by Pam Martens and Russ Martens, Wall St On Parade:
The short version on what the collapse of the Archegos Capital Management hedge fund signifies is that it was one more in a long series of Wall Street’s maniacal wealth extraction schemes for the one percent that blew up in its face.
Let’s start with press reports that major Wall Street firms were making 85 percent margin loans to purchase stocks against 15 percent cash collateral put up by Archegos. The Federal Reserve’s Regulation T (Reg T) is codified in 12 CFR § 220.12 and spells out margin requirements on stock trades as follows:
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“50 percent of the current market value of the security or the percentage set by the regulatory authority where the trade occurs, whichever is greater.”
Under the seeming law of the land, broker dealers on Wall Street could not have loaned Archegos more than 50 percent to make its stock purchases. But to get around this, the banks did not open a margin account for Archegos. According to the press reports, the banks instead structured derivative contracts where they loaned 85 percent of the money to Archegos to make the trades while, technically, retaining ownership of the stock themselves.
By not following federal regulatory rules for margin accounts and stock trading, the Wall Street firms fell into a number of traps.
Every prudent brokerage firm on Wall Street has far stiffer requirements than 50 percent margin if the customer is loading up on the same stock. That’s because the customer is concentrating his risk in one name (that could receive a negative credit rating or other negative news) as well as concentrating his risk that he will be able to exit that position without driving down the share price.
According to reporting in the New York Times over the weekend, Archegos owned “$20 billion in shares of ViacomCBS, effectively making him the media company’s single largest institutional shareholder. But few knew about his total exposure, since the shares were mostly held through complex financial instruments, called derivatives, created by the banks.”
Let’s pause here for a moment and do the math. The Times’ report indicates that the $20 billion value held by Archegos in ViacomCBS shares occurred “mid March.” Using an average price between March 15 and March 19 of $96, that would mean that Archegos owned 208,333,333 shares of ViacomCBS. According to the most recent April 2 proxy filing for ViacomCBS, as of March 26 it had 605,267,057 Class B shares outstanding, meaning that Archegos owned a stunning 34 percent of the outstanding shares without anyone being the wiser.
This derivative deception evaded another important rule that benefits both U.S. corporations and all investors. When an individual or other entity acquires 5 percent or more of a company’s stock, they have to make a public filing with the Securities and Exchange Commission – allowing the company and other investors to be aware of who is acquiring the company’s stock so that they are afforded material disclosures. But as Sung Kook “Bill” Hwang, the man behind Archegos Capital hedge fund, was amassing his giant stake in ViacomCBS, no one was the wiser because he did not make such filings. This denied the company and other investors of the knowledge that a man previously charged by the SEC with insider trading and manipulating stock prices was the force behind the runup in the share price of ViacomCBS.
In addition, according to Yahoo! Finance, ViacomCBS Class B shares have had an average daily trading volume of 32.53 million shares over the past three months. Exactly how does one expect to exit 208 million shares quickly during a margin call without dramatically driving down the share price. The answer is that Archegos didn’t have an exit plan and neither did the Wall Street firms that fed him all of that leverage.
When Archegos couldn’t meet its margin calls, Wall Street firms that included Goldman Sachs, Morgan Stanley, Credit Suisse, Nomura, Deutsche Bank and others began dumping Archegos’ stocks. Shares of ViacomCBS lost more than 50 percent of its market value in just four trading sessions between Wednesday, March 21 and the closing bell on Monday, March 26.
Credit Suisse released a statement this morning that it will take a charge of $4.7 billion in the first quarter for its losses tied to Archegos. Two top executives will also be leaving the company. Nomura has said its losses could be in the range of $2 billion. U.S. trading firms have been strangely quiet on the amount of their losses connected to the hedge fund.
Wall Street’s evasion of prudent margin lending rules produced one other impact. It led media outlets to falsely report what was moving the stock prices of both ViacomCBS and Discovery Inc., another stock under accumulation by Hwang’s Archegos. Consider this February 9 report by Bloomberg News:
“Media stocks ViacomCBS Inc. and Discovery Inc. are two of the best performers on the S&P 500 Index this year thanks to expectations that their late entrance into the streaming-video industry will boost revenue.
“Since the end of July, the traditional media companies have more than doubled compared with a 20% gain in the S&P 500 Index. They are also up more than 40% this year, making them among the top three performers in the benchmark and even surpassing industry giant Netflix Inc. as investors seek continued exposure to streaming services favored by stuck-at-home consumers.”
ViacomCBS is a member of the S&P 500 index. Price discovery is a key function of markets. Investors suffer when media outlets are tricked into falsely reporting what’s driving upward moves in stock prices.
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