SEC action should be expected after Archegos implosion, experts say

• Bill Hwang’s Archegos have imploded with unbearable leverage.
• Its family office used swaps, protecting its true exposure from the public and its major brokers.
• Experts believe this could lead to more transparency in derivatives and more scrutiny from the family office.
• See more stories on the Insider business page.

The most striking thing about the implosion of Archegos Capital Management, the family office of Tiger Cub Bill Hwang, was not the suddenness of the accident, but the harmlessness of its origins.

There hasn’t been a country defaulting on its debt or trading in negative commodities or a global health crisis blocking global markets – just a company hoping to capitalize on its current share price.

ViacomCBS announced last Monday that it will offer $ 3 billion in shares after it closes at a record price. Analysts at banks like Wells Fargo downgraded the stock for fundamental reasons as the company faces extreme pressure in the streaming market from competitors like

Netflix
, Amazon and HBO, driving down its share price. This triggered a domino effect, as margin calls came from Hwang’s lenders he couldn’t meet.

Then the stock, and others Hwang had invested in, such as Discovery and Chinese firms Baidu, Tencent, and GSX, really fell when banks like Goldman Sachs and Morgan Stanley offered huge blocks of shares. for sale to reduce their exposure. The sales frenzy caused market losses of $ 35 billion on Friday.

Hwang’s lenders, some of whom gave him a 20-to-1 ratio, sold off those massive blocks of shares late last week and last weekend to protect themselves. Nomura and Credit Suisse, two of its main brokers, estimated their losses would run into the billions.

And one way or another, Hwang’s business – while large enough to cause a market-wide panic – has not been listed in any disclosure due to the structure of its investments. . Despite tens of billions of exposure to the equity market, almost all of Hwang’s portfolio consisted of total return swaps, a form of derivative that means Hwang’s family office does not actually own the underlying security. his company was betting on.

“How could this company take such huge economic risks on Viacom and other companies without having to make a disclosure? Because of the swaps,” said Paul Cellupica, former legal counsel in the investment management division of the Securities and Exchange Commission, in an interview with Insider.

“This will raise questions,” said Cellupica, who resigned in January.

Because Hwang operates as a family office, which he started in 2012 with $ 200 million and grew to $ 10 billion, he doesn’t need to register as an investment advisor because he doesn’t manage no other money than the wealth of his family. This eliminates possible deposits like ADVs, which show gross exposure to the markets, the number of investment professionals working in each company, and foreign investment in the company, among other data points.

13-F deposits are required from investors each quarter who have at least $ 100 million in U.S. stocks, but Hwang’s use of swaps protected him from those deposits.

The question now becomes what the SEC – which said on Monday to monitor the fallout from the implosion – would do about it, if anything. Gary Gensler, the former head of the Commodity Futures Trading Commission who is President Joe Biden’s nominee to run the agency, “wrote the book on swap disclosure” when he ran the CFTC and can sue this work a priority when it starts at the SEC, said Jim Toes, chairman of the Security Traders Association trade group.

Toes expects the agency to be interested in how such a benign event as a fundraising business could cause so much chaos.

“How many other family offices are like this, with so much assets and so much leverage?” he said.

13-F back in the news

Last year, the SEC launched a proposal to raise the reporting threshold for equity holdings from $ 100 million to $ 3.5 billion, which was immediately rejected by small investors and businesses. By sifting through comments on the proposal, the agency learned how valuable these deposits are to the public, according to Cellupica.

For example, many companies rely on deposits to know who their shareholders are. Companies to which Hwang, who pleaded guilty to insider trading in 2012 while running his former hedge fund Tiger Asia, would have been exposed would have no idea of ​​his attachment unless he alerted them.

The professors wrote to the SEC about the impact this would have on their study of market structure, while hedge funds would lose the ability to protect against congested transactions.

But the same deposit led to retail traders discovering Melvin Capital’s short position on GameStop because Gabe Plotkin’s company was using put options to bet against the video game retailer. The company’s shares have been pushed higher by these Reddit-linked investors, causing billions in losses for Melvin and other funds.

Options are to be disclosed in 13-F filings while swaps and true shorts are not, although Cellupica expects the discussion to continue under the new chairman.

“I could see it as a zone [Gensler] would like to focus on immediately, “Cellupica said, although the discussion of what big investors should disclose has been going on for years.

“This will be another contribution to this discussion.”