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A Demon of Our Own Design

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A Demon of Our Own Design

Markets, Hedge Funds, and the Risks of Financial Innovation


15 min read
10 take-aways
Text available

What's inside?

An examination of financial risk: what Wall Street should do about the pitfalls of the newest investment mechanisms.

Editorial Rating



  • Innovative
  • Background
  • Concrete Examples


This book is part memoir, part reflection on risk, part tell-all, part recapitulation of recent financial crises and part polemic. If you fret that all these parts might blur author Richard Bookstaber’s objectives and message, you are right, but, if you have the patience, keep reading. Enjoy the somewhat diffuse anecdotes and observations in the first few chapters until you reach the author’s straightforward presentation of his case that the U.S. financial system is at risk from complexity and tight coupling. The book would have benefited from a slightly fresher take on the financial crises of the last three decades. However, given the author’s years as a risk manager on Wall Street (Morgan Stanley, Salomon Brothers, Citigroup) and as a hedge fund expert (Moore Capital, Ziff Brothers, FrontPoint), his personal experience during fiscal crises and his close view of dramatic turns in the market, getAbstract finds that his diagnosis of systemic problems conveys several important stories and that his analysis deserves your attention.


Portfolio Insurance and the Crash of 1987

Ed Thorp, a mathematician from MIT, pioneered analytical trading. In 1966, he wrote his first book, Beat the Dealer, which explained how to win at blackjack. He followed that with Beat the Market, a book about winning on the stock market. His blackjack book told the masses about card counting; his book on the market told elite traders about convertible bond arbitrage.

Thorp tried in 1983 to recruit author Richard Bookstaber, an experienced risk manager who holds a Ph.D. in economics from the Massachusetts Institute of Technology. Bookstaber flew to California for an interview, and noticed that Thorpe and his associates drove Porsches. Thorp lived in a $7 million estate that sported its own observatory. Although Thorp offered Bookstaber a job, problems developed and he eventually did not accept the offer.

Instead, in 1984, he joined Morgan Stanley to help reshape research on fixed-income instruments. While there, Bookstaber played a central role in developing portfolio insurance, a dynamic hedging approach that became very popular in the 1980s. It involved buying and selling securities according to mathematical...

About the Author

Richard Bookstaber runs an equity hedge fund in Greenwich, Connecticut. He was director of risk management at two major investment firms. He is the author of three books and scores of articles on finance topics.

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