Global banks may lose more than $6 billion from the downfall of US investment firm Archegos Capital and regulators and investors fear the episode could reverberate more widely.
Japan’s Nomura and Credit Suisse of Switzerland issued warnings of major losses from money lent to Archegos for equity derivatives trades, triggering a worldwide sell-off in banking stocks.
Morgan Stanley fell by 2.6 per cent and Goldman Sachs by 1.7 per cent on Monday.
Nomura shares were down 16.3 per cent at market close, a record one-day fall, while Credit Suisse suffered a 14 per cent drop, its biggest fall in a year. Deutsche Bank fell by 5 per cent and UBS was off 3.8 per cent.
Losses at Archegos Capital, a family office run by Bill Hwang, sparked a fire sale of stocks including ViacomCBS and Discovery on Friday.
“This is a challenging time for the family office of Archegos Capital Management, our partners and employees,” said spokeswoman Karen Kessler.
“All plans are being discussed as Mr Hwang and the team determine the best path forward.”
Archegos was unable to meet banks’ calls for more collateral to secure equity swap trades they had partly financed.
After those positions fell sharply in value, lenders sold big blocks of securities to recoup what they were owed.
“When you have people making certain bets based on what has outperformed in the past and the tide turns, they get burnt,” said Richard Bernstein, chief executive of Richard Bernstein Advisers.
"The question is how much leverage they used."
The problems started last week when a disappointing stock sale by media company ViacomCBS triggered devastating bank margin calls for Archegos. Shares in ViacomCBS fell by 23 per cent last Wednesday after it sold shares at a price that diluted its value.
While stocks typically decline after share sales, ViacomCBS was also hurt by analyst downgrades amid concerns that its stock was over-valued.
ViacomCBS shares extended their declines on Thursday, falling by 30 per cent from the previous Monday’s close. This set off alarm bells at Archegos’ prime brokers and prompted them to offload stock in all of Archegos’ investments.
Goldman and Morgan Stanley were quick to offload shares on Friday, averting a material financial blow.
Deutsche Bank said it had significantly reduced its exposure to Archegos without incurring any losses and was managing down its “immaterial remaining client positions”, on which it did not expect to incur a loss.
However, other banks faced more serious repercussions.
Nomura, Japan’s largest investment bank, issued a warning of a possible $2bn loss while Credit Suisse said a default on margin calls by a US-based fund could be “highly significant and material” to its first-quarter results.
Credit Suisse’s losses are expected to be at least $1bn but could reach $4bn. The investment bank declined to comment on loss estimates.
Investors questioned if the full impact of Archegos’ problem had been realised.
Market observers noted that only in February, hedge funds took major losses on short positions during the run-up in GameStop stock.
Hedge fund deleveraging also contributed to the turmoil in the US Treasuries market in March last year.
In the case of Archegos, the opaque and complex nature of its derivative trades, its lightly regulated structure as a family office and high leverage – fuelled by historically low interest rates – prompted concerns about potential systemic risk.
Regulators in the US, Switzerland, the UK and Japan are monitoring developments.
Archegos bought derivatives known as total return swaps, which allow investors to bet on stock price moves without owning the underlying securities. The fund posts collateral against the securities rather than buying them outright with cash.
Archegos’ positions were highly leveraged. The fund had assets of about $10bn but held positions worth more than $50bn.
Thomas Hayes, chairman of Great Hill Capital in New York, said Mr Hwang was known to run “a very concentrated, highly leveraged book”.
The underlying shares were held by Archegos’ prime brokers, which lent it money and structured and processed its trades. They included Goldman Sachs, Morgan Stanley, Deutsche Bank, Credit Suisse and Nomura.
Unwinding the positions led banks to sell large blocks of stock. Shares of ViacomCBS and Discovery each tumbled by about 27 per cent on Friday, while US-listed shares of China-based Baidu and Tencent Music plunged by as much as 33.5 per cent and 48.5 per cent last week.
Other stocks caught up in Archegos-related liquidations included Baidu, Tencent Music, Vipshop Holdings, Farfetch, iQIYI and GSX Techedu.
Mr Hwang, who ran Tiger Asia from 2001 to 2012, renamed the hedge fund Archegos Capital and converted it to a family office, according to the fund’s website. Family offices act as private wealth managers and have lower disclosure requirements than other investment companies.
Hedge fund managers said they wondered why Mr Hwang, whom several described as a “smart guy”, had made such big bets on ViacomCBS and Discovery, given the large wagers against the companies.
The pair are not considered to be high-growth plays, in contrast to other media stocks that have outperformed during the Covid-19 pandemic.
Mr Hwang and his firm paid $44 million in 2012 to settle Securities and Exchange Commission insider trading charges.