Tag Archives: Hedge funds

How to Lose $8 Billion in 10 Days

Archegos Capital Management, run by Bill Hwang, is imploding, racking up losses at a record pace:

Mr. Hwang alone lost approximately $8 billion in 10 days, a person familiar with the matter said, in what traders and investors say was one of the fastest losses of such a large sum they had ever seen.

Archegos borrowed massive sums of money to invest it in just a few stocks. Like addicts that get 10 oxycontin prescriptions from 10 different doctors, Hwang never revealed how deep in debt he was to the banks he dealt with:

Archegos was regularly putting up $15 of collateral to borrow $85, on the high end of leverage for stock-trading firms with similar strategies, said a banking executive familiar with the borrowing.

Archegos’s lenders say they were unaware of the extent of trades he was making with other banks, information that would have encouraged them to curb their lending.

The fact that Archegos used swaps, rather than owning shares directly, further obscured his activities. In the “contract for difference” swaps he used, the bank owns the shares while Hwang’s firm pays for the losses or receives the gains on the stock.

This is important because investors have to disclose to the SEC when they own over 5% of a company. Hwang would have had to make several such disclosures. But because he used swaps instead, none of that information was public, making it harder for banks to find out how heavily leveraged he was. This may have been by design.

A further odd wrinkle is that Hwang, the son of a pastor, suffused Archegos with religious fervor:

Mr. Hwang returned clients’ money in 2012 and turned his firm into an office to manage his family’s wealth. He named it Archegos, which, translated from Greek means “leader” or “prince of Christ.” A Christian ethos permeated the firm, with voluntary Friday morning Bible studies where a recording of Bible readings would play to music.

He tended to view gains as signs of God’s favor:

“Do I think God loves it? Of course!” Mr. Hwang said in a video, referring to his early investment in LinkedIn. “I’m like a little child looking for, what can I do today, where can I invest, to please our God?”

If Hwang had a religious certainty about his positions, he’d be all the more likely to hold them even as he lost money, expecting to be vindicated.

It strikes me how incredibly simple this one-time billionaire investor’s strategy was. Borrow a bunch of money and invest it in a few well-known stocks like Viacom. Anyone could do that if they had access to capital. There was no special sauce, and now Hwang is paying the price for his recklessness.

For more on Archegos and financial markets, check out these posts:

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Inside the Archegos Implosion: “We Don’t Know How Far the Tentacles Go”

Brokers are selling over $30 billion worth of positions in imploding hedge fund Archegos Capital Management, shaking markets. Wall Street does not know exactly how many positions the fund holds for two reasons:

  • It is very lightly regulated because it’s organized as a “family office,” rather than a typical hedge fund
  • Archegos didn’t actually own most of the stocks it took positions in, if any. Instead, it owned derivatives called “contracts for difference (CFD’s),” which have few disclosures.

Some experts liken the Archegos blow-up to the bankruptcy of Bear Stearns, which helped precipitate the financial crisis:

“We don’t know how far the tentacles go,” said Joe Saluzzi, co-head of trading at Themis Trading. “Early in the Bear Stearns crisis, the market was fine — until it wasn’t.”

Others are comparing the liquidation of the hedge fund’s positions to that of Long Term Capital Management (LTCM) in 1998, which caused severe market turbulence and ultimately required a bailout:

“This reminded me a lot of the Long-Term Capital situation,” Steve Sosnick, chief market strategist at Interactive Brokers, told Insider in an interview.

Long-Term Capital Management, a massive hedge fund staffed by famed traders and Nobel Prize-winning economists, employed such highly leveraged trades that it threatened to expose America’s largest banks to more than $1 trillion in default risks by 1998. The “genius” hedge fund nearly collapsed had it not been for a bailout package from the Federal Reserve and some major Wall Street banks.

However, Archegos’s positions appear to be far smaller than those of LTCM. Nonetheless, Archegos was very heavily leveraged:

Shrouded by the secrecy of CFDs, Hwang was able to build up almost $50 billion in stock positions on the back of the $5 billion to $10 billion that Archegos managed.

Perhaps the greatest source of worry for markets is uncertainty over exactly how many positions Archegos has and with which banks. This counterparty risk was a driving factor in the LTCM crisis in 1998 and the financial crisis of 2008:

…it seems clear that the banks didn’t realize until too late that they were holding similar positions, with malign implications for efforts to keep markets in those shares from falling further.

“You can have a suspicion that maybe this person is doing this trade with a bunch of other people,” said Jay Dweck, a former trading and risk-management executive at Goldman and Morgan Stanley and now consults for banks and hedge funds. “But no one knows the aggregate.”

In all, given the smaller size of the portfolio being liquidated and the current buoyant state of markets, I don’t expect any extreme shock from Archegos going under. I think the experience with LTCM, Bear Stearns, Lehman and others will also stand banks and regulators in good stead when dealing with Archegos. But you could see some choppiness for a while as we find out who is exposed to Archegos and wind down those positions.

Another possible outcome is stricter regulation, especially of these opaque family offices, which I think would be good for markets. Indeed, regulators are already scrutinizing hedge funds after the run-up in GameStop shares this year stung some with huge losses. From the WSJ:

The steep losses at Archegos come as a council of top U.S. regulators known as the Financial Stability Oversight Council is already scheduled to meet on Wednesday to discuss hedge-fund activity during the pandemic-triggered crisis.

For more on Archegos and markets, check out these posts:

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A Giant Hedge Fund Is Imploding, Taking Stocks with It

Ten billion dollar hedge fund Archegos Capital Management is imploding, causing banks to frantically sell its portfolio to stem further losses:

One mystery in a dramatic year on Wall Street has been the identity of a trader whose persistent purchases have sent shares in ViacomCBS Inc., Discovery Inc. and a handful of other companies surging even when the broader market was down.

People familiar with the transactions say the answer is former Tiger Asia manager Bill Hwang. Late last week Morgan Stanley, Goldman Sachs Group Inc. and Deutsche Bank AG swiftly unloaded large blocks of shares in those companies and others, part of the liquidation of positions at Mr. Hwang’s Archegos Capital Management.

The sales approached $30 billion in value, some of the people said, and fueled a 27% plunge Friday in shares of ViacomCBS—an unusually large decline in a widely held, large-capitalization stock on a day with no significant company-specific news. Billions of market value in other companies were wiped out as the sales continued, surprising market participants who called the size and speed of these stock sales unprecedented.

Hwang had placed giant bets on several stocks funded with borrowed money, and his fund suffered major losses when the stocks moved against him:

…a major actor in supporting companies’ share prices appears to have been undone by his continuing to add to leveraged bets as markets soared. The strategy fell apart when some of those bets started to reverse on him.

There were serious warning signs about Hwang’s conduct, which his banks, including Nomura and Credit Suisse, did not heed:

U.S. securities filings show Credit Suisse was prime broker in 2011 and 2012 to Mr. Hwang’s former firm, Tiger Asia Management LLC. Tiger Asia handed money back to investors after Mr. Hwang admitted in December 2012 that the hedge fund criminally used inside information from investment banks at least three times to profit on securities trades.

This is the latest in a string of problems for Credit Suisse:

Credit Suisse is still digesting the collapse earlier this month of Greensill, a British supply-chain finance company that declared bankruptcy shortly after the Swiss bank froze funds that provided it with liquidity. The double hit could be an extraordinary run of bad luck; there were other banks caught up in both failures. Alternatively, it could point to endemic problems of risk management at Credit Suisse. The Swiss company carried on working with Greensill despite internal concerns.

So if you see volatility in stocks like Viacom, Discovery, Credit Suisse, etc. in the coming days, you’ll know where it’s coming from. I do wonder if other stocks may be impacted by this forced selling of Archegos’ positions.

For more on what’s moving markets, check out these posts:

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Photo: “Boom-goes-the-dynamite” by Aaron & Alli is licensed under CC BY-ND 2.0

There Could Be Another GameStop Short Squeeze, But Beware Weak Fundamentals

GameStop shares have come back to earth since the short squeeze a few weeks ago:

But this story may not be over. GameStop remains one of the most heavily shorted stocks in the entire market:

This tells me that the epic short squeeze could happen again. Many short sellers still have their position. Maybe they’re wary of closing it out for fear their buying would set the stock on another upward tear? (If you’re not familiar with short squeezes, see this post for a brief explanation.)

But Redditors should be careful because the fundamentals of this business are weak. And you don’t want to be stuck holding a rotten stock if the squeeze doesn’t happen.

GameStop has 5,000 stores. Why? Where do you buy toilet paper, pillows, or plates today? Probably online, and videogames are going the same way. Publishers are selling them directly to the public online, and in general, people are losing the habit of going to physical stores.

If you got your games virtually or delivered from Amazon when stores were closed, why would you go back to the store once it’s open? You’ve already been forced to build a new habit by the lockdowns, and people don’t change habits readily.

And let’s not blame the lockdowns for everything. COVID only accelerated an existing trend. GameStop’s business has been shrinking for some time, and losses were actually even bigger in 2019. From Nov 2019 to Oct 2020, sales dropped from $4.3 billion to $3 billion, per their latest financial report.

Management talks about increasing online sales, and has had some very real success in growing that business:

…e-commerce sales, which increased 257.4% and 432.9% in the current quarter and year-to-date periods, respectively, compared to the prior year periods.

But where is the discussion of abandoning all physical stores? Why do those 5,000 stores make any sense in today’s environment? It’s a business model created in another time that made sense then, but doesn’t today.

When one part of your business is growing very fast (e-commerce) and another is producing consistent losses (stores), it’s pretty clear what you need to do. But I don’t see a willingness at GameStop to make those hard choices.

I get the impression management is really trying. When things got really tough in spring 2020, the top executives and the board took big paycuts of 30-50% (generally larger than those taken by hourly staff) and sold the corporate jet. That’s the kind of self-sacrifice you want to see from top leadership in a crisis. But can they bring GameStop to a new business model? I don’t see a lot of evidence of that yet.

Two months ago, before it attracted the attention of Wallstreetbets, GameStop was trading around 15. It could easily return there, based on the fundamentals. Wallstreetbets better hope for that short squeeze, and soon.

P.S. Another big focus for the Reddit crowd has been pot stocks. See more info about why their position is weak, how favorite Sundial Growers may be headed for bankruptcy, and how insiders are taking big loans at Sundial.

P.P.S. Don’t you love that sign?

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