Archegos Capital Management is a family office run by Bill Hwang, it recently blew up after being forced to sell its assets by its lenders. After borrowing a lot of money from several financial institutions, they held almost $110bn in stocks despite only having around $20bn. This resulted in numerous banks suffering heavy losses, most notably Credit Suisse and Nomura.
Who is Bill Hwang?
Bill Hwang is not an especially well known personality in the financial world, despite having an interesting past. He is a Korean-American immigrant, he completed his undergrad in Economics from UCLA and an MBA from Carnegie Mellon University. He left university and went into work for the famous hedge fund Tiger Management, in the late 1990s he started his own fund called Tiger Asia Management, which saw strong returns for its investors. However, in 2012, Tiger Asia was involved in a public scandal over insider trading and had to pay fines to the SEC amounting to over $60m. Both The firm and Bill Hwang himself were also banned from trading in Hong Kong. After this happened, Bill Hwang returned all outside capital and changed the company name to Archegos. He is a devout Christian, he founded the Grace and Mercy Foundation, he also has donated millions of dollars to different charities.
What is a family office?
A family office is a private wealth management advisory firm set up to manage the investments of ultra-high net worth investors (UHNW)(1). In a similar way to hedge funds, they invest in multiple financial instruments from stocks, bonds to other more exotic products. They typically try to combine both short term and long term investments to get the best returns. Every individual and their family has a firm that serves solely them, although there are also multi-family offices that serve a few families in order to benefit from economies of scale. In Bill Hwang’s case, he has set it up to invest his own money. The regulations imposed on family offices are weaker than the regulations imposed on hedge funds. Bill Hwang took advantage of this in leveraging his investments heavily through borrowing money from banks such as Credit Suisse and Goldman Sachs. This meant taking a lot more risk, but also increasing the possibility of his returns.
How did its lenders force it to sell?
To understand this, we should first look at the type of investment that Archegos was using. Archegos invested primarily in total return swaps, a type of investment based on its underlying securities (stocks in this case). Archegos did not actually own any of the stocks but instead paid banks to purchase the stocks on their behalf. In exchange for receiving regular payments from Archegos, any profits made on the stocks would go to Archegos instead of the banks. As part of this agreement, Archegos paid the banks collateral as it was treated similarly to a loan.
However, this had the benefit of allowing investments made by Archegos to vastly exceed the value of its assets, with the vast majority of its investment made through money generated from loans. Its leverage was 5:1, meaning that it invested 5 times more money than it had. This is a very risky position, and vastly exceeds the typical 1:1 leverage found in hedge funds that employed similar long/short strategies. If the prices of these stocks started to fall, banks would take on more risk as they owned the underlying asset, so they would demand more collateral from Archegos in what is known as a ‘margin call’. If Archegos did not meet this demand, the banks would be able to liquidate Archegos’ assets as it would have violated the terms of the contract.
Archegos’ concentrated its investments mainly in a few tech & media stocks such as ViacomCBS, Discovery Inc, and Baidu. When its portfolio began to fall, it was unable to meet the margin call. Many of its lenders, such as Morgan Stanley and Goldman Sachs sold off their holdings to recover their loans, which caused the stock prices to plummet even further. This caused other banks that waited such as Credit Suisse and Nomura to suffer substantial financial losses.
Except Archegos, three banks suffered significant losses: Credit Suisse at $4.7bn, Nomura at $2bn, and MUFG at $300m. Other banks such as Goldman Sachs, Morgan Stanley and Deutsche Bank emerged unscathed due to their faster selling. Credit Suisse suffered the most significant losses and chose to fire several senior executives as a result, including the Head of Risk and Compliance and the Head of Investment Banking (2). The US Senate banking chair also queried the Wall Street banks associated with Archegos, requesting information about their relationship with the fund (3). Archegos was able to stay relatively under the radar because it was not subject to the same regulations as other financial vehicles as it was a family office. Its use of total return swaps also meant that it was not required to disclose its investments, since technically, it was the banks that owned the underlying stocks. The regulations on market transparency on swaps and family offices have since been the subject of many debates on the back of this. It is likely that if the banks had known the extent of Archegos’ dealing with other banks, they would not have entered themselves into such risky positions.