How Goldman And Other Wall Street Giants Loaned Billions To Someone Who Traded Like A Meme Stock Gambler

Imagine if Goldman Sachs GS lent a billion dollars to RoaringKitty.

News about margin calls is once again roiling markets. Except this time, instead of industry outsiders like Robinhood and RoaringKitty, a leading GameStop bull on WallStreetBets subreddit, the drama centers on traditional giants of the financial establishment.

Last Friday, brokers including Credit Suisse CS , Nomura and Goldman Sachs began dumping huge blocks of shares in a few select companies, including ViacomCBS, Discovery Communications and Baidu BIDU , with the size of the selloff reportedly reaching $20 billion. In the ensuing days, it emerged that the liquidation came after a hedge fund called Archegos Capital Management defaulted on margin calls, with Bloomberg reporting the defaults were related to a series of complex derivatives and swaps that allowed Archegos to assume significant stakes in companies without directly buying their shares. The nature of those deals meant the fund was also able to largely avoid financial disclosures about its positions.

The fallout has been swift. In the span of two trading days, shares of both ViacomCBS and Discovery have declined some 30%. Archegos’s finances are now “under extreme pressure,” according to The Wall Street Journal. Shares of Credit Suisse are down more than 12%, and Nomura stock has dipped more than 13%. Credit Suisse may have lost between $3 billion and $4 billion in the affair and Nomura suffered a $2 billion hit, the Financial Times reported. As you might expect with numbers like that, both banks have warned investors that the losses could have a serious impact on their first-quarter results.

For now, at last, it appears the effect of the fire sale on the larger financial ecosystem will be muted. Even some of those directly involved may escape any major damage: Goldman Sachs expects its potential losses to be “immaterial,” per Bloomberg. 

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But the ordeal could do serious damage to some. And it serves as the latest reminder of how loosely regulated hedge funds and heavily engineered derivatives have the potential to send shockwaves throughout the global economic system.

Archegos is a New York-based fund run by Bill Hwang, one of the famed Tiger Cubs who got his start working for Julian Robertson at Tiger Management. Founded in 2001, it was originally known as Tiger Asia and operated as a hedge fund. In 2012, though, the SEC charged Hwang and the firm with insider trading and market manipulation, and Tiger Asia admitted its guilt and paid $44 million in fines and penalties. The next year, the firm changed its name to Archegos and shifted its formal structure to a family office, making it exempt from some SEC reporting requirements.

The sorts of investments Archegos has been making, though, seem to be more in line with a hedge fund-style strategy. The primary source of the fund’s trouble is believed to be a variety of swap in which Archegos didn’t actually own the shares of the companies in which it was investing. Instead, the brokers own the shares. The swaps amounted to a risky, leveraged bet that allowed Archegos to put up a small amount of money up front in exchange for impressive profits—if all went smoothly. Every major bank that did business with Archegos took on some of that risk.

It’s a very different kind of derivative from the credit default swaps that helped create the global financial crisis. But there are also similarities. In both cases, if things go badly, a risky bet made by a single investor has the potential to reverberate across Wall Street. 

In the weeks that followed, many described the recent GameStop GME saga as a type of class warfare, with an informal army of everyman day-traders teaming up to get revenge on a financial establishment that has grown increasingly divorced from the economic reality of the masses. That motivation has perhaps been overstated. But there’s also undoubtedly a kernel of truth to it.

And Archegos now looks like an archetype for the sort of devil-may-care investor that has, for so many, become synonymous with Wall Street—an outfit operating with limited regulatory oversight, using other people’s money to make risky bets on opaque investment instruments that have the potential to seed widespread economic chaos.

In the months to come, it seems like the sort of affair that might attract the attention of incoming SEC chairman Gary Gensler, who’s expected to take a harder line in regulating banks and investors. For now, though, Archegos, Nomura, Credit Suisse and the rest of the major names involved are left to figure out how things went so wrong.

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