The Story Behind Archegos Capital & The Massive Sell-off

This sell-off has many worried as the reason looks similar to the Lehman moment, which caused the global financial crisis in 2008.

What Happened?

Last Friday, Viacom CBS slumped 27% on Friday while Disovery also fell 27%. Shares of China-based Baidu and Tencent Music slumped during the week, falling as much as 33.5% and 48.5%, respectively, from Tuesday’s closing levels. According to Bloomberg, this *sell-off erased $35 billion from the values of major stocks ranging from Chinese technology giants to U.S. media companies.
(*Sell-off is the sale of shares, bonds, or commodities, especially one that causes a plunge in price)

The Backstory

All this happened because Archegos Capital Management, a New York-based private investment firm resorted to a massive fire sale of stocks worth $20 billion on Friday. A trader told CNBC that Goldman Sachs, Morgan Stanley, Credit Suisse and Deutsche Bank all forced Archegos to liquidate many of the China internet names via unregistered trades.

Why did the investment banks push Archegos to sell the stocks?

Archegos Capital was using tons of borrowed money from investment banks/brokers to make outsized bets and pledged as collateral with them. So, when the value of the pledged shares declines, the investment banks will ask for additional shares as collateral. This is called margin call.

Now let’s say that the company is unable to provide additional shares, then what happens? Depending on how much the value of the pledged shares that has declined, the broker will sell a part or all of it to recover its money. This is what happened with Archegos. When the investment firm was unable to put up the money, the brokers sold the shares Archegos had pledged with them to make up for the lost amount.

Impact On Investment Banks

Apart from the sell-off that happened on Friday, investment companies such as Nomura and Credit Suisse have also warned of huge losses. Nomura stated that it was evaluating the extent of the potential losses, noting that its estimated claim against the unnamed client was around $2 billion. Sources told FT that the expected loss of Credit Suisse is estimated to be between $3 billion and $4 billion.

Zooming Out

The important thing to notice here is Archegos’ founder and CEO, Bill Hwang’s past. He built Tiger Asia Management in New York partly with money from his former boss. In 2012, he pleaded guilty to insider trading on some Chinese bank stocks and agreed to criminal and civil settlements of more than $60 million. He later closed down that fund. Now, many are questioning why so many big banks lent so much money to a family office whose founder has a problematic past.

The other problem is that there are many other hedge funds that have exposure to the same basket of stocks as Hwang’s family office. So, this is raising questions about whether more problems are waiting for those hedge funds. At present, traders around the world are on high alert and are waiting to see whether more block trades will take place. The traders are also keeping a watch if the fire sale by Hwang’s family office will have fallout on the wider financial system.

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