The Amaranth Debacle: A Failure of Risk Measures or a Failure of Risk Management?

The speculative activities of hedge funds have generated considerable interest among market agents and regulatory institutions. In September 2006, the activities of Amaranth Advisors, a large-sized Connecticut hedge fund in the natural gas market resulted in serious losses. By September 21, 2006, Amaranth had lost roughly $4.35B over a 3-week period or one half of its assets due to its activities in natural gas futures and options in September. Shortly thereafter, Amaranth fund was liquidated. This article presents a brief investigation of the possible causes behind this spectacular hedge fund failure and draws lessons by assessing Amaranth's trading activities within a standard risk management framework. Even by conservative measures, Amaranth was engaging in highly risky trades which in addition to high levels of market risk involved significant exposure to liquidity risk--a risk factor that is seemingly difficult to manage. [ABSTRACT FROM AUTHOR]