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Archegos Had ‘All The Makings Of A Dangerous Situation’
Over the last 72 hours, I've variously suggested that while the Archegos saga wasn't likely to trigger a systemic meltdown, it was virtually assured to attract the attention of US lawmakers.
On Monday morning, for example, I wrote that,
Depending on the scope of the fallout, opportunistic lawmakers in Washington could attempt to capitalize on the debacle. After all, anything that can be couched in terms of transparency (or a lack thereof) on Wall Street is amenable to political grandstanding,
As the late, great Edwin Starr said: “Swaps. What are they good for? Absolutely nothing. Say it again, y’all.”
The fundamental problem is that there is no central registry of the leverage being offered to clients. The prime brokers claim that those are “valuable competitive secrets” that cannot be entrusted to the SEC or Fed.
The result? Every firm does its due diligence and credit work on each client without knowing how much the client is borrowing from other street firms. So credit lines get approved on that basis, even though everyone knows full well that the client is getting some amount of credit from other firms. It’s legal and regulatory CYA.
So why do they extend credit? Goldman gave us a hint when they said that they started lending to the “family office” again due to competitive pressure.
Back in the early 80s, I had a B-school class taught by a scion of a legendary family. We were discussing the first Latin American debt crisis. We humble students prepared by reading through national accounts data, all of it scary.
Towards the end of the class, the professor asked us “Well, after reading all of this, would any of you have made those loans?” I was the only one who raised his hand. The prof incredulously asked me why, I told him “Well, if I wasn’t lending to those countries my bosses would call me in and ask me why. I’d try and explain the risk but they would reply that all of our competitors were making the loans and making big money on them. I’d be told to to go back and reconsider my caution or they would hand the book over to someone who would.”
A simple case in career versus risk management.
Of course, if the loans blew up, I’d be the one calling the headhunters, not them!
CDS’s are now a well know investment vehicle thanks to “The Big Short” book and movie. When the entire US economy was blowing up last time, most Americans had no idea what was going on and fell for the “blame it on Fannie” narrative out of the White House. If the market unwinds on the backs of CDS vehicles again, it will be a familiar terminology to everyone with PTSD flashbacks driving urgent calls for change to Washington.