Five key points you should know about the Archegos $20 billion fire sale

Image by Csaba Nagy from Pixabay

On the 26th March 2021, Archegos Capital Management, Bill Hwang’s family investment office, defaulted on margin calls from several global investment banks, causing turmoil in the stock markets.

The collapse of Archegos resulted in a fire sale of more than $20 billion and has left several investment banks exposed to huge losses, with Japanese lender, Nomura Holdings, and Credit Suisse seemingly worst affected.

In a statement released on Numura’s website, the financial services group announced possible losses of up to “$2 billion based on market prices as of March 26”.

Credit Suisse are yet to reveal any figures but have stated that the losses are “substantial”. The Financial Times has estimated the banks’ losses to be in the range of $3 billion to $4 billion.

Here are some key points that you need to know about the chaotic event:

1. Who is Archegos Capital Management?

Archegos is a family investment vehicle that is run by Bill Hwang. Prior to Archegos, Hwang founded Tiger Asia, once one of the biggest Asia-focused hedge funds in New York.

In 2012, the firm pleaded guilty to criminal fraud after taking advantage of insider (non-public) information, to illegally trade millions of stocks for substantial profits.

The Wall Street Journal reported at the time that Mr Hwang and Tiger Asia paid $44 million to settle the lawsuit. Mr Hwang subsequently changed Tiger Asia to his family office, Archegos Capital Management.

Below is a video created by PwC to explain the family office set up. 

2. How it happened

Using total return swaps, a risky derivative, Archegos amassed primary positions in a few key stocks such as ViacomCBS. Utilising bank leverage, allowed the firm access to stocks 5 times more than the company’s assets.

When the value of ViacomCBS’s stocks decreased, banks lending to Archegos called for an increase in collateral.

However, Archegos defaulted on the margin calls and the fire sale began.

Goldman Sachs and Morgan Stanley began to shift significant stocks leaving Credit Suisse and Nomura last in the race.

3. What are total return swaps?

A total return swap allows the receiving party, in this case, Archegos, to gain exposure from an asset without actually owning it.

Hedge funds typically like these swaps because they provide large exposure without requiring large amounts of cash. In return, the receiving party pays fees to the bank.

However, as the bank owns the assets, if the hedge fund falters, the bank has the right to sell the assets. This can in turn drive the stock prices down further.

Below is a video that explains the basics about how swaps work.

4. How were the banks affected?

The Financial Times have reported that Goldman Sachs, Morgan Stanley, Credit Suisse, UBS and Nomura attended a meeting held by Archegos to discuss the trades ahead of the sale.

Goldman Sachs and Morgan Stanley seemed to react quickly to this meeting selling off their linked stocks.

As a consequence of the fire sale, the banks shares fell as follows:

Goldman Sachs – 1.7%

Morgan Stanley – 2.6%

UBS – 3.8%

Deutsche Bank  – 5%

Credit Suisse – 14%

Nomura – 16.3%

Resulting in loses of potentially more than $6 billion.

5. Why are the regulators worried?

Regulators from around the world are monitoring the fall out of the fire sale. The reports that Archegos held a meeting with the banks prior to the fire sale could be in breach of regulatory rules.

There is concern about the potential systemic risk as a consequence. Systemic risk has the ability to cause a collapse to an economy and was a contributing factor to the 2008 financial crisis. 

There is no such thing as a risk-free investment; however, it is about mitigating that risk to ensure events like this do not occur. It will be interesting to see what the fall out of such a spectacular personal loss will have on the economy.

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