You can’t stop a Black Swan event, but you can position yourself to benefit from it - or at least save yourself from harm. Our government’s response to each ensuing Black Swan event ensured that the current crisis would be of epic proportions. The common thread and cause of much of the pain today is former Federal Reserve Chairman Alan Greenspan.

Long Term Capital Management

Long Term Capital Management, founded in 1994, was a hedge fund that remarkably generated 40% annual returns in its first 2 years. Its hubris soon grew to epic proportions - Taleb compares LTCM’s strategies to “picking up pennies in front of a steamroller”. They generated many small gains balanced against the unlikely chance of a large loss. In 1998, the steamroller won:

“During the summer of 1998, a combination of large events, triggered by a Russian financial crisis, took place that lay outside [LTCM’s} models. It was a Black Swan. LTCM went bust and almost took down the entire financial system with it, as the exposures were massive. Since their models ruled out the possibility of large deviations, they allowed themselves to take a monstrous amount of risk.”

All of their finely modeled bets went bad at the same time. The disdain they’d shown to other financial firms was returned in kind. LTCM had so many positions with so many counterparties throughout the world that they became the 1st firm to be “too big to be fail” After LTCM lost $4.6 billion in 3 months, the Federal Reserve Bank of New York heavily pressured the CEOs of all major Wall Street firms to bailout LTCM. Ultimately, 14 banks contributed $3.625 billion, received a 90% share in the fund and potentially averted a worldwide financial collapse.

Alan Greenspan, supporting this bailout, decreased interest rates twice in late 1998. In front of a Congressional committee in October, Alan Greenspan had this to say:

“It was a rare occasion, warranted because of the potential for serious disruptions to markets. Had the failure of LTCM triggered the seizing up of markets, substantial damage could have been inflicted on many market participants, including some not directly involved with the firm, and could have potentially impaired the economies of many nations including our own.”

These words seem strangely familiar to what we heard from Hank Paulson this past week.

Greenspan ruled out direct regulation of hedge funds, saying it was possible to monitor the fund's activity and act when necessary. Moral hazard was born during this crisis. Well-meaning members of the Congressional committee had a different opinion. Representative Bernard Sanders of Vermont, the House's lone independent, called it a "bailout for billionaires" that rewarded "the gambling practices of the Wall Street elites."

This first Black Swan event should have been a warning to the ruling elite of Wall Street, Congress, Greenspan and the American people. No one heeded the warning, and, 10 years later, the same problems have occurred to a much greater degree - and the government’s trying to avert worldwide financial collapse on a daily basis.