When some of the world’s largest investment banks help a controversial fund manager make numerous large leveraged bets less than a decade on from his part in an insider trading scheme, questions are bound to crop up. Much has been said about Bill Hwang’s Archegos Capital failing to meet its margin call, which led to banks frantically selling off their positions in a little-known stock called Viacom. However, one crucial issue appears to have been overlooked.
As we now know, Archegos wanted to take large secretive positions in media firm Viacom by using derivatives called total return swaps. But how many of these swap positions are involved in the trading of larger companies, and just how many funds are left holding cash equity positions that act as misdirection to mask trades that are the exact opposite of the position? In other words, a fund manager may own some of the equity in much more renowned stocks such as Microsoft or Tesla and, at the same time, may also be synthetically shorting the same company through total return swaps in order to bet against the stock going in the opposite direction to what the wider market is predicting.
In essence, the fund manager does not own anything — they are simply betting on a move in a stock price. This begs the question: just how many FTSE and S&P companies are underpinned by these swaps? And how can the wider investment community believe what they see on regulatory filings about these companies?
After all, there is no small print on a Securities and Exchange Commission filing that says, “Please note, there may well be a much bigger bet on Apple’s share price falling sharply”.
Also, when exactly does activity of this nature become a disclosable event to the wider market? At the end of the day, whenever the SEC gets around to digging into the detail of what happened with Archegos, it is going to want to know the intricate details behind not only how leverage was extended to such an eye-watering level, but also whether or not the banks provided the full and proper disclosures required to their clients during the recent fire sale. Did the firms in question carry out full risk disclosures and was there “fair dealing” in the Viacom stock?
Now the answer in the case of Archegos may well be yes, but there is no doubt that a massive grey area has been opened up when it comes to what constitutes fair disclosure in the securities-based swaps market. Yes, of course, the prime brokerage arm of any bank has every right to start offloading positions to ensure their clients’ margin calls are met.
That said, when it comes to listed securities on exchanges, there is only so long that critical information can be kept back before what the wider market knows needs to be made much clearer.
The lid of the securities-based swap market, while tiny in comparison to, say, the interest rate swaps market, has well and truly been lifted thanks to the Archegos event. Moving forward, the wider investment management community and the prime broker arms of banks can ill afford to brush this issue under the carpet. Carrying out a total return swap for a small cap stock is one thing, but it is unknown as to how many of these swaps positions are being placed on blue-chip companies about which the wider marker has absolutely no idea.
Is it a case of the bigger the name, the bigger the risk? Who knows, but one thing is for certain, it would be a brave firm that decides against carrying out a root-and-branch review of the context around their swaps trades as the post-Archegos analysis continues.
Oliver Blower, formerly of Barclays and Bank of America Merrill Lynch, is now CEO of fintech firm VoxSmart.