Thread by @bennpeifert

Covering a few more of the famous blowups from 2020 since people keep asking. (1/n)
institutionalinvestor.com/article/2bsx55…

JD Capital was a victim of the short S&P 500 variance, long everything else variance trade that I wrote about the other day. They had shuttered a previous fund managing over $1 billion after a 40% loss in 2008.

https://x.com/bennpeifert/status/1880789268228108636

Malachite Capital was famous for selling OTC tail risk to Wall Street banks. Corridor variance swaps, skew locks, capped/uncapped variance, strangles on variance. They did so in big size with many different banks, whose risk departments could only see their own positions.

It was run by Joe Aiken and Jacob Weinig, previously in derivatives sales at Goldman Sachs. Their pitch was that their product background helped them understand opportunities in complex derivatives in a way that people who came from buyside portfolio management didn't.

They pitched equity-like returns with lower volatility. Fund Evaluation Group (FEG) was a large consulting firm that promoted Malachite and put their client portfolios into the fund. institutionalinvestor.com/article/2bswy6…

Their trades were lucrative for banks, so there was lots of pressure for bank traders to step up and win "wallet share" regardless of the risk. They blew up spectacularly and were liquidated starting on March 9 2020, losing more than 200% of their $600 million AUM

Therefore they were obviously unable to pay their counterparties, who lost hundreds of millions of dollars on positions that were supposed to be hedging their own tails.

Some of these excessive losses were caused as banks unwound their long-dated exotic derivatives positions at adverse prices, which you can argue is unfair, but at the same time it's basic portfolio management, its why you don't sell lots of vol and tails and load up on exotics

Plinth Capital was a Malachite copycat launched just a few months before March 2020 by Johnny Wu, a former Barclays derivatives sales MD, and with a former Malachite execution trader as its head PM.

Their marketing pitch was that they knew Wall Street derivatives factory better than anyone and could get access to all the best structured risk transfer opportunties that hadn't made it into the glossy sales brochures.

They had only worked their way into a small starter portfolio when March 2020 hit. They lost 40% and the fund closed. Very sadly, the PM committed suicide shorly after.

Graham Capital is a $20 billion multi-strategy asset management and hedge fund complex. They had a portfolio manager named Jeremy Wein who had been known for selling tail risk and blowing up as a trader at big banks.

He sold massive amounts of Mar20 VIX calls in February 2020, along with various vanilla and exotic short variance positions.

The VIX calls position was liquidated at the same time as Allianz Structured Alpha's position, leading to the massive spike in VIX futures and VIX basis that blew up Parplus and Ronin Capital.

AIMCO is one of Canada's famous large pension plans. It had a portfolio manager who loved the famous capped/uncapped variance trade, where the client sells the bank uncapped variance and buys capped variance

This is a way for the bank to effectively buy a call option on variance, one of the most explosively convex tail risk instruments imaginable, but for the client to book an optically vega neutral relative value trade in their systems instead of an exotic option on variance

AIMCO used simplistic VaR systems to measure risk. Because a call on variance with a strike at 150% of current variance levels pays off less than 1% of the time in historical data, their 99% VaR model assigned no risk to these trades

AIMCO management apparently had no idea about these positions or the risk that they created until they lost $3 billion dollars in March 2020
institutionalinvestor.com/article/2bsx3s…

Did I miss any good ones? Please comment and I'll look

as always if you like my yapping on twitter say thank you to @benegotherit for goading me to come back and post for you even if it takes away from Elden Ring time, go buy Lessons in Birdwatching to make me happy

oh takeaways...

1) i love my friends in derivatives sales, but hedge funds run by ex derivatives salespeople = red flag

2) you cannot risk manage a derivatives portfolio to Greeks ("I'm flat vega, it's fine!") or historical VaR ("this doesn't lose money most of the time!")

3) as an investor, you absolutely cannot rely on hand waving about risk management, you have to know what specific products are in a portfolio, and see a proper stress test of how it behaves with the underlyings down 20% and their volatility surfaces exploding

Note that even this is tricky because risk models can be gamed by sneaky portfolio managers -- see InfinityQ, also recall this story

https://x.com/bennpeifert/status/1881395173332238349

4) again, never ever short uncapped variance, not even when you've bought some other uncapped variance against it, you're short a convex tail