In the forex market there are tons of strategies which basically boil down to being carry trades. By that I mean the primary thrust is holding positions which produce income from the net positive carry produced by being long the higher interest rate currency and short the lower interest rate one. Carry trades can be very lucrative – so long as a depreciation in the value of the position doesn’t trigger a margin call. When that happens the trader generally gives back all the net interest earned and quite a bit more.
Lehman was basically the same type of thing. They were in positions which were producing nice income for them, but which continued to lose value steadily. Eventually, they lost too much on the capital side and it all came crashing down. It was the same with Bear and apparently Merrill was heading the same way. It looks like AIG is going that direction too, and probably some others.
These are clear examples of poor risk management. Take them to heart. They demonstrate just how bad things can get if you don’t respect what the market can do.
Learn the lesson.
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About the Author
John Forman, author of this blog, has traded for more than 20 years, is a professional market analyst, and authored The Essentials of Trading. He is an active participant in trading forums, consults for trading related businesses, as published literally dozens of trading articles, and has been quoted in a number of books and in the media.
** See John’s full bio.
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