Kinsley on SS

[Henry C.K. Liu]

Jason, I hope you realize that your very statement is another way of
recognizing of the existence of market inefficiency in the interest rates
market.
The widespread international arbitrage on the principle of open interest parity
(in banking parlance, one kind of this type of activity is known as "carry
trade") was a major profit source until July 1997.
There is a theoretical relationship between exchange rates and interest rates
for all currencies which follows certain patterns of convergence.  For example,
there is a paired convergence between the Austrian dollar and the Japanese Yen
based on historical data that a computerized model can detect, while the
linkage between the two economies are not obvious.   Many hedge funds did
arbitrage convergence trades on this for months at a time, on foreign exchanges
and interest rates and equity prices.
LTCM's down fall was mainly caused by a paradigmic shift that voided the
calculation behind their interest rates hedges (th inverted curve between long
and short term interests, to be exact).  Their bet on market inefficiency
turned on them.

Henry C.K. Liu

JayHecht at aol.com wrote:


> In a message dated 1/25/99 1:37:17 PM Central Standard Time,
> hliu at mindspring.com writes:
>
> << Others are less visible, such as the
>  inverted interest rates curve that preceeds recessions. >>
> Henry,
>
> How is this a market inefficiency?  To my knowledge, there is absolutley no
> adequate economic or financial theory to explain interest rates.
>
> Jason