The jury that convicted Bill Hwang of fraud had to get a "crash course in finance" first

The collapse of Bill Hwang’s Archegos Capital is my favorite finance story of the 2020s. A very brief overview: Hwang, a Tiger Global alumnus who once claimed that God loved Google because it provided “the best information to everybody,” lost $20 billion in two days in March 2021 (and $36 billion from his portfolio’s peak), after his leveraged bets on ViacomCBS, Discovery, Baidu, Vipshop, Farfetch, and various other Chinese tech tanked. The meltdown wiped out $100 billion in equity value of his portfolio companies, cost global banks that had made loans to Archegos $10 billion, and eventually led to Credit Suisse collapsing.

Hwang was subsequently arrested in 2022 and charged with 11 counts of racketeering, securities fraud, wire fraud, and market manipulation, and yesterday, he was convicted on 10 of 11 charges. From Bloomberg:

Both men were convicted of defrauding Archegos counterparties like Credit Suisse Group AG and UBS Group AG by lying to them about the firm’s trading activity and the level of risk in its portfolio. Hwang was separately found guilty of manipulating several stocks, including the former ViacomCBS, though he was acquitted with regard to one stock. Both men were also convicted of participating in racketeering conspiracy.

One of my favorite concerns that arose during Hwang’s trial was whether or not the jury would be able to grasp what exactly Hwang did, and what exactly he was being charged with, in order to deliver a verdict. From Bloomberg:

The panel of New Yorkers, who the judge has wryly said would be getting a crash course in “Finance 101,” will weigh a raft of complicated exhibits and reams of testimony. The jurors must decide whether Hwang illegally pumped up the price of stocks he was investing in and duped such sophisticated players as UBS Group AG, Morgan Stanley and Goldman Sachs Group Inc. about the sky-high risk to which he was exposing them.

“This is more complex than many other cases, and that’s an issue,” UCLA law professor James Park said in an interview. “It will be challenging for the jury to distinguish between trading meant to artificially manipulate the price and trading of a stock you think is valuable.”

The jurors, most of whom don’t have any financial background, will now determine Hwang’s fate.

The jury, a few members of which I’ve listed below, is not exactly comprised of financial market experts:

• A research scientist at the American Museum of Natural History who enjoys snowboarding, mountain biking, hiking, and backpacking.

• A Parsons School of Design graduate now working as a freelance graphic designer for companies.

• A retired Con Edison worker born in Aruba who served in the military and lives in the Bronx. “I have a lot of spare time,” he told the judge, prompting laughter from the packed courtroom.

• A Manhattan native who teaches first grade on the Upper West Side. She loves fiction and regularly reads the New York Times as well as the New Yorker.

• A retired train inspector for the New York City Transit Authority who likes woodworking and home-improvement projects.

One thing I admire about the American legal system is that, while it takes years of laborious study and practice to become an attorney, and even more so to become a judge, a first-grade teacher and a freelance graphic designer can determine the outcome of the biggest securities fraud case of the century. So, what exactly did Hwang do?

Normally, hedge funds such as Archegos must disclose their stakes in various companies through 13-F filings, but this rule didn’t apply to Archegos, because Hwang’s fund didn’t “directly” own the stocks it was invested in. Instead, Archegos used “Total Return Swaps” to borrow money and take outsized positions in each company.

In a Total Return Swap, a hedge fund pays an investment bank, such as Goldman Sachs, a fee in exchange for that bank buying assets, such as stocks. The bank then pays out the stocks’ returns to the hedge fund, but if the stocks’ prices decline, the hedge fund owes the bank money. If the hedge fund used leverage (borrowed money from the bank), it may have to post more collateral as the price declines, or the bank would sell some of its stocks, likely sending stock prices lower.

Archegos held Total Return Swaps with several banks, the firm was borrowing up to 5x its invested capital by March 2021 (giving it exposure to $160 billion in equities on $36 billion in its own assets), it was piling into the same basket of stocks through its swaps with multiple banks, and none of the banks knew that Archegos was investing in the same stocks across its other return swaps because Archegos didn’t have to disclose the stocks associated with its return swaps.

To be clear, highly leveraged trades using Total Return Swaps, while, obviously reckless, are, on their own, legal. If making stupid trades using leverage was felony, half of the accounts on Wall Street Bets would be in prison. What is not legal, however, is lying to your counterparties about your portfolio so they’ll wire you $173 million to meet other margin calls. From Bloomberg:

Former UBS risk manager Bryan Fairbanks was the first witness to take the stand in the trial, and he vividly described being on the other end of Archegos’ lies.

Fairbanks described being told that Archegos’ portfolio largely comprised highly liquid megacap tech stocks like Apple Inc. and Amazon.com Inc., and that its trading in companies like Viacom and Chinese online education company GSX Techedu Inc. was unique to UBS.

I am not a risk manager at a large bank. However, if I were a risk manager at a large bank, and I had a client facing a margin call, and that client told me told me that their entire portfolio, including leveraged positions with other banks, was invested in the same Chinese tech stocks and archaic media companies that caused the margin call with my bank, I would probably be less inclined to wire them $173 million the day before their margin call than if they lied and said the rest of the portfolio was in Apple and Amazon.

It also isn’t great when part of your defense is that your trading was part of a “long-term strategy” and the stocks moved for “other reasons than the firm’s alleged manipulation,” and then your former trader takes the stand and says the complete opposite:

The former trader worked closely with Hwang and offered damaging testimony about how his boss micromanaged his team to goose stocks to certain prices and also directed Tomita to lie to Archegos’ counterparties about the firm’s portfolio.

Tomita testified that Hwang instructed his traders to do “the opposite” of what a “normal fund” would. He noted that normal funds would try to build up their positions at the lowest cost and try to minimize the impact of their own trading on prices. At Archegos, Tomita said, “I could see that it was me that generated the stock price.”

To be fair, the stock charts of Hwang’s otherwise unrelated investments do look a bit “goosed,” no?

Ultimately, while the jury may not understand the minute details of total return swaps, it didn’t take them long to decide that Hwang lied to his counterparties (bad!) and manipulated stock prices (also bad!).