Love Leverage? Odds Are You’re Rich

Fallout of Archegos Capital Management’s leveraged trades being unwound is casting a spotlight on the practice of borrowing money against shares in a bull market
Bull market conditions have facilitated the ability of rich shareholders to borrow more money against their stocks, but any sharp correction in markets, could lead to margin calls and unruly selloffs to cover shortfalls, as was seen last Friday

It’s the story of life isn’t it? If you don’t have a dime, no one will give you their time, but if you’re rich, everyone’s lining up to be your b*tch.

And while ordinary Americans were waiting for stimulus checks to drop, Bill Hwang of Archegos Capital Management was gorging on leverage to take risky bets on equities to the tune of some US$50 billion.

But while most Americans on the brink of survival may be taking out payday loans, data from the Bloomberg Billionaire’s Index suggests that 10% of the world’s 500 richest people have committed some US$163 billion in stock to fund everything from their jets to their mansions.

With the net worth of most of the 1% tied up in assets, especially shares of the companies they built, liquidity has often been a luxury bought at the expense of pledging those shares, which then go on to be used to fuel bets in the market.

Whether these shares are loaned out for those looking to go short, or used to finance leverage – the permutations are limited to the creativity of fund managers and bankers.

And with central banks pumping massive amounts of liquidity into the financial system, bankers have been falling over each other to extend credit to the rich, in exchange for holding on to their shares.

While pledging shares is pretty safe in a bull market, when rising prices ensure the value of the collateral remains well above that of the loan facility, when stocks fall, borrowers may face a wave of margin calls and have to cough up funds to avoid defaulting or liquidating their other assets – the kids can’s suddenly be yanked out of private school.

And that’s precisely what’s happening to Archegos Capital Management’s Bill Hwang – who ran a highly leveraged and extremely concentrated investment in a handful of stocks.

But Archegos Capital Management is hardly alone in this space and there are other companies whose founders may have to unload stocks to make good on those margin calls, especially tech firms whose valuations have run ahead of fundamentals.