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Advice you can safely ignore

By Anonymous

Nobel prize-winner and serial wealth-destroyer Myron Scholes thinks we should "blow up" the over-the-counter (OTC) derivatives market and start all over:

Myron Scholes, the Nobel prize- winning economist who helped invent a model for pricing options, said regulators need to "blow up or burn" over-the-counter derivative trading markets to help solve the financial crisis.

The markets have stopped functioning and are failing to provide pricing signals, Scholes, 67, said today at a panel discussion at New York University?s Stern School of Business. Participants need a way to exit transactions and get a "fresh start," he said.

The "solution is really to blow up or burn the OTC market, the CDSs and swaps and structured products, and let us start over," he said, referring to credit-default swaps and other complex securities that are traded off exchanges. "One way to do that, through the auspices of regulators or the banking commissioners, is to try to close all contracts at mid-market prices."

Scholes, of course, was a co-founder of Long-Term Capital Management, the hedge fund whose spectacular implosion threatened to bring down the entire financial system a decade ago. After LTCM's failure, Scholes started another hedge fund, Platinum Grove Asset Management, and somehow managed to convince investors to give him more money to invest, using the same fixed-income arbitrage strategy that he used at LTCM. Predictably, Platinum Grove, which managed close to $6 billion, has also imploded?its main fund was down 38% through the first half of October, and in November the hedge fund suspended investor redemptions.

Given Scholes' penchant for losing spectacular amounts of money in the fixed income and derivatives markets, I think it's safe to ignore his advice on the OTC derivatives market. (Shockingly, Scholes thinks the OTC derivatives market is mispricing assets. In other news, bank shareholders think nationalization is a bad idea.)

Full post as published by Economics of Contempt on March 09, 2009 (boomark / email).