Case Study: How LTCM's Statistical Arbitrage Strategy Failed

In 1998 a hedge fund run by two Nobel laureates and Wall Street's best bond arbitrageurs lost roughly USD 4.6 billion in under five months and had to be rescued by a Federal Reserve-brokered consortium of 14 banks. Long-Term Capital Management's edge was relative-value and convergence trading, the direct ancestor of today's statistical arbitrage: buy the cheap twin, sell the expensive one, wait for the spread to close. This case study rebuilds the trades, the leverage and the risk models, walks through the Russian default and the August-September 1998 unwind, and dissects why a strategy that was right on average still blew up. Built for aspiring quant analysts, prop desk applicants and traders systematizing a pairs or spread strategy, with every lesson mapped to NSE pairs trades, arbitrage funds, SEBI margining and Indian liquidity crises.