An independent report commissioned by Credit Suisse to examine the bank’s failures that led to $5.5 billion in losses when U.S. hedge fund Archegos Capital Management collapsed this year concluded a series of missteps by risk and compliance failed to escalate numerous red flags.
The report, released Thursday, was authored by law firm Paul, Weiss, Rifkind, Wharton & Garrison. It outlines a number of risk and compliance failures at Credit Suisse in its dealings with Archegos founder Bill Hwang, whose relationship with the bank dated back to 2003, and concludes losses caused by the hedge fund’s meltdown were “the result of a fundamental failure of management and controls” in Credit Suisse’s Investment Bank—specifically, its Prime Services group.
The report’s authors noted they found no evidence of intentional misconduct by bank employees. Instead, the report uncovered a risk culture within the bank that repeatedly and consistently downplayed issues risk management procedures had identified with Archegos’ investments.
“The business was focused on maximizing short-term profits and failed to rein in and, indeed, enabled Archegos’s voracious risk-taking,” the report said. “There were numerous warning signals—including large, persistent limit breaches—indicating that Archegos’s concentrated, volatile, and severely under-margined swap positions posed potentially catastrophic risk to CS. Yet the business, from the in-business risk managers to the Global Head of Equities, as well as the risk function, failed to heed these signs, despite evidence that some individuals did raise concerns appropriately.”
The Archegos default exposed “several significant deficiencies” in Credit Suisse’s risk culture, the report said, noting:
- A lackadaisical attitude towards risk and risk discipline;
- A lack of accountability for risk failures;
- Risk systems that identified acute risks, which were systematically ignored by business and risk personnel; and
- A cultural unwillingness to engage in challenging discussions or to escalate matters posing grave economic and reputational risk.
The report’s authors called into question the competence of the bank’s business and risk personnel “who had all the information necessary to appreciate the magnitude and urgency of the Archegos risks, but failed at multiple junctures to take decisive and urgent action to address them.”
In a detailed response to the report, Credit Suisse called the Archegos matter “a turning point for its overall approach to risk management.”
The bank has lowered its risk appetite and risk thresholds across multiple divisions, upgraded its risk governance and underlying reporting, and increased margin levels on many types of investments.
“We are committed to developing a culture of personal responsibility and accountability, where employees are, at heart, risk managers; know exactly what they must do; escalate any concerns; and are responsible for their actions. Such a culture is of critical importance and, by working relentlessly on this goal, we can create lasting change and value for both clients and shareholders,” said Credit Suisse Chairman António Horta-Osório in a statement.
Credit Suisse has also moved to separate its risk and compliance functions, having identified senior leadership with too many responsibilities (whom the report dubbed “dual-hatted senior managers”) in these areas to properly manage them. In the aftermath of the Archegos meltdown, the bank parted ways with Chief Risk and Compliance Officer Lara Warner and the head of its Investment Bank, Brian Chin. Thomas Grotzer was appointed interim global head of compliance, while Joachim Oechslin was named interim chief risk officer.
Credit Suisse this week announced the hiring of Goldman Sachs veteran David Wildermuth to take over as chief risk officer by February 2022. A permanent compliance head has yet to be named.
The bank instituted a number of other personnel shakeups, including naming interim heads of its Equities and Prime Services divisions; creating the role of Investment Bank chief business risk officer; and appointing a new risk manager focused on Prime Services. Also new is a counterparty market risk function led by a senior risk professional to enhance the interaction between market and credit risk management, which was identified in the report as a key failing in the Archegos matter. Credit Suisse has further created 20 new permanent positions in the Credit Risk division.
Credit Suisse revealed it has punished 23 employees for their role in failing to escalate warnings about the risks Archegos posed to the bank’s finances and reputation. Nine of the employees were fired. The remaining 14 will receive “severe monetary penalties” worth $70 million that involve a canceling of outstanding deferred awards and clawback of previously paid awards.
Family office transparency not the issue
Much has been made of the fact Archegos was a so-called “family office” that only invested private money and did not accept funds from retail investors. Family offices are not required to present as much financial information to regulators like the Securities and Exchange Commission because they only invest private funds. This fact has led some in investment and regulatory circles to suspect this lack of transparency somehow obscured Credit Suisse’s ability to clearly see the escalating problems with Archegos’ investments.
The Paul Weiss report, however, makes clear Credit Suisse’s risk management team was aware of the increasing risks Archegos and Hwang were taking and its effect on the bank’s financial exposure. The report says the bank might have allowed Archegos to double down on its flawed investment strategy by acceding to a 2019 demand by Hwang to reduce his swap margins from 15 to 25 percent to 7.5 percent. Hwang then plowed the money he had set aside for his swap margin into more risky investments.
At two points in the bank’s relationship with Hwang, it conducted reviews examining the reputational risks posed by his investing strategy. The first occurred in 2015, three years after he was convicted of insider trading violations. Another was conducted in 2018.
The first review by Credit Suisse’s compliance team was “largely perfunctory,” the report concluded, while the second review “largely mirrored the first.” Neither review resulted in any conditions or limitations being placed on the bank’s dealings with Archegos.