Archegos shocker: Janet Yellen promises relook at threats to the U.S. financial system

Vishnu Beri

The upheaval involving hedge fund Archegos Capital Management and the consequent impact on several large banks has sent ripples of shock across the global financial arena. The incident has drawn attention, yet again, to the urgent need of a relook at the workings of the financial sector in the U.S. 

Speaking on the issue while presiding over the Financial Stability Oversight Council (FSOC) on Wednesday, Treasury Secretary Janet Yellen spoke of an agenda to address “ongoing threats to the nation’s financial system”. These range from disruptions that occurred owing to the Covid-19 pandemic to recent developments, namely the hedge fund imbroglio. A note said the panel “discussed recent market developments related to hedge fund activities.” Speaking of the Archegos Capital Management issue, Yellen said, “Indeed, we are digging out of a deep hole now, but we should be mindful that the hole could easily have been deeper.”

Strategy explained

She went on to suggest the use of a three-pronged strategy to address areas of weakness in the U.S. Treasury and money markets, open-ended mutual funds and other non-bank financial market issues. She also spoke of dangers that climate change could pose to the system going forward. 

Yellen also spoke of her intention to revive FSOC’s dormant hedge fund regulatory group to study risks posed by hedge funds. Speaking of this with regard to the coronavirus-induced mayhem that rocked the global economy last year, she said, “The pandemic showed that leverage of some hedge funds can amplify stresses, too. This council used to have a hedge fund working group, and as of today we have one again. We’re establishing the working group so that we can better share data, identify risks and work to strengthen our financial system.”

The issue

A family office run by former hedge fund manager Bill Hwang, Archegos Capital Management was forced to sell securities worth $20 billion at a very low price after the value of a certain portion of its portfolio witnessed a significant dip. This, in turn, prompted margin calls from banks such as Nomura, Credit Suisse, UBS, Deutsche Bank, Goldman Sachs and Morgan Stanley. Archegos’ failure to pay margin money prompted liquidation of the company’s holdings at extremely low prices. The impact of this on the banks, quite naturally, is expected to be catastrophic. 

Post the Lehman Brothers debacle in September 2008, the banking sector in the U.S. has been strictly regulated, or was believed to be.  However, rules governing the high-risk domain or the shadow banking sector are less stringent. This realm includes asset management firms, hedge funds and private funds that are overseen to a certain extent by various regulators across the globe. Family offices, however, do not come under any regulatory ambit till date.