"Generally what happens is someone assesses the creditworthiness, does the know your customer and anti-money laundering, sets a margin, shoves it into a system completely separate from what's going on with the actual trading floor and never touches it again for another year." says an executive at one of the largest US hedge funds. In prime brokerage, initial margin is primarily based on counterparty credit risk - the chances of a client defaulting - rather than the risk of individual trades.
Prime brokers that provide leverage to hedge funds collect two types of margin from clients: initial margin, which is set periodically based on the credit risk posed by the fund and the variation margin, which is calculated daily and covers mark-to-market losses. "I have worked at small firms and multi-billion-dollar firms and this was a first", he says. The chief financial officer of one US hedge fund says that he was shocked when JP Morgan said it would exercise its legal right to make margin calls multiple times a day. None of the hedge funds that spoke to have received intraday variation margin calls from JP Morgan, but they all fear that they will have to pay up in the future.
The default of Archegos at the end of March triggered losses at multiple investment banks, incluiding a mammoth $4.7 billion loss at Credit Suisse, which collected less margin from Archegos than the likes of Goldman Sachs and Deutsche Bank. "It's up to you to negotiate that." A spokesman for JP Morgan declined to comment. "The JP Morgan standard prime brokerage agreement actually says that they can call you whenever they wnat for variation margin - like you can get up to seven calls a day" says a head of treasury at a large US hedge fund. Hedge funds rarely seek to change them because until Archegos. The right to demand variation margin is included in many contractual agreements with prime brokerage units.
Prime brokerage divisions ask for initial margin when a hedge fund enters a levered position and then give themselves the ability to demand variation margin if the market moves against the client. JP Morgan told the hedge funds and family offices that they would have to post more collateral on their single-name equity swap positions if they lost value intraday.īanks collect margin from hedge funds to cover potential losses if a fund fails. The biggest US bank by assets called clients of its prime brokerage division in the aftermath of the collapse of Archegos Capital Management, according to three people familiar with the matter. JP Morgan is warning hedge funds clients that it will demand they post more cash at any time during the day if their trades lose value. JP Morgan warns hedge funds to expect intraday margin calls