Here’s the recipe: Start with a few billionaires. Next, let them put trillions of dollars in unregulated pools of capital. Next, add a dash of pandemic speculation.
What could possibly go wrong?
Meet the family office, the last known vestige of the shadow financial system—and a potential cause of the next meltdown. Super-rich individuals—those with over $250 million—form these secretive offices (sometimes called “family funds”) in order to bring their wealth management, tax planning, and sometimes charitable activities under one private roof.
“ There are now an estimated 7,000 to 10,000 family offices managing an estimated $6 trillion. For perspective, the global hedge-fund industry manages $3.6 trillion. ”
The spotlight is shining on family offices thanks to the sudden collapse of Bill Hwang’s Archegos Capital, which cost Credit Suisse CS, -1.08% and Morgan Stanley MS, +0.72% $10 billion in bank losses—and plunged the value of stocks the office held by $33 billion.
Lobbyists fought for exemption
Unlike hedge funds, family offices aren’t required to register with the Securities and Exchange Commission (SEC) or publicly report certain option and stock positions. That’s no accident—during the 2009 Dodd-Frank financial reform after the 2008 crash, family offices successfully lobbied and fended off oversight.
That lack of transparency is precisely what makes them so dangerous. Because Archegos didn’t have to disclose their highly leveraged positions, the banks that were lending to it were completely in the dark.
Family offices, as I write in my book “The Wealth Hoarders,” are part of a growing “wealth defense” sector—which includes tax attorneys, accountants, and wealth managers who are paid millions to hide trillions. They are inherently in the business of creating and protecting inherited wealth dynasties.
Some of these offices perform mundane financial services—they manage properties, oversee yachts, and prepare the next generation to receive the largess. But there are several reasons for alarm.
First, family offices have grown rapidly in the last decade, as wealth has further concentrated in fewer hands. With over 2,700 global billionaires holding an estimated $13 trillion, family offices are a must-have for the private- jet set. There are now an estimated 7,000 to 10,000 family offices managing an estimated $6 trillion. For perspective, the global hedge-fund industry manages $3.6 trillion.
That’s a lot of resources devoted to tax dodging and dynasty building, which could have major implications for democratic societies. But the more immediate concern is that some family offices have moved to the adventurous and speculative edge of finance.
Lack of oversight fosters risky behavior
The lack of oversight is accelerating this risky and secretive behavior.
When lobbyists opened up the family-office loophole in the Dodd-Frank law, a number of large private-equity and hedge-fund operators—including George Soros, David Tepper, Jon Jacobson, and Leon Cooperman—shut down their funds and reopened as less-regulated family offices. Altogether three dozen major hedge funds adopted the family-office structure.
Bill Hwang, founder of Archegos, controlled one of them.
After pleading guilty to wire fraud and insider trading in 2012, Hwang took $200 million from his closing hedge fund and started Archegos Capital Management as a family office. He leveraged this into a $20 billion bet on pandemic media and tech stocks.
Hwang deployed a “total return swap,” a type of derivative that provides “all the economic benefits of owning a stock without requiring Archegos to spend the money to actually buy it,” writes Alexis Goldstein from Americans for Financial Reform. But his banks didn’t know how leveraged he was—and the companies he was invested in didn’t know it was him driving up their share price. Eventually, the house of cards came crashing down.
Regulators are rightfully taking notice.
“We now have a clear example of someone exploiting the family-office exemption and creating systemic risk,” observed Tyler Gellasch, a former SEC official and executive director of Healthy Markets. Commissioner Dan Berkovitz of the Commodity Futures Trading Commission said oversight of family offices “must be strengthened,” noting that they “can wreak havoc on our financial markets.”
Democratic Sen. Sherrod Brown of Ohio, chair of the Senate Banking Committee, has also raised concerns. In a letter to Credit Suisse, Brown wrote that “the massive transactions, and losses, raise several questions regarding Credit Suisse’s relationship with Archegos and the treatment of so-called ‘family offices.’”
The family-office lobbyists will fight back. The Private Investor Council registered new lobbyists in February and is raising money to engage in another round of lobbying to fend off oversight.
This time, we can’t let them off the hook.
At minimum, family offices should be registered and required to disclose the size of assets under management. They should file paperwork on a quarterly basis to disclose their portfolio positions, as hedge funds are required to do.
Archegos is an early warning sign about the next generation of unaccountable capital and exotic, risky financial instruments. It’s time to bring family offices into the sunny world of financial transparency.
Chuck Collins writes extensively about family offices in his new book, “The Wealth Hoarders: How Billionaires Pay Millions to Hide Trillions.” He is the director of the Program on Inequality at the Institute for Policy Studies where he co-edits Inequality.org.