Archegos Carries a Warning For Europe's Financial Ambitions

You can almost hear the relief in Brussels that the latest financial crisis, the blowup of Bill Hwang’s family office Archegos, has passed it by. That doesn’t mean the next one will.

The European Union is eager to take work from the City of London after Brexit, but it needs to appreciate that greater exposure to the financial sector means bigger risks. Europe’s approach of setting up finance hubs in several locations will magnify the dangers rather than prevent them.

As with the 2008 Lehman Brothers collapse, the splintered approach to trying to manage the massive margin call on Archegos made matters worse. Deutsche Bank AG dodged this bullet (mimicking Goldman Sachs Group Inc. and others) by a swift disposal of $4 billion of available-for-sale collateral from its prime brokerage exposure to Hwang. Credit Suisse Group AG and Nomura Holdings Inc. were less fortunate. Two of Japan’s megabanks have also revealed exposure. The collateral they hold may now both be much lower in value and less liquid, taking much longer to offload, with commensurate larger losses.

The scale of the Archegos blowup looks manageable for the finance system, even if does leave a few bank victims, but imagine something similar happening in the infinitely bigger interest-rate market at some point. And then imagine clearing houses in different European cities trying to manage the fallout collectively.   

While there were reported attempts to broker a club deal on Archegos and to undertake a collective controlled explosion of the positions, trust among the investment bankers was absent. It became devil take the hindmost. It’s for exactly this reason that centralized clearing houses evolved after the Lehman debacle to pool the counterparty risks of dealing securities across the financial system.

The London Clearing House, part of the London Stock Exchange Group Plc, clears more than 90% of global interest-rate swaps because centralizing the risk makes it simpler to assess. The EU’s desire to see not just euro-denominated clearing but much of the wider financial activity in Europe switch away from London will have consequences for financial stability. A future crisis would be far harder to unravel if exposures between banks were tied up in several different clearing exchanges.

Which clearing house would have the rights to which collateral? Have no lessons been learned from the collapses of Lehman or MF Global, which have tied up conflicted assets for over a decade? There are even echoes of the LTCM collapse nearly a quarter of a century ago.

There are sound reasons why London has become the European financial center. That doesn’t mean some business, and particularly control of European government debt, shouldn’t naturally drift across to the continent, but it does come with concomitant risks which need to be addressed. Could the EU handle another large-scale financial crisis if it can’t even agree how to distribute vaccines?  

With lockdowns imposed again across the EU, a stuttering vaccine rollout and a potential block to Europe’s pandemic recovery fund from the German constitutional court, there are warning signs — something ECB Chief Economist Philip Lane outlined in a recent blog. The prospect of another test of Italian bond yields is always present.

While the Archegos margin call was in the tens of billions of dollars, there are many trillions of euros of interest-rate exposure in the EU, much of it at negative yields. Taking back control of your financial system means being able to take the rough with the smooth. A disparate approach might fail that test. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.

©2021 Bloomberg L.P.

BQ Install

Bloomberg Quint

Add BloombergQuint App to Home screen.