Business & Investment

Three important lessons for all investors from the Archegos Meltdown!

In late March, a shock wave struck the entire US stock market. By Friday, March 26, some prominent American stocks plunged suddenly. In a few days, tens of billions of dollars have been wiped out of valuation. When investors scrambled to explain this turmoil, they found the culprit: Archegos Capital Management.

Arquegos blows up

Bill Hwang was a successful trader at Julian Robertson’s well-known hedge fund, Tiger Management. When Tiger closed in 2000, fans started Tiger Asia Management (TAM). The hedge fund was closed in 2012 after being convicted of insider trading. In 2013, fans launched Arquegos, His family office. It’s a quiet success, especially since March 2020, making huge sums of money. At his peak, fans could have been worth $ 15 billion. In the next week, Arquegos was blown up. Following the sale of that asset, the fund may have little or no left behind. This is what went wrong with three simple lessons for all investors.

Very concentrated portfolio …

To maximize returns, fans ran a very focused portfolio. He held large shares in several companies using financial derivatives purchased from investment banks. These included several US-listed Chinese groups in addition to the major US media businesses.when Viacom CBS Stocks began to fall on Tuesday, March 23, and soon fell free. They collapsed from over $ 100 to $ 45 and crashed more than half (55%) in four days. This has reduced the Group’s market value by tens of billions of dollars.

Since Archegos is one of ViacomCBS’s largest shareholders, lenders have demanded more collateral to support this and other losing bets. If a trader fails to provide collateral, they will receive a “margin call” (immediate payment request). This caused a large fire sale when Archegos was unable to handle margin calls. Banks sold huge chunks of the Archegos portfolio at significant discounts in large-scale “block trades.” Very quickly, Arquegos has accumulated tens of billions of dollars in losses in this forced liquidation.

… using too much leverage …

The second problem was that Archegos was using much more leverage. Leverage involves using borrowing or financial derivatives to increase profits (and losses) from transactions. I always say that leverage is a double-edged sword. Because it can do harm as often as it helps. Fans were said to be utilized at a ratio of 5: 1. Therefore, for every $ 1 of assets he took the risk of $ 5. In this scenario, when the value of the portfolio drops by a fifth (20%), the portfolio is completely erased. It was this terrifying force that lit Archegos and sent it into the smoke. As I warn: “Leverage is your best friend until it becomes your worst enemy.”

… Put Arquegos in a liquidity trap

The third problem follows the first two mistakes. If you run a highly focused and actively utilized portfolio, it will look like a lobster crawling in a lobster trap. It’s easy to get in, but incredibly hard to get out. If forced to sell large-capitalization stocks in a hurry, investors will receive price cuts well below typical market prices. Being a distressed seller when caught in a liquidity trap means losing arms and legs.

These are my three lessons from this blunder. However, avoiding these problems is very easy. 1) Portfolio Spread the egg Straddling many baskets. 2) I hate torch, so I don’t use leverage. 3) Never take a position big enough to get caught in a liquidity trap!

View The companies mentioned in this article represent writers’ companies and may differ from the official recommendations made by subscription services such as Share Advisor, Hidden Winners, and Pro. Here at The Motley Fool, by considering various insights, Better investors than us.

Three important lessons for all investors from the Archegos Meltdown! Three important lessons for all investors from the Archegos Meltdown!

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