batting average, hindsight bias, illegal immigration, industrial cluster, interest rate swap, invention of the printing press, invention of the telescope, invisible hand, Isaac Newton, Jane Jacobs, Jeff Bezos, Joseph Schumpeter, Kenneth Rogoff, lake wobegon effect, Laplace demon, Long Term Capital Management, loss aversion, medical malpractice, meta-analysis, Milgram experiment, natural language processing, Netflix Prize, Network effects, oil shock, packet switching, pattern recognition, performance metric, phenotype, Pierre-Simon Laplace, planetary scale, prediction markets, pre–internet, RAND corporation, random walk, RFID, school choice, Silicon Valley, social contagion, social intelligence, statistical model, Steve Ballmer, Steve Jobs, Steve Wozniak, supply-chain management, tacit knowledge, The Death and Life of Great American Cities, the scientific method, The Wisdom of Crowds, too big to fail, Toyota Production System, Tragedy of the Commons, ultimatum game, urban planning, Vincenzo Peruggia: Mona Lisa, Watson beat the top human players on Jeopardy!, X Prize

So although stretching out the vesting period diminishes the role of luck in determining outcomes, it certainly doesn’t eliminate it. In addition to averaging performance over an extended period, therefore, another way to try to differentiate individual talent from luck is to index performance relative to a peer group, meaning that a trader working in a particular asset class—say, interest rate swaps—should receive a bonus only for outperforming an index of all traders in that asset class. Put another way, if everybody in a particular market or industry makes money at the same time—as all the major investment banks did in the first quarter of 2010—we ought to suspect that performance is being driven by a secular trend, not individual talent.


pages: 317 words: 106,130

The New Science of Asset Allocation: Risk Management in a Multi-Asset World by Thomas Schneeweis, Garry B. Crowder, Hossein Kazemi

asset allocation, backtesting, Bear Stearns, behavioural economics, Bernie Madoff, Black Swan, book value, business cycle, buy and hold, capital asset pricing model, collateralized debt obligation, commodity trading advisor, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, diversification, diversified portfolio, financial engineering, fixed income, global macro, high net worth, implied volatility, index fund, interest rate swap, invisible hand, managed futures, market microstructure, merger arbitrage, moral hazard, Myron Scholes, passive investing, Richard Feynman, Richard Feynman: Challenger O-ring, risk free rate, risk tolerance, risk-adjusted returns, risk/return, search costs, selection bias, Sharpe ratio, short selling, statistical model, stocks for the long run, survivorship bias, systematic trading, technology bubble, the market place, Thomas Kuhn: the structure of scientific revolutions, transaction costs, value at risk, yield curve, zero-sum game

Extrapolating these conventions provides an aid in understanding the return and risk properties as well as trading patterns inherent in establishing an accepted asset class. Beyond taking different approaches, there are also different conventions. Some investors view currencies as a separate asset class while fully understanding that currencies may also be viewed as simple short-term interest rate swap between countries. Some investors refuse to pay managers for cash held in a multi-asset portfolio on the grounds that they should only pay when and where their monies are invested in specific assets and that cash is a placeholder. As we find our way through new terrain, there is a range of issues in determining the taxonomy for asset class determination; however, degree of difficulty must not be the stopping point of establishing a process by which we address asset allocation issues.7 The approach must be the creation of a map.


pages: 313 words: 34,042

Tools for Computational Finance by Rüdiger Seydel

bioinformatics, Black-Scholes formula, Brownian motion, commoditize, continuous integration, discrete time, financial engineering, implied volatility, incomplete markets, interest rate swap, linear programming, London Interbank Offered Rate, mandelbrot fractal, martingale, random walk, risk free rate, stochastic process, stochastic volatility, transaction costs, value at risk, volatility smile, Wiener process, zero-coupon bond

After the Chicago Board of Options Exchange (CBOE) opened in 1973, the volume of the trading with options has grown dramatically. Options are discussed in more detail in Section 1.1. Swaps are contracts regulating an exchange of cash flows at different future times. A common type of swap is the interest-rate swap, in which two parties exchange interest payments periodically, typically fixed-rate payments for floating-rate payments. Counterparty A agrees to pay to counterparty B a fixed interest rate on some notional principal, and in return party B agrees to pay party A interest at a floating rate on the same notional principal.


Systematic Trading: A Unique New Method for Designing Trading and Investing Systems by Robert Carver

asset allocation, automated trading system, backtesting, barriers to entry, Black Swan, buy and hold, cognitive bias, commodity trading advisor, Credit Default Swap, diversification, diversified portfolio, easy for humans, difficult for computers, Edward Thorp, Elliott wave, fear index, fixed income, global macro, implied volatility, index fund, interest rate swap, Long Term Capital Management, low interest rates, margin call, Market Wizards by Jack D. Schwager, merger arbitrage, Nick Leeson, paper trading, performance metric, proprietary trading, risk free rate, risk tolerance, risk-adjusted returns, risk/return, Sharpe ratio, short selling, survivorship bias, systematic trading, technology bubble, transaction costs, Two Sigma, Y Combinator, yield curve

This method is fine for semi-automatic traders who will probably be staring at charts anyway, but I don’t recommend it for others. The second method is to calculate the precise standard deviation of price changes over a moving window of time – the volatility look-back period. You can use a 110. There are even more complicated cases such as options, interest rate swaps and credit derivatives but I do not cover these here. 155 Systematic Trading short window like ten business days (around two weeks), or a longer one such as 100 days. As the upper panel of figure 23 shows, shorter windows mean your volatility estimate is noisy, which as you’ll see in chapter twelve will mean higher trading costs, but reacts very quickly to changes.


Mathematics for Finance: An Introduction to Financial Engineering by Marek Capinski, Tomasz Zastawniak

Black-Scholes formula, Brownian motion, capital asset pricing model, cellular automata, delta neutral, discounted cash flows, discrete time, diversified portfolio, financial engineering, fixed income, interest rate derivative, interest rate swap, locking in a profit, London Interbank Offered Rate, margin call, martingale, quantitative trading / quantitative finance, random walk, risk free rate, short selling, stochastic process, time value of money, transaction costs, value at risk, Wiener process, zero-coupon bond

Glossary of Symbols A B β c C C CA CE CE Cov delta div div0 D D DA E E∗ f F gamma Φ k K i m fixed income (risk free) security price; money market account bond price beta factor covariance call price; coupon value covariance matrix American call price European call price discounted European call price covariance Greek parameter delta dividend present value of dividends derivative security price; duration discounted derivative security price price of an American type derivative security expectation risk-neutral expectation futures price; payoff of an option; forward rate forward price; future value; face value Greek parameter gamma cumulative binomial distribution logarithmic return return coupon rate compounding frequency; expected logarithmic return 305 306 Mathematics for Finance M m µ N N k ω Ω p p∗ P PA PE PE PA r rdiv re rF rho ρ S S σ t T τ theta u V Var VaR vega w w W x X y z market portfolio expected returns as a row matrix expected return cumulative normal distribution the number of k-element combinations out of N elements scenario probability space branching probability in a binomial tree risk-neutral probability put price; principal American put price European put price discounted European put price present value factor of an annuity interest rate dividend yield effective rate risk-free return Greek parameter rho correlation risky security (stock) price discounted risky security (stock) price standard deviation; risk; volatility current time maturity time; expiry time; exercise time; delivery time time step Greek parameter theta row matrix with all entries 1 portfolio value; forward contract value, futures contract value variance value at risk Greek parameter vega symmetric random walk; weights in a portfolio weights in a portfolio as a row matrix Wiener process, Brownian motion position in a risky security strike price position in a fixed income (risk free) security; yield of a bond position in a derivative security Index admissible – portfolio 5 – strategy 79, 88 American – call option 147 – derivative security – put option 147 amortised loan 30 annuity 29 arbitrage 7 at the money 169 attainable – portfolio 107 – set 107 183 basis – of a forward contract 128 – of a futures contract 140 basis point 218 bear spread 208 beta factor 121 binomial – distribution 57, 180 – tree model 7, 55, 81, 174, 238 Black–Derman–Toy model 260 Black–Scholes – equation 198 – formula 188 bond – at par 42, 249 – callable 255 – face value 39 – fixed-coupon 255 – floating-coupon 255 – maturity date 39 – stripped 230 – unit 39 – with coupons 41 – zero-coupon 39 Brownian motion 69 bull spread 208 butterfly 208 – reversed 209 call option 13, 181 – American 147 – European 147, 188 callable bond 255 cap 258 Capital Asset Pricing Model 118 capital market line 118 caplet 258 CAPM 118 Central Limit Theorem 70 characteristic line 120 compounding – continuous 32 – discrete 25 – equivalent 36 – periodic 25 – preferable 36 conditional expectation 62 contingent claim 18, 85, 148 – American 183 – European 173 continuous compounding 32 continuous time limit 66 correlation coefficient 99 coupon bond 41 coupon rate 249 307 308 covariance matrix 107 Cox–Ingersoll–Ross model 260 Cox–Ross–Rubinstein formula 181 cum-dividend price 292 delta 174, 192, 193, 197 delta hedging 192 delta neutral portfolio 192 delta-gamma hedging 199 delta-gamma neutral portfolio 198 delta-vega hedging 200 delta-vega neutral portfolio 198 derivative security 18, 85, 253 – American 183 – European 173 discount factor 24, 27, 33 discounted stock price 63 discounted value 24, 27 discrete compounding 25 distribution – binomial 57, 180 – log normal 71, 186 – normal 70, 186 diversifiable risk 122 dividend yield 131 divisibility 4, 74, 76, 87 duration 222 dynamic hedging 226 effective rate 36 efficient – frontier 115 – portfolio 115 equivalent compounding 36 European – call option 147, 181, 188 – derivative security 173 – put option 147, 181, 189 ex-coupon price 248 ex-dividend price 292 exercise – price 13, 147 – time 13, 147 expected return 10, 53, 97, 108 expiry time 147 face value 39 fixed interest 255 fixed-coupon bond 255 flat term structure 229 floating interest 255 floating-coupon bond 255 floor 259 floorlet 259 Mathematics for Finance forward – contract 11, 125 – price 11, 125 – rate 233 fundamental theorem of asset pricing 83, 88 future value 22, 25 futures – contract 134 – price 134 gamma 197 Girsanov theorem 187 Greek parameters 197 growth factor 22, 25, 32 Heath–Jarrow–Morton model hedging – delta 192 – delta-gamma 199 – delta-vega 200 – dynamic 226 in the money 169 initial – forward rate 232 – margin 135 – term structure 229 instantaneous forward rate interest – compounded 25, 32 – fixed 255 – floating 255 – simple 22 – variable 255 interest rate 22 interest rate option 254 interest rate swap 255 261 233 LIBID 232 LIBOR 232 line of best fit 120 liquidity 4, 74, 77, 87 log normal distribution 71, 186 logarithmic return 34, 52 long forward position 11, 125 maintenance margin 135 margin call 135 market portfolio 119 market price of risk 212 marking to market 134 Markowitz bullet 113 martingale 63, 83 Index 309 martingale probability 63, 250 maturity date 39 minimum variance – line 109 – portfolio 108 money market 43, 235 no-arbitrage principle 7, 79, 88 normal distribution 70, 186 option – American 183 – at the money 169 – call 13, 147, 181, 188 – European 173, 181 – in the money 169 – interest rate 254 – intrinsic value 169 – out of the money 169 – payoff 173 – put 18, 147, 181, 189 – time value 170 out of the money 169 par, bond trading at 42, 249 payoff 148, 173 periodic compounding 25 perpetuity 24, 30 portfolio 76, 87 – admissible 5 – attainable 107 – delta neutral 192 – delta-gamma neutral 198 – delta-vega neutral 198 – expected return 108 – market 119 – variance 108 – vega neutral 197 positive part 148 predictable strategy 77, 88 preferable compounding 36 present value 24, 27 principal 22 put option 18, 181 – American 147 – European 147, 189 put-call parity 150 – estimates 153 random interest rates random walk 67 rate – coupon 249 – effective 36 237 – forward 233 – – initial 232 – – instantaneous 233 – of interest 22 – of return 1, 49 – spot 229 regression line 120 residual random variable 121 residual variance 122 return 1, 49 – expected 53 – including dividends 50 – logarithmic 34, 52 reversed butterfly 209 rho 197 risk 10, 91 – diversifiable 122 – market price of 212 – systematic 122 – undiversifiable 122 risk premium 119, 123 risk-neutral – expectation 60, 83 – market 60 – probability 60, 83, 250 scenario 47 security market line 123 self-financing strategy 76, 88 short forward position 11, 125 short rate 235 short selling 5, 74, 77, 87 simple interest 22 spot rate 229 Standard and Poor Index 141 state 238 stochastic calculus 71, 185 stochastic differential equation 71 stock index 141 stock price 47 strategy 76, 87 – admissible 79, 88 – predictable 77, 88 – self-financing 76, 88 – value of 76, 87 strike price 13, 147 stripped bond 230 swap 256 swaption 258 systematic risk 122 term structure 229 theta 197 time value of money 21 310 trinomial tree model Mathematics for Finance 64 underlying 85, 147 undiversifiable risk 122 unit bond 39 value at risk 202 value of a portfolio 2 value of a strategy 76, 87 VaR 202 variable interest 255 Vasiček model 260 vega 197 vega neutral portfolio volatility 71 weights in a portfolio Wiener process 69 yield 216 yield to maturity 229 zero-coupon bond 39 197 94


pages: 357 words: 99,456

Hate Inc.: Why Today’s Media Makes Us Despise One Another by Matt Taibbi

4chan, affirmative action, anti-communist, Berlin Wall, Bernie Sanders, Chelsea Manning, commoditize, crack epidemic, David Brooks, disinformation, Donald Trump, drone strike, failed state, fake news, Fall of the Berlin Wall, false flag, financial deregulation, Francis Fukuyama: the end of history, Glass-Steagall Act, Gordon Gekko, greed is good, green new deal, Howard Zinn, illegal immigration, immigration reform, interest rate swap, Julian Assange, Kickstarter, Marshall McLuhan, microdosing, moral panic, Nate Silver, no-fly zone, Parents Music Resource Center, Peter Thiel, pink-collar, Ponzi scheme, pre–internet, profit motive, quantitative easing, Ralph Nader, rent-seeking, rolodex, Ronald Reagan, Rubik’s Cube, Saturday Night Live, Seymour Hersh, Silicon Valley, social contagion, Stephen Hawking, Steve Bannon, Steven Pinker, Tipper Gore, traveling salesman, unpaid internship, WikiLeaks, working poor, Y2K

The world has just grown so complex that the majority of serious issues are beyond the understanding of non-specialists. Take “the economy.” The average citizen has basic ideas about money. We shouldn’t spend more than we have. People should pay their debts. And so on. But how many people know what a derivative is? An interest rate swap? An auction rate security? Just the process for issuing the public bond used to pay for the skating rink where your kids play is a morass so complex it took federal prosecutors nearly a decade to train themselves in the language of it, when they tried (and failed) to bust bankers who rigged that game to steal money.


pages: 354 words: 105,322

The Road to Ruin: The Global Elites' Secret Plan for the Next Financial Crisis by James Rickards

"World Economic Forum" Davos, Affordable Care Act / Obamacare, Alan Greenspan, Albert Einstein, asset allocation, asset-backed security, bank run, banking crisis, barriers to entry, Bayesian statistics, Bear Stearns, behavioural economics, Ben Bernanke: helicopter money, Benoit Mandelbrot, Berlin Wall, Bernie Sanders, Big bang: deregulation of the City of London, bitcoin, Black Monday: stock market crash in 1987, Black Swan, blockchain, Boeing 747, Bonfire of the Vanities, Bretton Woods, Brexit referendum, British Empire, business cycle, butterfly effect, buy and hold, capital controls, Capital in the Twenty-First Century by Thomas Piketty, Carmen Reinhart, cellular automata, cognitive bias, cognitive dissonance, complexity theory, Corn Laws, corporate governance, creative destruction, Credit Default Swap, cuban missile crisis, currency manipulation / currency intervention, currency peg, currency risk, Daniel Kahneman / Amos Tversky, David Ricardo: comparative advantage, debt deflation, Deng Xiaoping, disintermediation, distributed ledger, diversification, diversified portfolio, driverless car, Edward Lorenz: Chaos theory, Eugene Fama: efficient market hypothesis, failed state, Fall of the Berlin Wall, fiat currency, financial repression, fixed income, Flash crash, floating exchange rates, forward guidance, Fractional reserve banking, G4S, George Akerlof, Glass-Steagall Act, global macro, global reserve currency, high net worth, Hyman Minsky, income inequality, information asymmetry, interest rate swap, Isaac Newton, jitney, John Meriwether, John von Neumann, Joseph Schumpeter, junk bonds, Kenneth Rogoff, labor-force participation, large denomination, liquidity trap, Long Term Capital Management, low interest rates, machine readable, mandelbrot fractal, margin call, market bubble, Mexican peso crisis / tequila crisis, Minsky moment, Money creation, money market fund, mutually assured destruction, Myron Scholes, Naomi Klein, nuclear winter, obamacare, offshore financial centre, operational security, Paul Samuelson, Peace of Westphalia, Phillips curve, Pierre-Simon Laplace, plutocrats, prediction markets, price anchoring, price stability, proprietary trading, public intellectual, quantitative easing, RAND corporation, random walk, reserve currency, RFID, risk free rate, risk-adjusted returns, Robert Solow, Ronald Reagan, Savings and loan crisis, Silicon Valley, sovereign wealth fund, special drawing rights, stock buybacks, stocks for the long run, tech billionaire, The Bell Curve by Richard Herrnstein and Charles Murray, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, theory of mind, Thomas Bayes, Thomas Kuhn: the structure of scientific revolutions, too big to fail, transfer pricing, value at risk, Washington Consensus, We are all Keynesians now, Westphalian system

Between June 30, 2001, and June 30, 2007, the gross notional value of all over-the-counter derivatives held by major banks as reported in a BIS survey grew from less than $100 trillion to more than $508 trillion. Over the same period, the Herfindahl index, a market concentration measure for U.S. dollar–denominated interest rate swaps, rose from 529 to 686, strong evidence that more swaps were concentrated in fewer large banks. In a lecture series from 2003 to 2005 at Northwestern University’s Kellogg School, I warned audiences a new financial catastrophe was coming, and that it would be more costly than the 1998 LTCM crisis.


pages: 389 words: 109,207

Fortune's Formula: The Untold Story of the Scientific Betting System That Beat the Casinos and Wall Street by William Poundstone

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", Albert Einstein, anti-communist, asset allocation, Bear Stearns, beat the dealer, Benoit Mandelbrot, Black Monday: stock market crash in 1987, Black-Scholes formula, Bletchley Park, Brownian motion, buy and hold, buy low sell high, capital asset pricing model, Claude Shannon: information theory, computer age, correlation coefficient, diversified portfolio, Edward Thorp, en.wikipedia.org, Eugene Fama: efficient market hypothesis, financial engineering, Henry Singleton, high net worth, index fund, interest rate swap, Isaac Newton, Johann Wolfgang von Goethe, John Meriwether, John von Neumann, junk bonds, Kenneth Arrow, Long Term Capital Management, Louis Bachelier, margin call, market bubble, market fundamentalism, Marshall McLuhan, Michael Milken, Myron Scholes, New Journalism, Norbert Wiener, offshore financial centre, Paul Samuelson, publish or perish, quantitative trading / quantitative finance, random walk, risk free rate, risk tolerance, risk-adjusted returns, Robert Shiller, Ronald Reagan, Rubik’s Cube, short selling, speech recognition, statistical arbitrage, Teledyne, The Predators' Ball, The Wealth of Nations by Adam Smith, transaction costs, traveling salesman, value at risk, zero-coupon bond, zero-sum game

They told investors that they had risk under control through their financial engineering. LTCM used a sophisticated form of the industry standard risk reporting system, VaR or “Value at Risk.” After the Black Monday crash of 1987, investment bank J. P. Morgan became concerned with getting a handle on risk. Derivatives, interest rate swaps, and repurchase agreements had changed the financial landscape so much that it was no longer a simple thing for a bank executive (much less a client) to understand what risks the people in the firm were taking. Morgan’s management wanted an executive summary. It would be a number or numbers (just not too many numbers) that executives could look at every morning.


pages: 358 words: 106,729

Fault Lines: How Hidden Fractures Still Threaten the World Economy by Raghuram Rajan

"World Economic Forum" Davos, accounting loophole / creative accounting, Alan Greenspan, Andrei Shleifer, Asian financial crisis, asset-backed security, assortative mating, bank run, barriers to entry, Bear Stearns, behavioural economics, Bernie Madoff, Bretton Woods, business climate, business cycle, carbon tax, Clayton Christensen, clean water, collapse of Lehman Brothers, collateralized debt obligation, colonial rule, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency manipulation / currency intervention, currency risk, diversification, Edward Glaeser, financial innovation, fixed income, floating exchange rates, full employment, Glass-Steagall Act, global supply chain, Goldman Sachs: Vampire Squid, Greenspan put, illegal immigration, implied volatility, income inequality, index fund, interest rate swap, Joseph Schumpeter, Kaizen: continuous improvement, Kenneth Rogoff, knowledge worker, labor-force participation, Long Term Capital Management, longitudinal study, low interest rates, machine readable, market bubble, Martin Wolf, medical malpractice, microcredit, money market fund, moral hazard, new economy, Northern Rock, offshore financial centre, open economy, Phillips curve, price stability, profit motive, proprietary trading, Real Time Gross Settlement, Richard Florida, Richard Thaler, risk tolerance, Robert Shiller, Ronald Reagan, Savings and loan crisis, school vouchers, seminal paper, short selling, sovereign wealth fund, tail risk, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, too big to fail, upwardly mobile, Vanguard fund, women in the workforce, World Values Survey

A competitive system is also likely to produce the financial innovation necessary to broaden access and spread risk. Financial innovation nowadays seems to be synonymous with credit-default swaps and collateralized debt obligations, derivative securities that few outside Wall Street now think should have been invented. But innovation also gave us the money-market account, the credit card, interest-rate swaps, indexed funds, and exchange-traded funds, all of which have proved very useful. So, as with many things, financial innovations span the range from the good to the positively dangerous. Some have proposed a total ban on offering a financial product unless it has been vetted, much as the Food and Drug Administration vets new drugs.


pages: 339 words: 109,331

The Clash of the Cultures by John C. Bogle

Alan Greenspan, asset allocation, buy and hold, collateralized debt obligation, commoditize, compensation consultant, corporate governance, corporate social responsibility, Credit Default Swap, credit default swaps / collateralized debt obligations, diversification, diversified portfolio, estate planning, Eugene Fama: efficient market hypothesis, financial engineering, financial innovation, financial intermediation, fixed income, Flash crash, Glass-Steagall Act, Hyman Minsky, income inequality, index fund, interest rate swap, invention of the wheel, John Bogle, junk bonds, low interest rates, market bubble, market clearing, military-industrial complex, money market fund, mortgage debt, new economy, Occupy movement, passive investing, Paul Samuelson, Paul Volcker talking about ATMs, Ponzi scheme, post-work, principal–agent problem, profit motive, proprietary trading, prudent man rule, random walk, rent-seeking, risk tolerance, risk-adjusted returns, Robert Shiller, seminal paper, shareholder value, short selling, South Sea Bubble, statistical arbitrage, stock buybacks, survivorship bias, The Wealth of Nations by Adam Smith, transaction costs, two and twenty, Vanguard fund, William of Occam, zero-sum game

The reality of transaction costs, however, suggests that we should pay more attention to total trading volume—including both purchases and sales—an incredible $5.4 trillion in total transactions, not far from one-and-a-half times the $3.8 trillion of equity fund assets of the group. However high the levels of mutual fund trading in stocks have soared relative to traditional norms, they pale by comparison to the trading volumes of hedge funds, to say nothing of the levels of trading in exotic securities such as interest rate swaps, collateralized debt obligations, derivatives such as futures on commodities, stock indexes, stocks, and even bets on whether a given company will go into bankruptcy (credit default swaps). The aggregate nominal value of these instruments, as I noted in Chapter 1, now exceeds $700 trillion.


pages: 385 words: 111,807

A Pelican Introduction Economics: A User's Guide by Ha-Joon Chang

"there is no alternative" (TINA), Affordable Care Act / Obamacare, Alan Greenspan, Albert Einstein, antiwork, AOL-Time Warner, Asian financial crisis, asset-backed security, bank run, banking crisis, banks create money, Bear Stearns, Berlin Wall, bilateral investment treaty, borderless world, Bretton Woods, British Empire, call centre, capital controls, central bank independence, Charles Babbage, collateralized debt obligation, colonial rule, Corn Laws, corporate governance, corporate raider, creative destruction, Credit Default Swap, credit default swaps / collateralized debt obligations, David Ricardo: comparative advantage, deindustrialization, discovery of the americas, Eugene Fama: efficient market hypothesis, eurozone crisis, experimental economics, Fall of the Berlin Wall, falling living standards, financial deregulation, financial engineering, financial innovation, flying shuttle, Ford Model T, Francis Fukuyama: the end of history, Frederick Winslow Taylor, full employment, George Akerlof, Gini coefficient, Glass-Steagall Act, global value chain, Goldman Sachs: Vampire Squid, Gordon Gekko, Great Leap Forward, greed is good, Gunnar Myrdal, Haber-Bosch Process, happiness index / gross national happiness, high net worth, income inequality, income per capita, information asymmetry, intangible asset, interchangeable parts, interest rate swap, inventory management, invisible hand, Isaac Newton, James Watt: steam engine, Johann Wolfgang von Goethe, John Maynard Keynes: Economic Possibilities for our Grandchildren, John Maynard Keynes: technological unemployment, joint-stock company, joint-stock limited liability company, Joseph Schumpeter, knowledge economy, laissez-faire capitalism, land bank, land reform, liberation theology, manufacturing employment, Mark Zuckerberg, market clearing, market fundamentalism, Martin Wolf, means of production, Mexican peso crisis / tequila crisis, Neal Stephenson, Nelson Mandela, Northern Rock, obamacare, offshore financial centre, oil shock, open borders, Pareto efficiency, Paul Samuelson, post-industrial society, precariat, principal–agent problem, profit maximization, profit motive, proprietary trading, purchasing power parity, quantitative easing, road to serfdom, Robert Shiller, Ronald Coase, Ronald Reagan, savings glut, scientific management, Scramble for Africa, search costs, shareholder value, Silicon Valley, Simon Kuznets, sovereign wealth fund, spinning jenny, structural adjustment programs, The Great Moderation, The Market for Lemons, The Spirit Level, The Theory of the Leisure Class by Thorstein Veblen, The Wealth of Nations by Adam Smith, Thorstein Veblen, trade liberalization, transaction costs, transfer pricing, trickle-down economics, Vilfredo Pareto, Washington Consensus, working-age population, World Values Survey

For example, it allows you to replace a series of variable future payments or earnings with a series of fixed payments or earnings, like contracts for your mobile phone or fixed-price electricity deals over a period, according to Scott’s instructive analogy.5 The variation in payments or earnings could be due to variations in all sorts of things, so there are many different types of swaps; interest rates (interest rate swaps), exchange rates (currency swaps), commodity prices (commodity swaps), share prices (equity swaps), or even default risk of particular financial products (CDSs). At this point, your head may be spinning at the complexity of things, but that is in a way the point. The complexity of these new financial products is exactly what made them so dangerous, as I shall explain later.


file:///C:/Documents%20and%... by vpavan

accounting loophole / creative accounting, activist fund / activist shareholder / activist investor, Alan Greenspan, AOL-Time Warner, asset allocation, Bear Stearns, Berlin Wall, book value, business cycle, buttonwood tree, buy and hold, Carl Icahn, corporate governance, corporate raider, currency risk, disintermediation, diversification, diversified portfolio, Donald Trump, estate planning, financial engineering, fixed income, index fund, intangible asset, interest rate swap, John Bogle, junk bonds, Larry Ellison, margin call, Mary Meeker, money market fund, Myron Scholes, new economy, payment for order flow, price discovery process, profit motive, risk tolerance, shareholder value, short selling, Silicon Valley, Small Order Execution System, Steve Jobs, stocks for the long run, stocks for the long term, tech worker, technology bubble, transaction costs, Vanguard fund, women in the workforce, zero-coupon bond, éminence grise

Rather than speed up and improve the standard-setting process, I believed this cabal was looking to place it in the corporate equivalent of leg irons. Waiting in the wings in Norwalk was consideration of a new accounting standard that, if adopted, would require companies to reveal the current market value of derivatives on their balance sheets. Derivatives are options, interest rate swaps, and other financial products whose values are determined by other securities. A currency swap is an example of a derivative. These swaps help companies protect profits against the risk that the value of a foreign currency they hold in large quantities will move against them. In 1994, several prominent companies suffered large losses because of derivative blowups.


pages: 349 words: 104,796

Greed and Glory on Wall Street: The Fall of the House of Lehman by Ken Auletta

Bear Stearns, book value, business climate, classic study, corporate governance, financial independence, fixed income, floating exchange rates, Herman Kahn, interest rate swap, junk bonds, New Journalism, profit motive, proprietary trading, Ronald Reagan, Saturday Night Live, scientific management, traveling salesman, zero-coupon bond

Investment bankers commonly perform as the economy’s magicians, as wise intermediaries who match ideas and wealth, users and savers of capital; they provide lifelines for embryonic companies; they devise creative products that pump desperately needed capital into, say, starved housing, as they have done with Fannie Mae’s and mortgage interest-rate swaps. But, increasingly, many investment bankers justify everything they do. “All this frenzy may be good for investment bankers now,” banker Felix Rohatyn has said, “but it’s not good for the country or investment bankers in the long run. We seem to be living in a 1920’s jazz age atmosphere.” At Lehman, as on much of Wall Street, the operating ethic is fees—fees to cover expanding overheads, fees to boost profits and stock value and bonuses.


pages: 382 words: 105,657

Flying Blind: The 737 MAX Tragedy and the Fall of Boeing by Peter Robison

"Friedman doctrine" OR "shareholder theory", air traffic controllers' union, Airbnb, Airbus A320, airline deregulation, airport security, Alvin Toffler, Boeing 737 MAX, Boeing 747, call centre, chief data officer, contact tracing, coronavirus, corporate governance, COVID-19, Donald Trump, flag carrier, Future Shock, interest rate swap, Internet Archive, knowledge worker, lockdown, low cost airline, low interest rates, medical residency, Neil Armstrong, performance metric, Ralph Nader, RAND corporation, Robert Mercer, Ronald Reagan, shareholder value, Silicon Valley, Silicon Valley startup, single-payer health, Social Responsibility of Business Is to Increase Its Profits, stock buybacks, too big to fail, Unsafe at Any Speed, vertical integration, éminence grise

The four violations cited by the SEC: “Beginning in January 2003, an improper application of the accounting standards to GE’s commercial paper funding program to avoid unfavorable disclosures and an estimated approximately $200 million pre-tax charge to earnings; a 2003 failure to correct a misapplication of financial accounting standards to certain GE interest-rate swaps; in 2002 and 2003, reported end-of-year sales of locomotives that had not yet occurred in order to accelerate more than $370 million in revenue; and in 2002, an improper change to GE’s accounting for sales of commercial aircraft engines’ spare parts that increased GE’s 2002 net earnings by $585 million.”


Trading Risk: Enhanced Profitability Through Risk Control by Kenneth L. Grant

backtesting, business cycle, buy and hold, commodity trading advisor, correlation coefficient, correlation does not imply causation, delta neutral, diversification, diversified portfolio, financial engineering, fixed income, frictionless, frictionless market, George Santayana, global macro, implied volatility, interest rate swap, invisible hand, Isaac Newton, John Meriwether, Long Term Capital Management, managed futures, market design, Myron Scholes, performance metric, price mechanism, price stability, proprietary trading, risk free rate, risk tolerance, risk-adjusted returns, Sharpe ratio, short selling, South Sea Bubble, Stephen Hawking, the scientific method, The Wealth of Nations by Adam Smith, transaction costs, two-sided market, uptick rule, value at risk, volatility arbitrage, yield curve, zero-coupon bond

The macroeconomic benefits of these market mechanisms have exploded in the past couple of decades and represent no small contribution to the economic prosperity we have enjoyed over this time period. In particular, with the advent of equity- and fixed-income derivatives such as index futures and interest-rate swaps, the rewards of a trading economy extend to the core capital markets. Companies can now use these products to accompany the issuance of new equity and debt, thereby eliminating the fear that their financial costs will increase dramatically by the time the funds are needed. As a result, the economy produces new goods, services, and jobs at a pace unimaginable one short generation ago. 242 TRADING RISK All of these benefits accrue to an economy because traders are there, willing to assume the risks that are inherent in essential economic processes such as capital formation but that, if not transferred to speculators, represent onerous contingent liabilities to the creators of new products and processes.


pages: 422 words: 113,830

Bad Money: Reckless Finance, Failed Politics, and the Global Crisis of American Capitalism by Kevin Phillips

"World Economic Forum" Davos, Alan Greenspan, algorithmic trading, asset-backed security, bank run, banking crisis, Bear Stearns, Bernie Madoff, Black Swan, Bretton Woods, BRICs, British Empire, business cycle, buy and hold, collateralized debt obligation, computer age, corporate raider, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency peg, diversification, Doha Development Round, energy security, financial deregulation, financial engineering, financial innovation, fixed income, Francis Fukuyama: the end of history, George Gilder, Glass-Steagall Act, housing crisis, Hyman Minsky, imperial preference, income inequality, index arbitrage, index fund, interest rate derivative, interest rate swap, Joseph Schumpeter, junk bonds, Kenneth Rogoff, large denomination, Long Term Capital Management, low interest rates, market bubble, Martin Wolf, Menlo Park, Michael Milken, military-industrial complex, Minsky moment, mobile money, money market fund, Monroe Doctrine, moral hazard, mortgage debt, Myron Scholes, new economy, oil shale / tar sands, oil shock, old-boy network, peak oil, plutocrats, Ponzi scheme, profit maximization, prosperity theology / prosperity gospel / gospel of success, Renaissance Technologies, reserve currency, risk tolerance, risk/return, Robert Shiller, Ronald Reagan, Satyajit Das, Savings and loan crisis, shareholder value, short selling, sovereign wealth fund, stock buybacks, subprime mortgage crisis, The Chicago School, Thomas Malthus, too big to fail, trade route

Garraty, The Great Depression (New York: Harcourt Brace, 1986), pp. 52-57. 64 “Brazil October Inflation Rate Rises to 3-year High,” Bloomberg News, November 7, 2008. 65 “Mexico Inflation Soars to 7-year High in October,” Reuters, November 7, 2008. 66 “China’s October Inflation Matches Decade High of 6.5 Percent,” Bloomberg News, November 13, 2008. 67 “Singapore Inflation Hits 16-year High on Food, Energy,” Reuters India, November 23, 2008. 68 “Inflation in Pakistan at Near-30-year High,” United Press International, November 11, 2008. 69 “Asian Interest-Rate Swaps Signal More Rate Cuts Are Coming,” Bloomberg News, November 5, 2008. 70 “Indonesia’s October Inflation,” Reuters, November 3, 2008. 71 “Philippine Inflation Eases to 11.2 Percent in October,” Agence France-Press, November 5, 2008. 72 “Russia’s Inflation at 0.9 Percent in October,” RIA Novosti, November 5, 2008. 73 “Turkey: October Inflation Reflects Bad News for Consumers,” Turkish Statistics Institute, see europe.net, November 4, 2008. 74 “Inflation Sees a Slight Drop to 20 Pct.,” Egypt Daily News, November 10, 2008. 75 “Saudi Inflation Falls to 10.9 Percent,” Saudi Arabian Monetary Agency, October 12, 2008. 76 “Nigeria Oct.


pages: 401 words: 112,784

Hard Times: The Divisive Toll of the Economic Slump by Tom Clark, Anthony Heath

Affordable Care Act / Obamacare, Alan Greenspan, British Empire, business cycle, Carmen Reinhart, classic study, credit crunch, Daniel Kahneman / Amos Tversky, debt deflation, deindustrialization, Etonian, eurozone crisis, falling living standards, full employment, Gini coefficient, Greenspan put, growth hacking, hedonic treadmill, hiring and firing, income inequality, interest rate swap, invisible hand, It's morning again in America, John Maynard Keynes: Economic Possibilities for our Grandchildren, Kenneth Rogoff, labour market flexibility, low interest rates, low skilled workers, MITM: man-in-the-middle, mortgage debt, new economy, Northern Rock, obamacare, oil shock, plutocrats, price stability, quantitative easing, Right to Buy, Ronald Reagan, science of happiness, statistical model, The Wealth of Nations by Adam Smith, unconventional monetary instruments, War on Poverty, We are the 99%, women in the workforce, working poor

This was the big one, or so they said – the ‘once in a century’ event, as Alan Greenspan put it in 2008.3 But the financial elite is interested in financial phenomena – share-price swings and overnight interbank rates – that are only of direct concern to itself. If we're talking people instead of percentages – and talking particularly about the majority of people who do not dabble in stocks or in interest-rate swaps – then is a purely financial crisis really such a big deal? Is there any serious reason to think that disruptive events in the alien world of Wall Street or the City of London would leave us all living in a world turned upside down? The economic case for saying that they would do so starts with the historical observation that slumps which follow financial crises are invariably more significant.


pages: 479 words: 113,510

Fed Up: An Insider's Take on Why the Federal Reserve Is Bad for America by Danielle Dimartino Booth

Affordable Care Act / Obamacare, Alan Greenspan, asset-backed security, bank run, barriers to entry, Basel III, Bear Stearns, Bernie Sanders, Black Monday: stock market crash in 1987, break the buck, Bretton Woods, business cycle, central bank independence, collateralized debt obligation, corporate raider, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, diversification, Donald Trump, financial deregulation, financial engineering, financial innovation, fixed income, Flash crash, forward guidance, full employment, George Akerlof, Glass-Steagall Act, greed is good, Greenspan put, high net worth, housing crisis, income inequality, index fund, inflation targeting, interest rate swap, invisible hand, John Meriwether, Joseph Schumpeter, junk bonds, liquidity trap, London Whale, Long Term Capital Management, low interest rates, margin call, market bubble, Mexican peso crisis / tequila crisis, money market fund, moral hazard, Myron Scholes, natural language processing, Navinder Sarao, negative equity, new economy, Northern Rock, obamacare, Phillips curve, price stability, proprietary trading, pushing on a string, quantitative easing, regulatory arbitrage, Robert Shiller, Ronald Reagan, selection bias, short selling, side project, Silicon Valley, stock buybacks, tail risk, The Great Moderation, The Wealth of Nations by Adam Smith, too big to fail, trickle-down economics, yield curve

The sudden turmoil stemmed from AIG Financial Products (AIGFP), the 377-person division based in London, where Yale professor Gary Gorton had worked. AIGFP had written about $500 billion worth of insurance on every conceivable type of derivative. Started in 1987 by Joseph J. Cassano, a former Drexel Burnham Lambert executive, AIGFP first waded into the derivatives market with interest rate swaps, “plain vanilla” products. But ten years later, as derivatives evolved, Cassano’s division was approached by JPMC with the idea to write insurance on CDOs and similar securities. Because the securities had AAA ratings, Cassano assumed they would rarely pay any claims. AIG’s high credit rating meant it didn’t have to post collateral on the insurance it issued.


Financial Statement Analysis: A Practitioner's Guide by Martin S. Fridson, Fernando Alvarez

Bear Stearns, book value, business cycle, corporate governance, credit crunch, discounted cash flows, diversification, Donald Trump, double entry bookkeeping, Elon Musk, financial engineering, fixed income, information trail, intangible asset, interest rate derivative, interest rate swap, junk bonds, negative equity, new economy, offshore financial centre, postindustrial economy, profit maximization, profit motive, Richard Thaler, shareholder value, speech recognition, statistical model, stock buybacks, the long tail, time value of money, transaction costs, Y2K, zero-coupon bond

Companies can limit this risk by using financial derivatives. One approach is to cap the borrower's interest rate, that is, set a maximum rate that will prevail, no matter how high the market rate against which it is pegged may rise. Alternatively, the borrower can convert the floating-rate debt to fixed-rate debt through a derivative known as an interest-rate swap. (The forces of supply and demand may make it more economical for the company to issue floating-rate debt and incur the cost of the swap than to take the more direct route to the same net effect, that is, to issue fixed-rate debt.) Public financial statements typically provide only general information about the extent to which the issuer has limited its exposure to interest rate fluctuations through derivatives.


pages: 387 words: 119,244

Making It Happen: Fred Goodwin, RBS and the Men Who Blew Up the British Economy by Iain Martin

Alan Greenspan, asset-backed security, bank run, Basel III, Bear Stearns, beat the dealer, Big bang: deregulation of the City of London, Bletchley Park, call centre, central bank independence, computer age, corporate governance, corporate social responsibility, credit crunch, Credit Default Swap, deindustrialization, deskilling, Edward Thorp, Etonian, Eugene Fama: efficient market hypothesis, eurozone crisis, falling living standards, financial deregulation, financial engineering, financial innovation, G4S, Glass-Steagall Act, high net worth, interest rate swap, invisible hand, joint-stock company, Kickstarter, light touch regulation, London Whale, Long Term Capital Management, long term incentive plan, low interest rates, moral hazard, negative equity, Neil Kinnock, Nick Leeson, North Sea oil, Northern Rock, old-boy network, pets.com, proprietary trading, Red Clydeside, shareholder value, The Wealth of Nations by Adam Smith, too big to fail, upwardly mobile, value at risk, warehouse robotics

Only someone who has been living in solitary confinement since 2008 could possibly be shocked. Hourican, once deemed a possible successor to Hester, was removed, in the end probably needlessly. Libor was not a one-off though. The revelations about the conduct of the banks came in waves. There was the scandal of interest rates swaps, in which businesses were sold products that they very often did not need or understand.8 Customers were encouraged, sometimes compelled if they wanted a loan, to take out cover that would protect them in the event of interest rates rising. The reverse happened. Rates, since the crisis, have plummeted.


pages: 478 words: 126,416

Other People's Money: Masters of the Universe or Servants of the People? by John Kay

Affordable Care Act / Obamacare, Alan Greenspan, asset-backed security, bank run, banking crisis, Basel III, Bear Stearns, behavioural economics, Bernie Madoff, Big bang: deregulation of the City of London, bitcoin, Black Monday: stock market crash in 1987, Black Swan, Bonfire of the Vanities, bonus culture, book value, Bretton Woods, buy and hold, call centre, capital asset pricing model, Capital in the Twenty-First Century by Thomas Piketty, cognitive dissonance, Cornelius Vanderbilt, corporate governance, Credit Default Swap, cross-subsidies, currency risk, dematerialisation, disinformation, disruptive innovation, diversification, diversified portfolio, Edward Lloyd's coffeehouse, Elon Musk, Eugene Fama: efficient market hypothesis, eurozone crisis, financial engineering, financial innovation, financial intermediation, financial thriller, fixed income, Flash crash, forward guidance, Fractional reserve banking, full employment, George Akerlof, German hyperinflation, Glass-Steagall Act, Goldman Sachs: Vampire Squid, Greenspan put, Growth in a Time of Debt, Ida Tarbell, income inequality, index fund, inflation targeting, information asymmetry, intangible asset, interest rate derivative, interest rate swap, invention of the wheel, Irish property bubble, Isaac Newton, it is difficult to get a man to understand something, when his salary depends on his not understanding it, James Carville said: "I would like to be reincarnated as the bond market. You can intimidate everybody.", Jim Simons, John Meriwether, junk bonds, light touch regulation, London Whale, Long Term Capital Management, loose coupling, low cost airline, M-Pesa, market design, Mary Meeker, megaproject, Michael Milken, millennium bug, mittelstand, Money creation, money market fund, moral hazard, mortgage debt, Myron Scholes, NetJets, new economy, Nick Leeson, Northern Rock, obamacare, Occupy movement, offshore financial centre, oil shock, passive investing, Paul Samuelson, Paul Volcker talking about ATMs, peer-to-peer lending, performance metric, Peter Thiel, Piper Alpha, Ponzi scheme, price mechanism, proprietary trading, purchasing power parity, quantitative easing, quantitative trading / quantitative finance, railway mania, Ralph Waldo Emerson, random walk, reality distortion field, regulatory arbitrage, Renaissance Technologies, rent control, risk free rate, risk tolerance, road to serfdom, Robert Shiller, Ronald Reagan, Schrödinger's Cat, seminal paper, shareholder value, Silicon Valley, Simon Kuznets, South Sea Bubble, sovereign wealth fund, Spread Networks laid a new fibre optics cable between New York and Chicago, Steve Jobs, Steve Wozniak, The Great Moderation, The Market for Lemons, the market place, The Myth of the Rational Market, the payments system, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, Tobin tax, too big to fail, transaction costs, tulip mania, Upton Sinclair, Vanguard fund, vertical integration, Washington Consensus, We are the 99%, Yom Kippur War

Under US GAAP, if one derivative contract shows a loss and another derivative contract with the same counterparty shows a profit, then you need record only the net profit or loss in trading with that counterparty. This opportunity to ‘net’ one contract against another applies even if one derivative is an interest rate swap and the other a forward foreign exchange contract. 12. Vickers, J.S., 2011, Independent Commission on Banking Final Report: Recommendations, London, HMSO. 13. Liikanen, E. (chair), 2012, Report of the European Commission’s High-Level Expert Group on Bank Structural Reform, EU Commission, October. 14.


pages: 425 words: 122,223

Capital Ideas: The Improbable Origins of Modern Wall Street by Peter L. Bernstein

Albert Einstein, asset allocation, backtesting, Benoit Mandelbrot, Black Monday: stock market crash in 1987, Black-Scholes formula, Bonfire of the Vanities, Brownian motion, business cycle, buy and hold, buy low sell high, capital asset pricing model, corporate raider, debt deflation, diversified portfolio, Eugene Fama: efficient market hypothesis, financial innovation, financial intermediation, fixed income, full employment, Glass-Steagall Act, Great Leap Forward, guns versus butter model, implied volatility, index arbitrage, index fund, interest rate swap, invisible hand, John von Neumann, Joseph Schumpeter, junk bonds, Kenneth Arrow, law of one price, linear programming, Louis Bachelier, mandelbrot fractal, martingale, means of production, Michael Milken, money market fund, Myron Scholes, new economy, New Journalism, Paul Samuelson, Performance of Mutual Funds in the Period, profit maximization, Ralph Nader, RAND corporation, random walk, Richard Thaler, risk free rate, risk/return, Robert Shiller, Robert Solow, Ronald Reagan, stochastic process, Thales and the olive presses, the market place, The Predators' Ball, the scientific method, The Wealth of Nations by Adam Smith, Thorstein Veblen, transaction costs, transfer pricing, zero-coupon bond, zero-sum game

As investors, borrowers, and lenders increased their understanding of these basic concepts, the flow of applications grew from a trickle to a flood. Options were incorporated into the entirely new and complex debt instruments that blossomed during the 1980s. They are responsible for the mushrooming of the market for government-guaranteed home mortgages. Their hedging features made possible the development of the so-called interest rate swaps between major financial institutions, the explosion in daily trading in the foreign exchange markets, the ability of banks to shield themselves from the vagaries of the money markets, and the willingness of major investment banking firms to provide many millions of dollars of instant liquidity to their institutional customers.


pages: 386 words: 122,595

Naked Economics: Undressing the Dismal Science (Fully Revised and Updated) by Charles Wheelan

affirmative action, Alan Greenspan, Albert Einstein, Andrei Shleifer, barriers to entry, Bear Stearns, behavioural economics, Berlin Wall, Bernie Madoff, Boeing 747, Bretton Woods, business cycle, buy and hold, capital controls, carbon tax, Cass Sunstein, central bank independence, classic study, clean water, collapse of Lehman Brothers, congestion charging, creative destruction, Credit Default Swap, crony capitalism, currency manipulation / currency intervention, currency risk, Daniel Kahneman / Amos Tversky, David Brooks, demographic transition, diversified portfolio, Doha Development Round, Exxon Valdez, financial innovation, fixed income, floating exchange rates, George Akerlof, Gini coefficient, Gordon Gekko, Great Leap Forward, greed is good, happiness index / gross national happiness, Hernando de Soto, income inequality, index fund, interest rate swap, invisible hand, job automation, John Markoff, Joseph Schumpeter, junk bonds, Kenneth Rogoff, libertarian paternalism, low interest rates, low skilled workers, Malacca Straits, managed futures, market bubble, microcredit, money market fund, money: store of value / unit of account / medium of exchange, Network effects, new economy, open economy, presumed consent, price discrimination, price stability, principal–agent problem, profit maximization, profit motive, purchasing power parity, race to the bottom, RAND corporation, random walk, rent control, Richard Thaler, rising living standards, Robert Gordon, Robert Shiller, Robert Solow, Ronald Coase, Ronald Reagan, Sam Peltzman, school vouchers, seminal paper, Silicon Valley, Silicon Valley startup, South China Sea, Steve Jobs, tech worker, The Market for Lemons, the rule of 72, The Wealth of Nations by Adam Smith, Thomas L Friedman, Thomas Malthus, transaction costs, transcontinental railway, trickle-down economics, urban sprawl, Washington Consensus, Yogi Berra, young professional, zero-sum game

Any investment strategy must obey the basic laws of economics, just as any diet is constrained by the realities of chemistry, biology, and physics. To borrow the title of Wally Lamb’s best-selling novel: I know this much is true. At first glance, the financial markets are remarkably complex. Stocks and bonds are complicated enough, but then there are options, futures, options on futures, interest rate swaps, government “strips,” and the now infamous credit default swaps. At the Chicago Mercantile Exchange, it is now possible to buy or sell a futures contract based on the average temperature in Los Angeles. At the Chicago Board of Trade, one can buy and sell the right to emit SO2. Yes, it’s actually possible to make (or lose) money by trading smog.


pages: 320 words: 87,853

The Black Box Society: The Secret Algorithms That Control Money and Information by Frank Pasquale

Adam Curtis, Affordable Care Act / Obamacare, Alan Greenspan, algorithmic trading, Amazon Mechanical Turk, American Legislative Exchange Council, asset-backed security, Atul Gawande, bank run, barriers to entry, basic income, Bear Stearns, Berlin Wall, Bernie Madoff, Black Swan, bonus culture, Brian Krebs, business cycle, business logic, call centre, Capital in the Twenty-First Century by Thomas Piketty, Chelsea Manning, Chuck Templeton: OpenTable:, cloud computing, collateralized debt obligation, computerized markets, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, crowdsourcing, cryptocurrency, data science, Debian, digital rights, don't be evil, drone strike, Edward Snowden, en.wikipedia.org, Evgeny Morozov, Fall of the Berlin Wall, Filter Bubble, financial engineering, financial innovation, financial thriller, fixed income, Flash crash, folksonomy, full employment, Gabriella Coleman, Goldman Sachs: Vampire Squid, Google Earth, Hernando de Soto, High speed trading, hiring and firing, housing crisis, Ian Bogost, informal economy, information asymmetry, information retrieval, information security, interest rate swap, Internet of things, invisible hand, Jaron Lanier, Jeff Bezos, job automation, John Bogle, Julian Assange, Kevin Kelly, Kevin Roose, knowledge worker, Kodak vs Instagram, kremlinology, late fees, London Interbank Offered Rate, London Whale, machine readable, Marc Andreessen, Mark Zuckerberg, Michael Milken, mobile money, moral hazard, new economy, Nicholas Carr, offshore financial centre, PageRank, pattern recognition, Philip Mirowski, precariat, profit maximization, profit motive, public intellectual, quantitative easing, race to the bottom, reality distortion field, recommendation engine, regulatory arbitrage, risk-adjusted returns, Satyajit Das, Savings and loan crisis, search engine result page, shareholder value, Silicon Valley, Snapchat, social intelligence, Spread Networks laid a new fibre optics cable between New York and Chicago, statistical arbitrage, statistical model, Steven Levy, technological solutionism, the scientific method, too big to fail, transaction costs, two-sided market, universal basic income, Upton Sinclair, value at risk, vertical integration, WikiLeaks, Yochai Benkler, zero-sum game

Shahien Nasiripour, “Goldman Sachs Values Assets Low, Sells High to Customers as Senate Panel Alleges Double Dealing,” Huffington Post, April 14, 2011, http://www.huffi ngtonpost.com /2011/04 /14 /goldman-sachs-values-asse _n _849398.html. 99. Kayla Tausche, “Wall Street into Snapchat, and Regulators Are on Alert,” CNBC, July 30, 2013, http://www.cnbc.com /id /100924846. 100. For example, since a “simple fi xed/floating interest-rate swap contract . . . has zero value at the start,” it “is considered neither an asset nor a liability, but is an ‘off-balance-sheet’ item.” Carol J. Loomis, “Derivatives: The Risk That Still Won’t Go Away (Fortune 2009),” CNN Money, May 20, 2012, http://features .blogs .fortune .cnn .com /2012/05 /20 /derivatives -the -risk-that -still-wont-go-away-fortune-2009/. 101.


pages: 1,073 words: 302,361

Money and Power: How Goldman Sachs Came to Rule the World by William D. Cohan

"Friedman doctrine" OR "shareholder theory", "RICO laws" OR "Racketeer Influenced and Corrupt Organizations", Alan Greenspan, asset-backed security, Bear Stearns, Bernie Madoff, Bob Litterman, book value, business cycle, buttonwood tree, buy and hold, collateralized debt obligation, Cornelius Vanderbilt, corporate governance, corporate raider, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, deal flow, diversified portfolio, do well by doing good, fear of failure, financial engineering, financial innovation, fixed income, Ford paid five dollars a day, Glass-Steagall Act, Goldman Sachs: Vampire Squid, Gordon Gekko, high net worth, hiring and firing, hive mind, Hyman Minsky, interest rate swap, John Meriwether, junk bonds, Kenneth Arrow, London Interbank Offered Rate, Long Term Capital Management, managed futures, margin call, market bubble, mega-rich, merger arbitrage, Michael Milken, moral hazard, mortgage debt, Myron Scholes, paper trading, passive investing, Paul Samuelson, Ponzi scheme, price stability, profit maximization, proprietary trading, risk tolerance, Ronald Reagan, Saturday Night Live, short squeeze, South Sea Bubble, tail risk, time value of money, too big to fail, traveling salesman, two and twenty, value at risk, work culture , yield curve, Yogi Berra, zero-sum game

Winkelman rode his masterful management and turn-around skills to a seat on the Management Committee and as co-head of fixed-income with a successful trader named Jon Corzine. J. Aron had become a big part of Goldman’s profit story. After years of acting only as an agent in the buying and selling of interest-rate swaps, Goldman had started acting as a principal in that business, too. “We were in the chicken camp on that,” Friedman said, before Goldman found courage. Goldman had also started a $783.5 million distressed investing fund, the Water Street Corporation Recovery Fund—named after a street that runs perpendicular to Broad Street in downtown Manhattan—with $100 million of its partners’ money to invest in the discounted debt securities of companies as a way to control them after a restructuring process.

If this kind of thing could be done outside the ken of often onerous state regulations that blanket the insurance industry, even better. To that end, in 1987, Greenberg created AIG Financial Products, known as AIGFP, by hiring a group of traders from the investment bank Drexel Burnham Lambert, led by Howard Sosin, who supposedly had a “better model” for trading and valuing interest-rate swaps and for generally taking and managing the risk that other financial firms wanted to sell. The market for derivatives was in its infancy, but growing, and Greenberg determined that AIG could be at its forefront. According to Greenberg, the overriding strategy at AIGFP was for the business to lay off most of the risks it was taking on behalf of its clients so that AIG was not exposed financially in the event of huge market-moving events that could not be modeled or anticipated.


pages: 419 words: 130,627

Last Man Standing: The Ascent of Jamie Dimon and JPMorgan Chase by Duff McDonald

"World Economic Forum" Davos, Alan Greenspan, AOL-Time Warner, bank run, Bear Stearns, Blythe Masters, Bonfire of the Vanities, book value, business logic, centralized clearinghouse, collateralized debt obligation, conceptual framework, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Exxon Valdez, financial innovation, fixed income, G4S, Glass-Steagall Act, Greenspan put, housing crisis, interest rate swap, Jeff Bezos, John Meriwether, junk bonds, Kickstarter, laissez-faire capitalism, Long Term Capital Management, margin call, market bubble, Michael Milken, money market fund, moral hazard, negative equity, Nelson Mandela, Northern Rock, profit motive, proprietary trading, Renaissance Technologies, risk/return, Rod Stewart played at Stephen Schwarzman birthday party, Saturday Night Live, sovereign wealth fund, statistical model, Steve Ballmer, Steve Jobs, technology bubble, The Chicago School, too big to fail, Vanguard fund, zero-coupon bond, zero-sum game

They also told Dimon that if either of them appeared to be trying to stab the other in the back, he should fire them both. One area that needed no rebuilding whatsoever was the company’s derivatives business. JPMorgan Chase had long held a dominant position in all manner of derivatives—in 2004, the company was the top player in interest rate options, interest rate swaps, and credit and equity derivatives—and at the time of the merger it held $37 trillion in notional derivatives contracts, more than half the derivatives held by U.S. banks and trust companies. A lot has been made of this fact, but Dimon had by that point come around to the argument that derivatives were a good business for the firm, provided the risks and exposures were monitored rigorously.


pages: 515 words: 126,820

Blockchain Revolution: How the Technology Behind Bitcoin Is Changing Money, Business, and the World by Don Tapscott, Alex Tapscott

"World Economic Forum" Davos, Airbnb, altcoin, Alvin Toffler, asset-backed security, autonomous vehicles, barriers to entry, behavioural economics, bitcoin, Bitcoin Ponzi scheme, blockchain, Blythe Masters, Bretton Woods, business logic, business process, buy and hold, Capital in the Twenty-First Century by Thomas Piketty, carbon credits, carbon footprint, clean water, cloud computing, cognitive dissonance, commoditize, commons-based peer production, corporate governance, corporate social responsibility, creative destruction, Credit Default Swap, crowdsourcing, cryptocurrency, currency risk, decentralized internet, digital capitalism, disintermediation, disruptive innovation, distributed ledger, do well by doing good, Donald Trump, double entry bookkeeping, driverless car, Edward Snowden, Elon Musk, Erik Brynjolfsson, Ethereum, ethereum blockchain, failed state, fiat currency, financial innovation, Firefox, first square of the chessboard, first square of the chessboard / second half of the chessboard, future of work, Future Shock, Galaxy Zoo, general purpose technology, George Gilder, glass ceiling, Google bus, GPS: selective availability, Hacker News, Hernando de Soto, Higgs boson, holacracy, income inequality, independent contractor, informal economy, information asymmetry, information security, intangible asset, interest rate swap, Internet of things, Jeff Bezos, jimmy wales, Kickstarter, knowledge worker, Kodak vs Instagram, Lean Startup, litecoin, Lyft, M-Pesa, Marc Andreessen, Mark Zuckerberg, Marshall McLuhan, means of production, microcredit, mobile money, money market fund, Neal Stephenson, Network effects, new economy, Oculus Rift, off grid, pattern recognition, peer-to-peer, peer-to-peer lending, peer-to-peer model, performance metric, Peter Thiel, planetary scale, Ponzi scheme, prediction markets, price mechanism, Productivity paradox, QR code, quantitative easing, radical decentralization, ransomware, Ray Kurzweil, renewable energy credits, rent-seeking, ride hailing / ride sharing, Ronald Coase, Ronald Reagan, Salesforce, Satoshi Nakamoto, search costs, Second Machine Age, seigniorage, self-driving car, sharing economy, Silicon Valley, Skype, smart contracts, smart grid, Snow Crash, social graph, social intelligence, social software, standardized shipping container, Stephen Hawking, Steve Jobs, Steve Wozniak, Stewart Brand, supply-chain management, systems thinking, TaskRabbit, TED Talk, The Fortune at the Bottom of the Pyramid, The Nature of the Firm, The Soul of a New Machine, The Wisdom of Crowds, transaction costs, Turing complete, Turing test, Tyler Cowen, Uber and Lyft, uber lyft, unbanked and underbanked, underbanked, unorthodox policies, vertical integration, Vitalik Buterin, wealth creators, X Prize, Y2K, Yochai Benkler, Zipcar

Prediction markets could complement and ultimately transform many aspects of the financial system. Consider prediction markets on the outcomes of corporate actions—earnings reports, mergers, acquisitions, and changes in management. Prediction markets would inform the insurance of value and the hedging of risk, potentially even displacing esoteric financial instruments like options, interest rate swaps and credit default swaps. Of course, not everything needs a prediction market. Enough people need to care to make it liquid enough to attract attention. Still, the potential is vast, the opportunity significant, and access available to all. ROAD MAP FOR THE GOLDEN EIGHT Blockchain technologies will impact every form and function of the financial services industry—from retail banking and capital markets to accounting and regulation.


pages: 505 words: 142,118

A Man for All Markets by Edward O. Thorp

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", 3Com Palm IPO, Alan Greenspan, Albert Einstein, asset allocation, Bear Stearns, beat the dealer, Bernie Madoff, Black Monday: stock market crash in 1987, Black Swan, Black-Scholes formula, book value, Brownian motion, buy and hold, buy low sell high, caloric restriction, caloric restriction, carried interest, Chuck Templeton: OpenTable:, Claude Shannon: information theory, cognitive dissonance, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, diversification, Edward Thorp, Erdős number, Eugene Fama: efficient market hypothesis, financial engineering, financial innovation, Garrett Hardin, George Santayana, German hyperinflation, Glass-Steagall Act, Henri Poincaré, high net worth, High speed trading, index arbitrage, index fund, interest rate swap, invisible hand, Jarndyce and Jarndyce, Jeff Bezos, John Bogle, John Meriwether, John Nash: game theory, junk bonds, Kenneth Arrow, Livingstone, I presume, Long Term Capital Management, Louis Bachelier, low interest rates, margin call, Mason jar, merger arbitrage, Michael Milken, Murray Gell-Mann, Myron Scholes, NetJets, Norbert Wiener, PalmPilot, passive investing, Paul Erdős, Paul Samuelson, Pluto: dwarf planet, Ponzi scheme, power law, price anchoring, publish or perish, quantitative trading / quantitative finance, race to the bottom, random walk, Renaissance Technologies, RFID, Richard Feynman, risk-adjusted returns, Robert Shiller, rolodex, Sharpe ratio, short selling, Silicon Valley, Stanford marshmallow experiment, statistical arbitrage, stem cell, stock buybacks, stocks for the long run, survivorship bias, tail risk, The Myth of the Rational Market, The Predators' Ball, the rule of 72, The Wisdom of Crowds, too big to fail, Tragedy of the Commons, uptick rule, Upton Sinclair, value at risk, Vanguard fund, Vilfredo Pareto, Works Progress Administration

several billion dollars Market Neutral Strategies, Bruce I. Jacobs and Kenneth N. Levy editors, Wiley, New Jersey, 2005. when it opened Hours for the N.Y.S.E. were from 10 A.M. to 4 P.M. Monday through Friday, from October 1, 1974, until September 30, 1985, when the opening time changed to 9:30 A.M. of which we pioneered Among them were the interest rate swap (the object here was to hedge away interest rate risk in our positions), the bond cash and carry, the commodity cash and carry, capturing a profit when closed-end funds could be purchased below their liquidation value, and special deals. historical stock price data I learned only recently, while reading the interview of Harry Markowitz in Masters of Finance, IMCA, Greenwood Village, CO, 2014, page 109, that Markowitz and Usmen got the same answer for daily S&P 500 Index price changes as we did for a much larger data set of two hundred individual stocks.


How I Became a Quant: Insights From 25 of Wall Street's Elite by Richard R. Lindsey, Barry Schachter

Albert Einstein, algorithmic trading, Andrew Wiles, Antoine Gombaud: Chevalier de Méré, asset allocation, asset-backed security, backtesting, bank run, banking crisis, Bear Stearns, Black-Scholes formula, Bob Litterman, Bonfire of the Vanities, book value, Bretton Woods, Brownian motion, business cycle, business process, butter production in bangladesh, buy and hold, buy low sell high, capital asset pricing model, centre right, collateralized debt obligation, commoditize, computerized markets, corporate governance, correlation coefficient, creative destruction, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency risk, discounted cash flows, disintermediation, diversification, Donald Knuth, Edward Thorp, Emanuel Derman, en.wikipedia.org, Eugene Fama: efficient market hypothesis, financial engineering, financial innovation, fixed income, full employment, George Akerlof, global macro, Gordon Gekko, hiring and firing, implied volatility, index fund, interest rate derivative, interest rate swap, Ivan Sutherland, John Bogle, John von Neumann, junk bonds, linear programming, Loma Prieta earthquake, Long Term Capital Management, machine readable, margin call, market friction, market microstructure, martingale, merger arbitrage, Michael Milken, Myron Scholes, Nick Leeson, P = NP, pattern recognition, Paul Samuelson, pensions crisis, performance metric, prediction markets, profit maximization, proprietary trading, purchasing power parity, quantitative trading / quantitative finance, QWERTY keyboard, RAND corporation, random walk, Ray Kurzweil, Reminiscences of a Stock Operator, Richard Feynman, Richard Stallman, risk free rate, risk-adjusted returns, risk/return, seminal paper, shareholder value, Sharpe ratio, short selling, Silicon Valley, six sigma, sorting algorithm, statistical arbitrage, statistical model, stem cell, Steven Levy, stochastic process, subscription business, systematic trading, technology bubble, The Great Moderation, the scientific method, too big to fail, trade route, transaction costs, transfer pricing, value at risk, volatility smile, Wiener process, yield curve, young professional

During my second year at Harvard, I did a specially directed studies course under Michael Porter and worked on some fascinating strategic vision projects regarding data, technology, and competitive practices. But the lure of Wall Street was very strong. My time at First Boston now was largely taken up by a project to study interest rate swaps. Swaps were a new product, traded by appointment, with the business being done “upstairs” in the investment bank, not on the trading floor. When I finished my MBA, First Boston asked me to join full time to put together swaps deals in the Corporate Finance group. I agreed, and there ended my pursuit of a PhD in mathematics.


pages: 537 words: 144,318

The Invisible Hands: Top Hedge Fund Traders on Bubbles, Crashes, and Real Money by Steven Drobny

Albert Einstein, AOL-Time Warner, Asian financial crisis, asset allocation, asset-backed security, backtesting, banking crisis, Bear Stearns, Bernie Madoff, Black Swan, bond market vigilante , book value, Bretton Woods, BRICs, British Empire, business cycle, business process, buy and hold, capital asset pricing model, capital controls, central bank independence, collateralized debt obligation, commoditize, commodity super cycle, commodity trading advisor, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, debt deflation, diversification, diversified portfolio, equity premium, equity risk premium, family office, fiat currency, fixed income, follow your passion, full employment, George Santayana, global macro, Greenspan put, Hyman Minsky, implied volatility, index fund, inflation targeting, interest rate swap, inventory management, inverted yield curve, invisible hand, junk bonds, Kickstarter, London Interbank Offered Rate, Long Term Capital Management, low interest rates, market bubble, market fundamentalism, market microstructure, Minsky moment, moral hazard, Myron Scholes, North Sea oil, open economy, peak oil, pension reform, Ponzi scheme, prediction markets, price discovery process, price stability, private sector deleveraging, profit motive, proprietary trading, purchasing power parity, quantitative easing, random walk, Reminiscences of a Stock Operator, reserve currency, risk free rate, risk tolerance, risk-adjusted returns, risk/return, savings glut, selection bias, Sharpe ratio, short selling, SoftBank, sovereign wealth fund, special drawing rights, statistical arbitrage, stochastic volatility, stocks for the long run, stocks for the long term, survivorship bias, tail risk, The Great Moderation, Thomas Bayes, time value of money, too big to fail, Tragedy of the Commons, transaction costs, two and twenty, unbiased observer, value at risk, Vanguard fund, yield curve, zero-sum game

Otherwise, what saved us was being long interest rates in peripheral economies that had very steep yield curves. Regardless, I learned a lot in 2008, and you can put both a positive and negative spin on it. Figure 7.4 LIBOR-OIS Basis, 2008 SOURCE: Bloomberg. OIS An overnight indexed swap (OIS) is an interest rate swap where the periodic floating rate of the swap is equal to the geometric average of an overnight index (e.g., a published interest rate) during the course of the payment period. OIS rates are an indication of market expectations of the effective federal funds rate over the term of the swap. The spread between OIS rates and LIBOR rates reflects credit risk and the expectation of future overnight rates.


Super Continent: The Logic of Eurasian Integration by Kent E. Calder

"World Economic Forum" Davos, 3D printing, air freight, Asian financial crisis, Bear Stearns, Berlin Wall, blockchain, Bretton Woods, business intelligence, capital controls, Capital in the Twenty-First Century by Thomas Piketty, classic study, cloud computing, colonial rule, Credit Default Swap, cuban missile crisis, deindustrialization, demographic transition, Deng Xiaoping, disruptive innovation, Doha Development Round, Donald Trump, energy transition, European colonialism, export processing zone, failed state, Fall of the Berlin Wall, foreign exchange controls, geopolitical risk, Gini coefficient, high-speed rail, housing crisis, income inequality, industrial cluster, industrial robot, interest rate swap, intermodal, Internet of things, invention of movable type, inventory management, John Markoff, liberal world order, Malacca Straits, Mikhail Gorbachev, mittelstand, money market fund, moral hazard, new economy, oil shale / tar sands, oil shock, purchasing power parity, quantitative easing, reserve currency, Ronald Reagan, seigniorage, Shenzhen special economic zone , smart cities, smart grid, SoftBank, South China Sea, sovereign wealth fund, special drawing rights, special economic zone, Suez canal 1869, Suez crisis 1956, supply-chain management, Thomas L Friedman, trade liberalization, trade route, transcontinental railway, UNCLOS, UNCLOS, union organizing, Washington Consensus, working-age population, zero-sum game

Such pressures have led to a rash of credit scandals, sometimes involving favoritism to host governments to undertake economically dubious projects, as recently revealed in Malaysia, Sri Lanka, Pakistan, and elsewhere. Quiet Revolution in China 107 Western and Japanese banks do seem to have continuing interest in the BRI, despite the obvious risk that some projects may present. Foreign banks focus on providing foreign exchange, trade finance, interest-rate swaps, and cash management to multinational firms working on BRI projects. Citigroup, for example, had led large bond issues for the Bank of China and Beijing Gas to finance their BRI plans. It has also landed cash management and foreignexchange hedging contracts for several Fortune 500 companies operating on BRI projects.


pages: 491 words: 141,690

The Controlled Demolition of the American Empire by Jeff Berwick, Charlie Robinson

2013 Report for America's Infrastructure - American Society of Civil Engineers - 19 March 2013, airport security, Alan Greenspan, American Legislative Exchange Council, American Society of Civil Engineers: Report Card, bank run, barriers to entry, Berlin Wall, Bernie Sanders, Big Tech, big-box store, bitcoin, Black Lives Matter, bread and circuses, Bretton Woods, British Empire, call centre, carbon credits, carbon footprint, carbon tax, Cass Sunstein, Chelsea Manning, clean water, cloud computing, cognitive dissonance, Comet Ping Pong, coronavirus, Corrections Corporation of America, COVID-19, crack epidemic, crisis actor, crony capitalism, cryptocurrency, dark matter, deplatforming, disinformation, Donald Trump, drone strike, Edward Snowden, Elon Musk, energy transition, epigenetics, failed state, fake news, false flag, Ferguson, Missouri, fiat currency, financial independence, George Floyd, global pandemic, global supply chain, Goldman Sachs: Vampire Squid, illegal immigration, Indoor air pollution, information security, interest rate swap, Intergovernmental Panel on Climate Change (IPCC), invisible hand, Jeff Bezos, Jeffrey Epstein, Julian Assange, Kickstarter, lockdown, Mahatma Gandhi, mandatory minimum, margin call, Mark Zuckerberg, mass immigration, megacity, microapartment, Mikhail Gorbachev, military-industrial complex, new economy, no-fly zone, offshore financial centre, Oklahoma City bombing, open borders, opioid epidemic / opioid crisis, pill mill, planetary scale, plutocrats, Ponzi scheme, power law, pre–internet, private military company, Project for a New American Century, quantitative easing, RAND corporation, reserve currency, RFID, ride hailing / ride sharing, Saturday Night Live, security theater, self-driving car, Seymour Hersh, Silicon Valley, smart cities, smart grid, smart meter, Snapchat, social distancing, Social Justice Warrior, South China Sea, stock buybacks, surveillance capitalism, too big to fail, unpaid internship, urban decay, WikiLeaks, working poor

As an example, the interest rate quoted to a borrower looking to buy a house might be calculated by the mortgage company as LIBOR + 3%, meaning that if the rate the banks loan money to each other is 2.5%, then the interest a mortgage company charges to the home buyer would be 2.5% + 3%, or 5.5%. The major banks decided that if they put their heads together, they could rig this market and move the interest rates in the direction they desired, so they set about to discreetly corrupt the system. Their manipulation of the interest rates majorly impacted the interest rate swaps that corporations and governments use to manage their debt. The fraud that these banks were engaged in went on for many years and made them untold billions of dollars at the expense of governments around the world, corporations, and of course, the people of the world. When their criminal enterprise was finally discovered, the big banks do what they always do when they get caught red-handed committing felonies: they paid a small fine and nobody was prosecuted


pages: 491 words: 131,769

Crisis Economics: A Crash Course in the Future of Finance by Nouriel Roubini, Stephen Mihm

Alan Greenspan, Asian financial crisis, asset-backed security, balance sheet recession, bank run, banking crisis, barriers to entry, Bear Stearns, behavioural economics, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Black Swan, bond market vigilante , bonus culture, Bretton Woods, BRICs, British Empire, business cycle, call centre, capital controls, Carmen Reinhart, central bank independence, centralized clearinghouse, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency risk, dark matter, David Ricardo: comparative advantage, debt deflation, Eugene Fama: efficient market hypothesis, Fall of the Berlin Wall, fiat currency, financial deregulation, financial engineering, financial innovation, Financial Instability Hypothesis, financial intermediation, full employment, George Akerlof, Glass-Steagall Act, global pandemic, global reserve currency, Gordon Gekko, Greenspan put, Growth in a Time of Debt, housing crisis, Hyman Minsky, information asymmetry, interest rate swap, invisible hand, Joseph Schumpeter, junk bonds, Kenneth Rogoff, laissez-faire capitalism, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, Louis Bachelier, low interest rates, margin call, market bubble, market fundamentalism, Martin Wolf, means of production, Minsky moment, money market fund, moral hazard, mortgage debt, mortgage tax deduction, new economy, Northern Rock, offshore financial centre, oil shock, Paradox of Choice, paradox of thrift, Paul Samuelson, Ponzi scheme, price stability, principal–agent problem, private sector deleveraging, proprietary trading, pushing on a string, quantitative easing, quantitative trading / quantitative finance, race to the bottom, random walk, regulatory arbitrage, reserve currency, risk tolerance, Robert Shiller, Satyajit Das, Savings and loan crisis, savings glut, short selling, South Sea Bubble, sovereign wealth fund, special drawing rights, subprime mortgage crisis, Suez crisis 1956, The Great Moderation, The Myth of the Rational Market, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, too big to fail, tulip mania, Tyler Cowen, unorthodox policies, value at risk, We are all Keynesians now, Works Progress Administration, yield curve, Yom Kippur War

As with everything else in this mess, that’s easier said than done; there is no panacea. But some sensible steps should be taken immediately. First we must correct the problem of transparency. True, some derivatives have long been traded over the counter without problems—like plain-vanilla interest-rate swaps and currency swaps—and could reasonably remain that way. But CDSs are another story altogether. These must be brought into the light of day and subjected to rigorous regulation by the SEC and the CFTC. The Obama administration has already taken steps along these lines, and several proposals to make this regulation a reality are already on the table.


Investment: A History by Norton Reamer, Jesse Downing

activist fund / activist shareholder / activist investor, Alan Greenspan, Albert Einstein, algorithmic trading, asset allocation, backtesting, banking crisis, Bear Stearns, behavioural economics, Berlin Wall, Bernie Madoff, book value, break the buck, Brownian motion, business cycle, buttonwood tree, buy and hold, California gold rush, capital asset pricing model, Carmen Reinhart, carried interest, colonial rule, Cornelius Vanderbilt, credit crunch, Credit Default Swap, Daniel Kahneman / Amos Tversky, debt deflation, discounted cash flows, diversified portfolio, dogs of the Dow, equity premium, estate planning, Eugene Fama: efficient market hypothesis, Fall of the Berlin Wall, family office, Fellow of the Royal Society, financial innovation, fixed income, flying shuttle, Glass-Steagall Act, Gordon Gekko, Henri Poincaré, Henry Singleton, high net worth, impact investing, index fund, information asymmetry, interest rate swap, invention of the telegraph, James Hargreaves, James Watt: steam engine, John Bogle, joint-stock company, Kenneth Rogoff, labor-force participation, land tenure, London Interbank Offered Rate, Long Term Capital Management, loss aversion, Louis Bachelier, low interest rates, managed futures, margin call, means of production, Menlo Park, merger arbitrage, Michael Milken, money market fund, moral hazard, mortgage debt, Myron Scholes, negative equity, Network effects, new economy, Nick Leeson, Own Your Own Home, Paul Samuelson, pension reform, Performance of Mutual Funds in the Period, Ponzi scheme, Post-Keynesian economics, price mechanism, principal–agent problem, profit maximization, proprietary trading, quantitative easing, RAND corporation, random walk, Renaissance Technologies, Richard Thaler, risk free rate, risk tolerance, risk-adjusted returns, risk/return, Robert Shiller, Sand Hill Road, Savings and loan crisis, seminal paper, Sharpe ratio, short selling, Silicon Valley, South Sea Bubble, sovereign wealth fund, spinning jenny, statistical arbitrage, survivorship bias, tail risk, technology bubble, Teledyne, The Wealth of Nations by Adam Smith, time value of money, tontine, too big to fail, transaction costs, two and twenty, underbanked, Vanguard fund, working poor, yield curve

Two other traders suggested it should be lower, so the first trader replied, “OK, I will move the curve down 1 basis point, maybe more if I can.”123 Of course, the other reason the LIBOR scandal is so important is because so much money is tied to LIBOR. Indeed, as MIT professor Andrew Lo has pointed out, LIBOR was never intended to serve as the basis of such a large volume of financial contracts.124 Among the contracts it affects are mortgages, interest rate swaps—where one party agrees to exchange a fixed interest rate for a variable rate that is a certain number of percentage points higher than LIBOR—student loans, and other debt arrangements. In all, some $300 trillion worth of contracts is tied to LIBOR, and, as such, a tiny manipulation of a single basis point translates into enormous transfers of wealth.125 The LIBOR scandal demonstrates another important feature of typical market manipulation today: in highly liquid markets, some form of collusion is typically required.


pages: 497 words: 144,283

Connectography: Mapping the Future of Global Civilization by Parag Khanna

"World Economic Forum" Davos, 1919 Motor Transport Corps convoy, 2013 Report for America's Infrastructure - American Society of Civil Engineers - 19 March 2013, 9 dash line, additive manufacturing, Admiral Zheng, affirmative action, agricultural Revolution, Airbnb, Albert Einstein, amateurs talk tactics, professionals talk logistics, Amazon Mechanical Turk, Anthropocene, Asian financial crisis, asset allocation, autonomous vehicles, banking crisis, Basel III, Berlin Wall, bitcoin, Black Swan, blockchain, borderless world, Boycotts of Israel, Branko Milanovic, BRICs, British Empire, business intelligence, call centre, capital controls, Carl Icahn, charter city, circular economy, clean water, cloud computing, collateralized debt obligation, commoditize, complexity theory, continuation of politics by other means, corporate governance, corporate social responsibility, credit crunch, crony capitalism, crowdsourcing, cryptocurrency, cuban missile crisis, data is the new oil, David Ricardo: comparative advantage, deglobalization, deindustrialization, dematerialisation, Deng Xiaoping, Detroit bankruptcy, digital capitalism, digital divide, digital map, disruptive innovation, diversification, Doha Development Round, driverless car, Easter island, edge city, Edward Snowden, Elon Musk, energy security, Ethereum, ethereum blockchain, European colonialism, eurozone crisis, export processing zone, failed state, Fairphone, Fall of the Berlin Wall, family office, Ferguson, Missouri, financial innovation, financial repression, fixed income, forward guidance, gentrification, geopolitical risk, global supply chain, global value chain, global village, Google Earth, Great Leap Forward, Hernando de Soto, high net worth, high-speed rail, Hyperloop, ice-free Arctic, if you build it, they will come, illegal immigration, income inequality, income per capita, industrial cluster, industrial robot, informal economy, Infrastructure as a Service, interest rate swap, Intergovernmental Panel on Climate Change (IPCC), Internet of things, Isaac Newton, Jane Jacobs, Jaron Lanier, John von Neumann, Julian Assange, Just-in-time delivery, Kevin Kelly, Khyber Pass, Kibera, Kickstarter, LNG terminal, low cost airline, low earth orbit, low interest rates, manufacturing employment, mass affluent, mass immigration, megacity, Mercator projection, Metcalfe’s law, microcredit, middle-income trap, mittelstand, Monroe Doctrine, Multics, mutually assured destruction, Neal Stephenson, New Economic Geography, new economy, New Urbanism, off grid, offshore financial centre, oil rush, oil shale / tar sands, oil shock, openstreetmap, out of africa, Panamax, Parag Khanna, Peace of Westphalia, peak oil, Pearl River Delta, Peter Thiel, Philip Mirowski, Planet Labs, plutocrats, post-oil, post-Panamax, precautionary principle, private military company, purchasing power parity, quantum entanglement, Quicken Loans, QWERTY keyboard, race to the bottom, Rana Plaza, rent-seeking, reserve currency, Robert Gordon, Robert Shiller, Robert Solow, rolling blackouts, Ronald Coase, Scramble for Africa, Second Machine Age, sharing economy, Shenzhen special economic zone , Shenzhen was a fishing village, Silicon Valley, Silicon Valley startup, six sigma, Skype, smart cities, Smart Cities: Big Data, Civic Hackers, and the Quest for a New Utopia, South China Sea, South Sea Bubble, sovereign wealth fund, special economic zone, spice trade, Stuxnet, supply-chain management, sustainable-tourism, systems thinking, TaskRabbit, tech worker, TED Talk, telepresence, the built environment, The inhabitant of London could order by telephone, sipping his morning tea in bed, the various products of the whole earth, Tim Cook: Apple, trade route, Tragedy of the Commons, transaction costs, Tyler Cowen, UNCLOS, uranium enrichment, urban planning, urban sprawl, vertical integration, WikiLeaks, Yochai Benkler, young professional, zero day

One other crucial difference between the two cities is that unlike Detroit Dongguan was not fleeced by the financial markets. China’s municipal debts are exorbitant and its state-owned enterprises badly need restructuring, but both are backed by the $4 trillion of the People’s Bank of China. Meanwhile, days before its bankruptcy, Detroit paid out $250 million to UBS and Bank of America on debts inflated due to interest rate swap agreements, leaving it with pennies to cover almost $20 billion in pension and health-care obligations. Does China have a better model for managing central government relations with cities than America? China has embarked on economic liberalization far more quickly than political democratization, but what is proving to be equally important for its long-term stability is how it manages devolution.


Mastering Blockchain, Second Edition by Imran Bashir

3D printing, altcoin, augmented reality, autonomous vehicles, bitcoin, blockchain, business logic, business process, carbon footprint, centralized clearinghouse, cloud computing, connected car, cryptocurrency, data acquisition, Debian, disintermediation, disruptive innovation, distributed ledger, Dogecoin, domain-specific language, en.wikipedia.org, Ethereum, ethereum blockchain, fault tolerance, fiat currency, Firefox, full stack developer, general-purpose programming language, gravity well, information security, initial coin offering, interest rate swap, Internet of things, litecoin, loose coupling, machine readable, MITM: man-in-the-middle, MVC pattern, Network effects, new economy, node package manager, Oculus Rift, peer-to-peer, platform as a service, prediction markets, QR code, RAND corporation, Real Time Gross Settlement, reversible computing, RFC: Request For Comment, RFID, ride hailing / ride sharing, Satoshi Nakamoto, seminal paper, single page application, smart cities, smart contracts, smart grid, smart meter, supply-chain management, transaction costs, Turing complete, Turing machine, Vitalik Buterin, web application, x509 certificate

Corda can be cloned locally from GitHub using the following command: $ git clone https://github.com/corda/corda.git When the cloning is successful, you should see output similar to the following: Cloning into 'corda'... remote: Counting objects: 74695, done. remote: Compressing objects: 100% (67/67), done. remote: Total 74695 (delta 17), reused 0 (delta 0), pack-reused 74591 Receiving objects: 100% (74695/74695), 51.27 MiB | 1.72 MiB/s, done. Resolving deltas: 100% (42863/42863), done. Checking connectivity... done. Once the repository is cloned, it can be opened in IntelliJ for further development. There are multiple samples available in the repository, such as a bank of Corda, interest rate swaps, demo, and traders demo. Readers can find them under the /samples directory under corda and they can be explored using IntelliJ IDEA IDE. Summary In this chapter, we have gone through an introduction to the Hyperledger project. Firstly, the core ideas behind the Hyperledger project were discussed, and a brief introduction to all projects under Hyperledger was provided.


pages: 559 words: 155,372

Chaos Monkeys: Obscene Fortune and Random Failure in Silicon Valley by Antonio Garcia Martinez

Airbnb, airport security, always be closing, Amazon Web Services, Big Tech, Burning Man, business logic, Celtic Tiger, centralized clearinghouse, cognitive dissonance, collective bargaining, content marketing, corporate governance, Credit Default Swap, crowdsourcing, data science, deal flow, death of newspapers, disruptive innovation, Dr. Strangelove, drone strike, drop ship, El Camino Real, Elon Musk, Emanuel Derman, Fairchild Semiconductor, fake it until you make it, financial engineering, financial independence, Gary Kildall, global supply chain, Goldman Sachs: Vampire Squid, Hacker News, hive mind, How many piano tuners are there in Chicago?, income inequality, industrial research laboratory, information asymmetry, information security, interest rate swap, intermodal, Jeff Bezos, Kickstarter, Malcom McLean invented shipping containers, Marc Andreessen, Mark Zuckerberg, Maui Hawaii, means of production, Menlo Park, messenger bag, minimum viable product, MITM: man-in-the-middle, move fast and break things, Neal Stephenson, Network effects, orbital mechanics / astrodynamics, Paul Graham, performance metric, Peter Thiel, Ponzi scheme, pre–internet, public intellectual, Ralph Waldo Emerson, random walk, Reminiscences of a Stock Operator, Ruby on Rails, Salesforce, Sam Altman, Sand Hill Road, Scientific racism, second-price auction, self-driving car, Sheryl Sandberg, Silicon Valley, Silicon Valley startup, Skype, Snapchat, social graph, Social Justice Warrior, social web, Socratic dialogue, source of truth, Steve Jobs, tech worker, telemarketer, the long tail, undersea cable, urban renewal, Y Combinator, zero-sum game, éminence grise

Alan Brazil, the managing director for mortgage strategies at Goldman Sachs, was rationing out small, paperbound grease pucks, like a World War I commanding officer handing out munitions to his troops before an assault. It was, of course, the White Castle burger-eating contest. All trading turned from interest-rate swaps (minimum notional size: $50 million) to wagering on which young Goldman acolyte would down the most White Castle burgers in an hour. The betting structure was a typical Vegas-style over/under bet on how many burgers would be eaten without puking. The surrounding crowd turned into a howling, gesticulating mass of electrified greed, with the serious traders signaling to each other and actually writing down trades in notebooks, as they would million-dollar positions.


pages: 543 words: 147,357

Them And Us: Politics, Greed And Inequality - Why We Need A Fair Society by Will Hutton

Abraham Maslow, Alan Greenspan, Andrei Shleifer, asset-backed security, bank run, banking crisis, Bear Stearns, behavioural economics, Benoit Mandelbrot, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Blythe Masters, Boris Johnson, bread and circuses, Bretton Woods, business cycle, capital controls, carbon footprint, Carmen Reinhart, Cass Sunstein, centre right, choice architecture, cloud computing, collective bargaining, conceptual framework, Corn Laws, Cornelius Vanderbilt, corporate governance, creative destruction, credit crunch, Credit Default Swap, debt deflation, decarbonisation, Deng Xiaoping, discovery of DNA, discovery of the americas, discrete time, disinformation, diversification, double helix, Edward Glaeser, financial deregulation, financial engineering, financial innovation, financial intermediation, first-past-the-post, floating exchange rates, Francis Fukuyama: the end of history, Frank Levy and Richard Murnane: The New Division of Labor, full employment, general purpose technology, George Akerlof, Gini coefficient, Glass-Steagall Act, global supply chain, Growth in a Time of Debt, Hyman Minsky, I think there is a world market for maybe five computers, income inequality, inflation targeting, interest rate swap, invisible hand, Isaac Newton, James Dyson, James Watt: steam engine, Japanese asset price bubble, joint-stock company, Joseph Schumpeter, Kenneth Rogoff, knowledge economy, knowledge worker, labour market flexibility, language acquisition, Large Hadron Collider, liberal capitalism, light touch regulation, Long Term Capital Management, long term incentive plan, Louis Pasteur, low cost airline, low interest rates, low-wage service sector, mandelbrot fractal, margin call, market fundamentalism, Martin Wolf, mass immigration, means of production, meritocracy, Mikhail Gorbachev, millennium bug, Money creation, money market fund, moral hazard, moral panic, mortgage debt, Myron Scholes, Neil Kinnock, new economy, Northern Rock, offshore financial centre, open economy, plutocrats, power law, price discrimination, private sector deleveraging, proprietary trading, purchasing power parity, quantitative easing, race to the bottom, railway mania, random walk, rent-seeking, reserve currency, Richard Thaler, Right to Buy, rising living standards, Robert Shiller, Ronald Reagan, Rory Sutherland, Satyajit Das, Savings and loan crisis, shareholder value, short selling, Silicon Valley, Skype, South Sea Bubble, Steve Jobs, systems thinking, tail risk, The Market for Lemons, the market place, The Myth of the Rational Market, the payments system, the scientific method, The Wealth of Nations by Adam Smith, three-masted sailing ship, too big to fail, unpaid internship, value at risk, Vilfredo Pareto, Washington Consensus, wealth creators, work culture , working poor, world market for maybe five computers, zero-sum game, éminence grise

The latter had the same effect as the former, but it was harder to do: you needed a willing counter-party, which in the early days could take weeks to find. Nevertheless, both hedging and swapping fostered a deepening of the interbank market, with one deal prompting a sequence of others and all generating liquidity. Since the first big interest-rate swap deal in 1981 – between the World Bank and IBM – the market had grown to be worth trillions of dollars as banks sought to rearrange their portfolio of liabilities and assets according to whatever risk profile regarding interest rates and currencies they and their clients preferred. Banking was changing from nurturing long-term trust relationships with customers and borrowers to trying to manage and grow a balance sheet based on risk probabilities.


pages: 542 words: 145,022

In Pursuit of the Perfect Portfolio: The Stories, Voices, and Key Insights of the Pioneers Who Shaped the Way We Invest by Andrew W. Lo, Stephen R. Foerster

Alan Greenspan, Albert Einstein, AOL-Time Warner, asset allocation, backtesting, behavioural economics, Benoit Mandelbrot, Black Monday: stock market crash in 1987, Black-Scholes formula, Bretton Woods, Brownian motion, business cycle, buy and hold, capital asset pricing model, Charles Babbage, Charles Lindbergh, compound rate of return, corporate governance, COVID-19, credit crunch, currency risk, Daniel Kahneman / Amos Tversky, diversification, diversified portfolio, Donald Trump, Edward Glaeser, equity premium, equity risk premium, estate planning, Eugene Fama: efficient market hypothesis, fake news, family office, fear index, fiat currency, financial engineering, financial innovation, financial intermediation, fixed income, hiring and firing, Hyman Minsky, implied volatility, index fund, interest rate swap, Internet Archive, invention of the wheel, Isaac Newton, Jim Simons, John Bogle, John Meriwether, John von Neumann, joint-stock company, junk bonds, Kenneth Arrow, linear programming, Long Term Capital Management, loss aversion, Louis Bachelier, low interest rates, managed futures, mandelbrot fractal, margin call, market bubble, market clearing, mental accounting, money market fund, money: store of value / unit of account / medium of exchange, Myron Scholes, new economy, New Journalism, Own Your Own Home, passive investing, Paul Samuelson, Performance of Mutual Funds in the Period, prediction markets, price stability, profit maximization, quantitative trading / quantitative finance, RAND corporation, random walk, Richard Thaler, risk free rate, risk tolerance, risk-adjusted returns, risk/return, Robert Shiller, Robert Solow, Ronald Reagan, Savings and loan crisis, selection bias, seminal paper, shareholder value, Sharpe ratio, short selling, South Sea Bubble, stochastic process, stocks for the long run, survivorship bias, tail risk, Thales and the olive presses, Thales of Miletus, The Myth of the Rational Market, The Wisdom of Crowds, Thomas Bayes, time value of money, transaction costs, transfer pricing, tulip mania, Vanguard fund, yield curve, zero-coupon bond, zero-sum game

The main strategy behind LTCM was to look for discrepancies in prices between two similar assets, buying the underpriced one and selling short the overpriced one, thereby making money when the asset prices converged. These were known as convergence trades.57 For example, based on quantitative models related to option pricing, traders might detect a discrepancy between the price of long-term Treasury bonds and the price of a related type of derivative security known as an interest rate swap, buying the former and selling the latter. Another was known as a relative value strategy and worked in a similar manner. Here, however, while convergence in prices was expected, it wasn’t guaranteed except perhaps over a long period of time. Besides these two main strategies, LTCM initially included a smaller number of directional trades, but such unhedged positions were much riskier.


pages: 554 words: 168,114

Oil: Money, Politics, and Power in the 21st Century by Tom Bower

"World Economic Forum" Davos, addicted to oil, Alan Greenspan, An Inconvenient Truth, Ayatollah Khomeini, banking crisis, bonus culture, California energy crisis, corporate governance, credit crunch, energy security, Exxon Valdez, falling living standards, fear of failure, financial engineering, forensic accounting, Global Witness, index fund, interest rate swap, John Deuss, Korean Air Lines Flight 007, kremlinology, land bank, LNG terminal, Long Term Capital Management, margin call, megaproject, Meghnad Desai, Mikhail Gorbachev, millennium bug, MITM: man-in-the-middle, Nelson Mandela, new economy, North Sea oil, offshore financial centre, oil shale / tar sands, oil shock, Oscar Wyatt, passive investing, peak oil, Piper Alpha, price mechanism, price stability, Ronald Reagan, shareholder value, short selling, Silicon Valley, sovereign wealth fund, transaction costs, transfer pricing, zero-sum game, éminence grise

In 1996 the deregulatory atmosphere had encouraged one trader employed by the Japanese bank Sumitomo to mount a fraud trading copper futures on the London Metal Exchange and OTC copper “swaps,” while in America, Bankers Trust had caused the multinational corporation Procter & Gamble to suffer huge losses through the sale of interest rate “swaps,” and Orange County in California had become insolvent as a result of speculating on OTCs. By 1998, oil had become intrinsic to the OTC explosion. Many transactions were finalized by telephone conversations, with little committed to paper or e-mails. Vitol, Glencore and other traders spent millions of dollars gathering intelligence, but finding evidence even of normal trading was hard.


pages: 540 words: 168,921

The Relentless Revolution: A History of Capitalism by Joyce Appleby

1919 Motor Transport Corps convoy, agricultural Revolution, Alan Greenspan, An Inconvenient Truth, anti-communist, Asian financial crisis, asset-backed security, Bartolomé de las Casas, Bear Stearns, Bernie Madoff, Bretton Woods, BRICs, British Empire, call centre, Charles Lindbergh, classic study, collateralized debt obligation, collective bargaining, Columbian Exchange, commoditize, Cornelius Vanderbilt, corporate governance, cotton gin, creative destruction, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, David Ricardo: comparative advantage, deindustrialization, Deng Xiaoping, deskilling, Doha Development Round, double entry bookkeeping, epigenetics, equal pay for equal work, European colonialism, facts on the ground, failed state, Firefox, fixed income, Ford Model T, Ford paid five dollars a day, Francisco Pizarro, Frederick Winslow Taylor, full employment, General Magic , Glass-Steagall Act, Gordon Gekko, Great Leap Forward, Henry Ford's grandson gave labor union leader Walter Reuther a tour of the company’s new, automated factory…, Hernando de Soto, hiring and firing, Ida Tarbell, illegal immigration, informal economy, interchangeable parts, interest rate swap, invention of movable type, invention of the printing press, invention of the steam engine, invisible hand, Isaac Newton, James Hargreaves, James Watt: steam engine, Jeff Bezos, John Bogle, joint-stock company, Joseph Schumpeter, junk bonds, knowledge economy, land bank, land reform, Livingstone, I presume, Long Term Capital Management, low interest rates, Mahatma Gandhi, Martin Wolf, military-industrial complex, moral hazard, Nixon triggered the end of the Bretton Woods system, PalmPilot, Parag Khanna, pneumatic tube, Ponzi scheme, profit maximization, profit motive, race to the bottom, Ralph Nader, refrigerator car, Ronald Reagan, scientific management, Scramble for Africa, Silicon Valley, Silicon Valley startup, South China Sea, South Sea Bubble, special economic zone, spice trade, spinning jenny, strikebreaker, Suez canal 1869, the built environment, The Wealth of Nations by Adam Smith, Thomas L Friedman, Thorstein Veblen, total factor productivity, trade route, transatlantic slave trade, transcontinental railway, two and twenty, union organizing, Unsafe at Any Speed, Upton Sinclair, urban renewal, vertical integration, War on Poverty, working poor, Works Progress Administration, Yogi Berra, Yom Kippur War

The American Dialect Society voted “subprime” the word of 2007.7 During the euphoria over rising housing prices, the lexicon of global finance migrated out of Wall Street into daily newspapers, where you could find references to option adjustable interest rate mortgages, collateralized debt obligations, interest rate swaps, swaptions, and special purpose vehicles! Hedge funds grew fivefold in the first decade of the twenty-first century, attracting managers of pension money, university endowments, and municipal investments, all now suffering with the retraction. Those people who ran hedge funds, established derivatives, and created option adjustable rate mortgages had built a house of cards with mortgage paper.


pages: 512 words: 162,977

New Market Wizards: Conversations With America's Top Traders by Jack D. Schwager

backtesting, beat the dealer, Benoit Mandelbrot, Berlin Wall, Black-Scholes formula, book value, butterfly effect, buy and hold, commodity trading advisor, computerized trading, currency risk, Edward Thorp, Elliott wave, fixed income, full employment, implied volatility, interest rate swap, Louis Bachelier, margin call, market clearing, market fundamentalism, Market Wizards by Jack D. Schwager, money market fund, paper trading, pattern recognition, placebo effect, prediction markets, proprietary trading, Ralph Nelson Elliott, random walk, Reminiscences of a Stock Operator, risk tolerance, risk/return, Saturday Night Live, Sharpe ratio, the map is not the territory, transaction costs, uptick rule, War on Poverty

Therefore, you could buy the bond and sell the sterling forward at a huge premium, which over the life of the bond would converge to the spot rate. What was the term of the bond? The bond matured in four tranches: five, seven, nine, and twelve years. I don’t understand. Is it possible to hedge a currency that far forward? Of course it is. Even if you can’t do the hedge in the forward market, you can create the position through an interest rate swap. However, in the case of sterling/dollar, which has a very liquid term forward market, there was certainly a market for at least ten years out. How big was the issue? There were two tranches: the first for $100 millions and the second for $50 million. What happened when you pointed out that the issue was grossly mispriced?


pages: 823 words: 206,070

The Making of Global Capitalism by Leo Panitch, Sam Gindin

accounting loophole / creative accounting, active measures, airline deregulation, Alan Greenspan, anti-communist, Asian financial crisis, asset-backed security, bank run, banking crisis, barriers to entry, Basel III, Bear Stearns, Big bang: deregulation of the City of London, bilateral investment treaty, book value, Branko Milanovic, Bretton Woods, BRICs, British Empire, business cycle, call centre, capital controls, Capital in the Twenty-First Century by Thomas Piketty, carbon credits, Carmen Reinhart, central bank independence, classic study, collective bargaining, continuous integration, corporate governance, creative destruction, Credit Default Swap, crony capitalism, currency manipulation / currency intervention, currency peg, dark matter, democratizing finance, Deng Xiaoping, disintermediation, ending welfare as we know it, eurozone crisis, facts on the ground, financial deregulation, financial innovation, Financial Instability Hypothesis, financial intermediation, floating exchange rates, foreign exchange controls, full employment, Gini coefficient, Glass-Steagall Act, global value chain, guest worker program, Hyman Minsky, imperial preference, income inequality, inflation targeting, interchangeable parts, interest rate swap, Kenneth Rogoff, Kickstarter, land reform, late capitalism, liberal capitalism, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, low interest rates, manufacturing employment, market bubble, market fundamentalism, Martin Wolf, means of production, military-industrial complex, money market fund, money: store of value / unit of account / medium of exchange, Monroe Doctrine, moral hazard, mortgage debt, mortgage tax deduction, Myron Scholes, new economy, Nixon triggered the end of the Bretton Woods system, non-tariff barriers, Northern Rock, oil shock, precariat, price stability, proprietary trading, quantitative easing, Ralph Nader, RAND corporation, regulatory arbitrage, reserve currency, risk tolerance, Ronald Reagan, Savings and loan crisis, scientific management, seigniorage, shareholder value, short selling, Silicon Valley, sovereign wealth fund, special drawing rights, special economic zone, stock buybacks, structural adjustment programs, subprime mortgage crisis, Tax Reform Act of 1986, The Chicago School, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, too big to fail, trade liberalization, transcontinental railway, trickle-down economics, union organizing, vertical integration, very high income, Washington Consensus, We are all Keynesians now, Works Progress Administration, zero-coupon bond, zero-sum game

China’s low domestic consumption left it with a profound dependence on American consumer markets, sustained by the policy of keeping the renminbi low relative to the dollar despite China’s ever larger trade surpluses and capital inflows. Although a managed floating exchange band was implemented in 2005, supported by the introduction of an over-the-counter derivatives market, and of foreign-exchange and interest-rate swaps, the renminbi’s relative appreciation was small in real terms. This was only possible because extensive capital controls were maintained, even as China’s securities and bond markets were opened up to foreigners in line with the WTO accession agreement. But while US institutional investors and investment banks became key players in Chinese financial markets (they were especially involved in major merger and acquisitions activity, and in purchasing the lion’s share of stock offered for sale by SOEs107), China’s capital markets, while growing fast, remained “among the smallest in the world relative to the size of the domestic economy.”108 Despite China’s having consented under the WTO agreement to open its domestic banking sector to foreigners by 2007, the financial system remained dominated by five large state-owned commercial banks primarily engaged in lending to SOEs, while interest rates were administered by the central bank with the primary goal of avoiding upward pressures on the exchange rate.


The Concepts and Practice of Mathematical Finance by Mark S. Joshi

Black-Scholes formula, Brownian motion, correlation coefficient, Credit Default Swap, currency risk, delta neutral, discrete time, Emanuel Derman, financial engineering, fixed income, implied volatility, incomplete markets, interest rate derivative, interest rate swap, London Interbank Offered Rate, martingale, millennium bug, power law, quantitative trading / quantitative finance, risk free rate, short selling, stochastic process, stochastic volatility, the market place, time value of money, transaction costs, value at risk, volatility smile, yield curve, zero-coupon bond

Putting money on deposit for six months at an annualized rate of 5% and then rolling it into another six-month deposit at the same rate is not the same as putting money on deposit for one year at an annual rate of 5%. 13.2.3 Swaps Whilst the forward-rate agreement involves a principal, its close relative, the interest rate swap, does not. Rather than agreeing with a counterparty to put some money on deposit for a fixed period of time in the future at a fixed rate, we instead enter into a contract to pay him the floating rate of interest on a notional, whilst he pays us a rate fixed in advance. As the interest payments go both ways, there is no need to exchange principals.


pages: 700 words: 201,953

The Social Life of Money by Nigel Dodd

"hyperreality Baudrillard"~20 OR "Baudrillard hyperreality", accounting loophole / creative accounting, bank run, banking crisis, banks create money, behavioural economics, Bernie Madoff, bitcoin, Bitcoin Ponzi scheme, blockchain, borderless world, Bretton Woods, BRICs, business cycle, capital controls, capitalist realism, cashless society, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, commoditize, computer age, conceptual framework, credit crunch, cross-subsidies, currency risk, David Graeber, debt deflation, dematerialisation, disintermediation, Dogecoin, emotional labour, eurozone crisis, fiat currency, financial engineering, financial exclusion, financial innovation, Financial Instability Hypothesis, financial repression, floating exchange rates, Fractional reserve banking, gentrification, German hyperinflation, Goldman Sachs: Vampire Squid, Herbert Marcuse, Hyman Minsky, illegal immigration, informal economy, interest rate swap, Isaac Newton, John Maynard Keynes: Economic Possibilities for our Grandchildren, joint-stock company, Joseph Schumpeter, Kickstarter, Kula ring, laissez-faire capitalism, land reform, late capitalism, liberal capitalism, liquidity trap, litecoin, London Interbank Offered Rate, M-Pesa, Marshall McLuhan, means of production, mental accounting, microcredit, Minsky moment, mobile money, Modern Monetary Theory, Money creation, money market fund, money: store of value / unit of account / medium of exchange, mortgage debt, National Debt Clock, Neal Stephenson, negative equity, new economy, Nixon shock, Nixon triggered the end of the Bretton Woods system, Occupy movement, offshore financial centre, paradox of thrift, payday loans, Peace of Westphalia, peer-to-peer, peer-to-peer lending, Ponzi scheme, post scarcity, post-Fordism, Post-Keynesian economics, postnationalism / post nation state, predatory finance, price mechanism, price stability, quantitative easing, quantitative trading / quantitative finance, remote working, rent-seeking, reserve currency, Richard Thaler, risk free rate, Robert Shiller, Satoshi Nakamoto, scientific management, Scientific racism, seigniorage, Skype, Slavoj Žižek, South Sea Bubble, sovereign wealth fund, special drawing rights, The Wealth of Nations by Adam Smith, too big to fail, trade liberalization, transaction costs, Veblen good, Wave and Pay, Westphalian system, WikiLeaks, Wolfgang Streeck, yield curve, zero-coupon bond

Aglietta, M. and L. Scialom (2003). “The Challenge of European Integration for Prudential Policy.” LSE Financial Markets Group Special Paper. London, London School of Economics, 152. Agnes, P. (2000). “The ‘End of Geography’ in Financial Services? Local Embeddedness and Territorialization in the Interest Rate Swaps Industry.” Economic Geography 76 (4): 347–66. Ahamed, L. (2009). Lords of Finance: 1929, The Great Depression, and the Bankers Who Broke the World, London, Windmill Books. Akin, D. and J. Robbins (1999). Money and Modernity: State and Local Currencies in Melanesia, Pittsburgh, Pittsburgh University Press.


pages: 809 words: 237,921

The Narrow Corridor: States, Societies, and the Fate of Liberty by Daron Acemoglu, James A. Robinson

Affordable Care Act / Obamacare, agricultural Revolution, AltaVista, Andrei Shleifer, bank run, Berlin Wall, British Empire, California gold rush, central bank independence, centre right, classic study, collateralized debt obligation, collective bargaining, colonial rule, Computer Numeric Control, conceptual framework, Corn Laws, Cornelius Vanderbilt, corporate governance, creative destruction, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, Dava Sobel, David Ricardo: comparative advantage, Deng Xiaoping, discovery of the americas, double entry bookkeeping, Edward Snowden, en.wikipedia.org, equal pay for equal work, European colonialism, export processing zone, Ferguson, Missouri, financial deregulation, financial innovation, flying shuttle, Francis Fukuyama: the end of history, full employment, Glass-Steagall Act, Great Leap Forward, high-speed rail, income inequality, income per capita, industrial robot, information asymmetry, interest rate swap, invention of movable type, Isaac Newton, it's over 9,000, James Watt: steam engine, John Harrison: Longitude, joint-stock company, Kula ring, labor-force participation, land reform, Mahatma Gandhi, manufacturing employment, mass incarceration, Maui Hawaii, means of production, megacity, Mikhail Gorbachev, military-industrial complex, Nelson Mandela, obamacare, openstreetmap, out of africa, PageRank, pattern recognition, road to serfdom, Ronald Reagan, seminal paper, Skype, spinning jenny, Steven Pinker, the market place, transcontinental railway, War on Poverty, WikiLeaks

In this regulated environment, the bureaucratized and comfortable jobs in banking came to be described by the “3-6-3 rule”—take deposits at 3 percent interest rate, lend them at 6 percent interest rate, and hit the golf course by 3 p.m. This started to change in the 1970s, particularly after Regulation Q was abolished in 1986, paving the way to a significant rise in concentration in banking. Together with greater concentration came a huge shift toward riskier activities, such as financial derivatives including interest rate swaps (where one party to the financial contract makes payments to the other depending on whether a benchmark interest rate is below or above a threshold) or credit default swaps (where payments are made depending on whether a debtor defaults). Even though the financial sector was branching into riskier activities, the rising political power of banks blocked any new regulations and in fact pushed for further deregulation.


pages: 1,066 words: 273,703

Crashed: How a Decade of Financial Crises Changed the World by Adam Tooze

"there is no alternative" (TINA), "World Economic Forum" Davos, Affordable Care Act / Obamacare, Alan Greenspan, Apple's 1984 Super Bowl advert, Asian financial crisis, asset-backed security, bank run, banking crisis, Basel III, Bear Stearns, Berlin Wall, Bernie Sanders, Big bang: deregulation of the City of London, bond market vigilante , book value, Boris Johnson, bread and circuses, break the buck, Bretton Woods, Brexit referendum, BRICs, British Empire, business cycle, business logic, capital controls, Capital in the Twenty-First Century by Thomas Piketty, Carmen Reinhart, Celtic Tiger, central bank independence, centre right, collateralized debt obligation, company town, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, currency risk, dark matter, deindustrialization, desegregation, Detroit bankruptcy, Dissolution of the Soviet Union, diversification, Doha Development Round, Donald Trump, Edward Glaeser, Edward Snowden, en.wikipedia.org, energy security, eurozone crisis, Fall of the Berlin Wall, family office, financial engineering, financial intermediation, fixed income, Flash crash, forward guidance, friendly fire, full employment, global reserve currency, global supply chain, global value chain, Goldman Sachs: Vampire Squid, Growth in a Time of Debt, high-speed rail, housing crisis, Hyman Minsky, illegal immigration, immigration reform, income inequality, interest rate derivative, interest rate swap, inverted yield curve, junk bonds, Kenneth Rogoff, large denomination, light touch regulation, Long Term Capital Management, low interest rates, margin call, Martin Wolf, McMansion, Mexican peso crisis / tequila crisis, military-industrial complex, mittelstand, money market fund, moral hazard, mortgage debt, mutually assured destruction, negative equity, new economy, Nixon triggered the end of the Bretton Woods system, Northern Rock, obamacare, Occupy movement, offshore financial centre, oil shale / tar sands, old-boy network, open economy, opioid epidemic / opioid crisis, paradox of thrift, Peter Thiel, Ponzi scheme, Post-Keynesian economics, post-truth, predatory finance, price stability, private sector deleveraging, proprietary trading, purchasing power parity, quantitative easing, race to the bottom, reserve currency, risk tolerance, Ronald Reagan, Savings and loan crisis, savings glut, secular stagnation, Silicon Valley, South China Sea, sovereign wealth fund, special drawing rights, Steve Bannon, structural adjustment programs, tail risk, The Great Moderation, Tim Cook: Apple, too big to fail, trade liberalization, upwardly mobile, Washington Consensus, We are the 99%, white flight, WikiLeaks, women in the workforce, Works Progress Administration, yield curve, éminence grise

A postmortem revealed that the stress tests had failed to account adequately for losses resulting from a restructuring of Greek debt. Furthermore, they had ignored altogether the issue of liquidity. In 2008 it had been collateral calls that triggered the disaster at Lehman and AIG. In 2011 they did the same to Dexia.34 The bank had contracted a huge portfolio of interest rate swaps on which it now faced demands for tens of billions of euros in collateral. The Belgian and French governments were forced into an expensive bailout at the worst possible moment. Given the potential impact on French public debt, the governor of the Banque de France, Christian Noyer, was forced to deny claims that France’s credit rating might be in jeopardy.35 Meanwhile, from the other side of the Atlantic came news of trouble at the high-profile brokerage firm MF Global.


pages: 1,335 words: 336,772

The House of Morgan: An American Banking Dynasty and the Rise of Modern Finance by Ron Chernow

Alan Greenspan, always be closing, bank run, banking crisis, Bear Stearns, Big bang: deregulation of the City of London, Black Monday: stock market crash in 1987, Bolshevik threat, book value, Boycotts of Israel, Bretton Woods, British Empire, buy and hold, California gold rush, capital controls, Carl Icahn, Charles Lindbergh, collective bargaining, Cornelius Vanderbilt, corporate raider, death from overwork, Dutch auction, Etonian, financial deregulation, financial engineering, fixed income, German hyperinflation, Glass-Steagall Act, index arbitrage, interest rate swap, junk bonds, low interest rates, margin call, Michael Milken, military-industrial complex, money market fund, Monroe Doctrine, North Sea oil, oil shale / tar sands, old-boy network, paper trading, plutocrats, Robert Gordon, Ronald Reagan, short selling, stock buybacks, strikebreaker, Suez canal 1869, Suez crisis 1956, the market place, the payments system, too big to fail, transcontinental railway, undersea cable, Yom Kippur War, young professional

It dealt in Treasury bonds, underwrote municipal bonds, advised cities, provided stock research and brokerage, and traded in gold bullion, silver, and foreign exchange. It continued to have the fanciest private banking operation, wooing rich customers with ads that promised to relieve their anxiety about possessing $50-million portfolios. Abroad, Morgans stepped up capital market activity, specializing in interest-rate swaps, currency swaps, and other financial esoterica. It had merchant banks in Japan, Hong Kong, Belgium, and Germany. In London, the headquarters of its global capital markets operation, it spent $500 million to outfit two historic buildings near the Thames—the vacant Guildhall School of Music and Drama and the City of London School for Girls—with vast trading floors.


pages: 1,009 words: 329,520

The Last Tycoons: The Secret History of Lazard Frères & Co. by William D. Cohan

"RICO laws" OR "Racketeer Influenced and Corrupt Organizations", activist fund / activist shareholder / activist investor, Alan Greenspan, AOL-Time Warner, bank run, Bear Stearns, book value, Carl Icahn, carried interest, cognitive dissonance, commoditize, computer age, corporate governance, corporate raider, creative destruction, credit crunch, deal flow, diversification, Donald Trump, East Village, fear of failure, financial engineering, fixed income, G4S, Glass-Steagall Act, hiring and firing, interest rate swap, intermodal, Joseph Schumpeter, junk bonds, land bank, late fees, Long Term Capital Management, Marc Andreessen, market bubble, Michael Milken, offshore financial centre, Ponzi scheme, proprietary trading, Ralph Nader, Ralph Waldo Emerson, rolodex, Ronald Reagan, shareholder value, short squeeze, SoftBank, stock buybacks, The Nature of the Firm, the new new thing, Yogi Berra

To comply with the inspector general's request, on May 27, 1993, Ferber--now at First Albany--wrote a one-paragraph letter to the MWRA, his client, revealing the existence of a contract between Lazard and Merrill Lynch, the MWRA's lead underwriter, under which they split more than $6 million in fees and commissions in exchange for Ferber and Lazard recommending that state agencies in Massachusetts use Merrill for financing and interest-rate swaps, a way for municipalities to reduce their interest costs. Merrill also paid Lazard $2.8 million in "consulting fees," and in return Ferber "was expected to help introduce Merrill Lynch to his contacts in government agencies" with the expectation that these agencies would choose Merrill Lynch as an underwriter of bonds and other financial transactions.


pages: 1,336 words: 415,037

The Snowball: Warren Buffett and the Business of Life by Alice Schroeder

affirmative action, Alan Greenspan, Albert Einstein, anti-communist, AOL-Time Warner, Ayatollah Khomeini, barriers to entry, Bear Stearns, Black Monday: stock market crash in 1987, Bob Noyce, Bonfire of the Vanities, book value, Brownian motion, capital asset pricing model, card file, centralized clearinghouse, Charles Lindbergh, collateralized debt obligation, computerized trading, Cornelius Vanderbilt, corporate governance, corporate raider, Credit Default Swap, credit default swaps / collateralized debt obligations, desegregation, do what you love, Donald Trump, Eugene Fama: efficient market hypothesis, Everybody Ought to Be Rich, Fairchild Semiconductor, Fillmore Auditorium, San Francisco, financial engineering, Ford Model T, Garrett Hardin, Glass-Steagall Act, global village, Golden Gate Park, Greenspan put, Haight Ashbury, haute cuisine, Honoré de Balzac, If something cannot go on forever, it will stop - Herbert Stein's Law, In Cold Blood by Truman Capote, index fund, indoor plumbing, intangible asset, interest rate swap, invisible hand, Isaac Newton, it's over 9,000, Jeff Bezos, John Bogle, John Meriwether, joint-stock company, joint-stock limited liability company, junk bonds, Larry Ellison, Long Term Capital Management, Louis Bachelier, low interest rates, margin call, market bubble, Marshall McLuhan, medical malpractice, merger arbitrage, Michael Milken, Mikhail Gorbachev, military-industrial complex, money market fund, moral hazard, NetJets, new economy, New Journalism, North Sea oil, paper trading, passive investing, Paul Samuelson, pets.com, Plato's cave, plutocrats, Ponzi scheme, proprietary trading, Ralph Nader, random walk, Ronald Reagan, Salesforce, Scientific racism, shareholder value, short selling, side project, Silicon Valley, Steve Ballmer, Steve Jobs, supply-chain management, telemarketer, The Predators' Ball, The Wealth of Nations by Adam Smith, Thomas Malthus, tontine, too big to fail, Tragedy of the Commons, transcontinental railway, two and twenty, Upton Sinclair, War on Poverty, Works Progress Administration, Y2K, yellow journalism, zero-coupon bond

Dangling off the side of the balance sheet on any given day were tens more billions, perhaps as many as $50 billion a day, of uncleared trades—transactions executed, but not yet settled. These would stall midair. Salomon also had many hundreds of billions of derivative obligations not recorded anywhere on its balance sheet—interest-rate swaps, foreign-exchange swaps, futures contracts—a massive and intricate daisy chain of obligations with counterparties all over the world, many of whom in turn had other interrelated contracts outstanding, all part of a vast entangled global financial web. If the funding disappeared, Salomon’s assets had to be sold—but while the funding could disappear in a few days, the assets would take time to liquidate.