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Archegos Crisis: Blazing the Trail for Changes in Capital Markets

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The recent incident involving Archegos Capital Management (Archegos) has had a significant impact across global equity markets, from rapidly declining share prices in large corporations to billions in losses incurred by global banks and other market participants. Archegos made highly-leveraged investments in a small number of securities through total return swaps, and with Securities and Exchange Commission (SEC) swap reporting requirements not coming into effect until October of this year, regulators and counterparties were unaware of its concentrated positions.[1] When several of these securities declined in value, Archegos defaulted on margin calls issued by its dealers, which in turn caused these counterparties to sell the securities they held to hedge their exposure to Archegos - in some cases at a severe loss. Archegos operates as a “family office,” which unlike traditional investment firms is exempt from many requirements, including those defined by the Dodd-Frank Act, notwithstanding size or strategy.

This market turmoil is a sharp reminder of the challenges posed by episodic events that cause sudden and significant repricing of assets, the risks associated with highly leveraged counterparties and the market transparency challenges emanating from total return swap transactions. The pervasiveness of these challenges suggests that the Archegos crisis will likely not remain an isolated incident, and therefore it is incumbent on dealers to take actions to help protect themselves against these risks.

Congress and regulatory agencies have taken notice, with Senate Banking Committee Chair Sherrod Brown (D-OH) recently sending letters to four major banks that were counterparties to Archegos requesting information on their risk management and compliance practices.[2] The SEC has also announced that it has opened a probe into the matter, and Commodity Futures Trading Commission (CFTC) Commissioner Dan Berkovitz called upon the agency to re-examine its rules around family offices.[3]

Given this backdrop, below are ten key points on a) dealers’ risk management practices and b) regulatory considerations.

Internal considerations

1. Credit risk management. 

2. Contract risk management.

3. Gap risk management.

4. Data availability, systems and reporting.

5. Lines of defense roles and responsibilities.

6. Market disruption playbooks.

Regulatory Considerations

7. Swap governance and reporting.

8. Client impact.

9. Issuer impact.

10. Family office considerations.


[1] For more information on the swap reporting requirements, see PwC’s Regulatory brief, Security-based swaps: Closer to the finish line (September 2019).
[2] See Sen. Brown’s letter here.
[3]
See Commissioner Berkovitz’s letter here.

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