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OPINION

Sideways: How to play prime broker Wordle

The US government’s case against Archegos Capital sets up a contest to guess which of the fund’s prime brokers was the most gullible at any given time. To keep the game interesting, the answer might not always be Credit Suisse.

Announcement of the indictment Archegos's Hwang and Halligan
Damian Williams, US Attorney for the Southern District of New York, points to a chart announcing the indictment of Archegos's Bill Hwang. Photo Reuters

The US government announced two overlapping cases against Archegos Capital’s founder Bill Hwang and some of his staff on April 27.

Details in charges made by federal prosecutors and the US Securities and Exchange Commission (SEC) give students of financial disasters a chance to guess which of Archegos Capital’s prime brokers was the most gullible at various times in dealing with the family office.

The charges of racketeering and other crimes that were made by prosecutors from the southern district of New York named several bank prime brokers and cited examples when they were allegedly deceived by Hwang and his deputies.

The accompanying SEC charges include more details on the fund’s interaction with prime brokers, but the identities of the bank counterparties are masked as 'CP1', 'CP2' and so on.

A look at the losses made by Archegos Capital’s prime brokers after the fund’s spectacular implosion last year gives a clear overall scorecard of which bank suffered the most.

Credit Suisse was way out in front with a hit of $5.5 billion, and even a recent write-back of roughly $160 million of this total still leaves the bank in an unassailable position as the biggest loser from the Archegos debacle.

Charges

The details provided by the two sets of charges against Archegos staff may give fresh impetus to investigations into what went wrong at other banks, however.

Supervisors may also take a renewed interest in the way large investment banks use client information to compete with each other.

The charges against Hwang and his former staff of market manipulation may be difficult for the US government to prove before a jury, though they are made with the gusto that has come to be expected from prosecutors in New York’s southern district, who relish the “Sheriff of Wall Street” nickname for their division.

The defendants are described as the 'Archegos Conspirators', and the charge of racketeering conspiracy is one that is normally used in prosecution of mobsters, not fund managers

The defendants are described as the “Archegos Conspirators”, and the charge of racketeering conspiracy is one that is normally used in prosecution of mobsters, not fund managers.

Lawyers for Hwang and his staff will argue that buying stocks in the hope of making a profit is not a crime, and some corroborating evidence such as alleging that he strayed into market manipulation by ignoring his research staff in pursuit of trading gains seems especially flimsy.

The charges that Archegos Capital made fraudulent representations to its prime brokers to obtain trading credit have a better chance of sticking.

Questions

Some details raise further questions. The main federal case says that Morgan Stanley representatives in November 2020 requested that Archegos transfer some of its exposure to Chinese education company GSX to another bank counterpart and replace it with more liquid US stocks such as Apple and Amazon that it believed formed part of the fund’s exposure at other firms, for example.

That could be portrayed as a prudent risk management step (though in the event Archegos ignored the request), but it also shows how a prime broker to the fund was keen to simply shift potentially dangerous exposure to a rival bank.

Other banks raised the same issue by asking Archegos if the presence of fellow dealers as top GSX shareholders meant that they had been hedging swap exposure generated by the fund.

Archegos staff allegedly lied about this exposure, but the banks still extended further credit, and in one case opened a new prime brokerage account for the fund without much detailed examination of what in retrospect was an obvious red flag.

Trying to match the prime broker to the Archegos blunder may not prove to be as addictive as a financial Wordle game. Some surprising answers could still be revealed when the case goes to trial, however.

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