B.BEFORE FRIDAY On March 26th, few may have heard of Archegos Capital Management, an investment vehicle owned by Bill Hwang, a former hedge fund trader with a troubled past. But it turned out to be the company behind a fire sale of stocks valued at at least $ 20 billion that upset the stock markets on an otherwise nondescript Friday and left at least two global banks – Credit Suisse and Nomura – at losses Has faced billions of dollars. Financial regulators in America and Europe will have a say before the matter takes its course.
The plot has already taken shape. Archegos is a so-called family office. It manages the personal assets of Mr. Hwang, who once worked for Tiger Management, a celebrated hedge fund. One of Archegos’ strategies was long-short equity. The main idea is to be indifferent to the direction of the overall market by betting that the stock prices of some stocks will go up while the prices of other stocks will go down. The hope is that the longs will do better than the shorts. But when the markets are volatile, the strategy can stall. This seems to have happened to Archegos.
The first sign of trouble came this Friday when Goldman Sachs and Morgan Stanley, two Wall Street giants, began selling large blocks of shares for an unnamed client who had missed a margin call – a request for more collateral to cover losses from past deals wrong. The stocks that were forcibly sold can best be classified as “second tier tech”. They contain Baidu, a Chinese search engine, and ViacomCBS, an American media conglomerate, with a streaming service that gives it the taste of a fashionable tech stock. Their prices plummeted under the weight of the sale. Viacom’s priceCBS The shares fell by more than a quarter.
On Sunday, March 28th, the mysterious client was found to be Archegos. Better known names have been implicated in the drama. On Monday, Credit Suisse announced that it was liquidating the positions of a client who had defaulted on margin calls and that the associated losses were “material”. Unofficial estimates put it at $ 3 billion to $ 4 billion. Nomura, a Japanese bank, said it was on the hook for about $ 2 billion, possibly more if share prices continued to fall. These are significant losses. If not quite a lost link, they are more than a flesh wound. Bank share prices rebounded.
The full billing only becomes clear over time. Apparently, Nomura and Credit Suisse pulled the plug more slowly than their American rivals after a failed attempt to coordinate an orderly dissolution of Archegos’ positions. By calling Archegos early and then quickly liquidating positions, the Americans seem to have limited the damage to themselves, but the others have suffered greater losses in market value.
The fire sale raises some worrying questions. How did Mr. Hwang, a little-known figure, suffer such great losses? Leverage played a huge role. Then why could he rely so heavily on Wall Street to increase the size of his bets? What makes this even more puzzling is that Mr. Hwang has already deleted his notebook. In 2012, he pleaded guilty to insider trading.
One answer is that banks are desperate for profit. Rules elaborated after the global financial crisis made it expensive for Wall Street banks to act on their own account. The times when they made a lot of money with slow, non-leveraged asset managers – the “long-only” crowd – are a distant memory. Such investors usually buy and sell stocks cheaply on electronic platforms. As a result, Wall Street banks increasingly rely on fees and commissions from fast-acting hedge funds or family offices that act like hedge funds, like Archegos. Fees for bespoke derivatives such as equity swaps and contracts for difference are particularly attractive to brokers. The appeal to the fast money hedge fund crowd is that such derivatives allow them to increase their positions. You can bet big without having to raise a lot of your own capital upfront.
In short, Wall Street cannot easily make money from people who do not take rash bets. But people who make rash bets can also lose money. It is probably no coincidence that Credit Suisse and Nomura are based in countries (Switzerland and Japan, respectively) where long-term interest rates have stayed near or below zero. With few opportunities to make money on home loans, they turned excitedly to Wall Street. Unfortunately for their shareholders, they found it.
Of course, parallels are drawn between Archegos and Archegos LTCM, an unfortunate hedge fund. In 1998 LTCM was prevented from blowing up itself and the banking system by the Federal Reserve, which coordinated a bailout through its Wall Street brokers. LTCMThe brokers, including major shareholders John Meriwether, a former star dealer at Salomon Brothers, and Nobel Prize winners Robert Merton and Myron Scholes, were also enthusiastic. It appears that several of the banks that acted as broker for Mr. Hwang were trying to secure a standstill arrangement like the one brokered by the Fed LTCMto avoid a fire sale of the stocks they held to hedge their exposure to Archegos. These discussions are now the subject of an official control. Archegos’ tentacles do not appear to extend as far into the financial system as they do LTCM‘S. The major damage caused by the Archegos affair has so far been limited.
Archegos could be a one-off, albeit huge, mishap. It’s not all that difficult to tie it in with some current market themes, however. Since November there has been a general shift from technology and media stocks that have benefited heavily from the home economy to cyclical companies like banks, airlines, and industrial companies that will benefit from a reopening. Archegos may have been at the wrong end of this sometimes violent rotation. Events in the world economy and in the financial markets are moving unusually quickly. And when events move quickly, some things break. ■
A version of this article was published online on March 29, 2021
This article appeared in the Finance & Economics section of the print edition under the heading “Margin Call of the Wild”.