Swapnaneel Roy on LinkedIn: I recently rewatched the movie "Margin Call" to understand what happened… (2024)

Swapnaneel Roy

Finance Intern | MBA Candidate

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I recently rewatched the movie "Margin Call" to understand what happened and analyse critical financial concepts. The film starts with the firing of Eric Dale, a veteran risk analyst, and his young protégé Peter Sullivan completing his analysis. Peter discovers that the firm's financial models are flawed, and their portfolio of mortgage-backed securities (MBS) is on the verge of collapse. As the news spreads through the firm, the employees face a difficult decision - to expose the truth and risk their careers or to remain silent and continue to profit from the impending disaster.What is a Margin?A Margin allows investors to borrow money from their broker to purchase securities. The investor must maintain a minimum equity percentage in the account, known as the maintenance margin. If the value of the securities falls below this threshold, the broker triggers a margin call, demanding additional funds or securities to bring the account back above the maintenance margin. In Margin Call, Peter's discovery exposes the firm's excessive use of the margin. They were heavily reliant on borrowed money to amplify their gains on MBS, so as the value of MBS declines, the firm's equity also declines.Mortgage Backed Securities (MBS)Mortgage-backed securities (MBS) are financial instruments pooled together and sold as bonds to investors. This system allows investors to gain exposure to the housing markets without directly getting involved. Margin Call focuses on a portfolio heavily invested in MBS. As the housing market collapses, many of these mortgages default, leading to a decline in the value of MBS and the portfolio.Credit Default Swaps (CDS)Credit Default Swaps (CDS) allow buyers to protect themselves against the risk of default on a specific debt. The firm uses CDS to hedge their risk associated with MBS. If the mortgages default, the CDS would pay out, mitigating the losses. However, the film reveals that the counterparties to these CDS are similarly exposed to the failing market. This creates a chain reaction, where one loss is interconnected to the other, explaining the interconnection of the financial market.Mark-to-Market accountingMark-to-market accounting requires financial institutions to value their assets at their current market price, regardless of their original purchase price. As the housing market collapses and the value of MBS declines, the firm's mark-to-market value plummets rapidly, triggering the crisis.These were some key concepts referred to in the movie. By understanding these concepts in detail, we can gain an understanding and a deeper appreciation of the complexity and inter-connectedness of the financial system that led to the 2008 crisis.Would you like me to post an analysis of the 2008 Financial Crisis?

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