“Amateur” trades have exploded the AIMCo volatility program, experts say

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The Alberta Investment Management Corp. – which manages retirement assets, sovereign wealth and other public funds – has lost billions in protecting Wall Street banks from an extreme market crash, experts said.

AIMCo ended its volatility trading program in response to the explosion, which cost Albertans about $ 2.1 billion, the organization’s CEO said in a letter on Thursday.

“Although this figure is likely to change, we have actively taken a number of steps to limit the potential loss,” wrote Kevin Uebelein to stakeholders. “The actual losses will not be finalized until the strategy is completely completed, which should happen in mid-June. “

AIMCo staff members built and managed the now-gone volatility program, which involved very complex transactions and esoteric derivatives that could be misused, experts said.

[[[[II Deep Dive: $ 3 billion AIMCo volatility trading]

In a common trade – so-called capped-uncapped variance swaps – the Wall Street banks paid the Alberta fund to cover unlimited losses in the event of a stock market crash.

Many traders believed that they were actually getting free money. Banks were paying to remove the risk from their books in order to pass the stress tests imposed by regulators after the last financial crisis. But it is thought that insurance would never really pay, because such a dramatic accident never happened.

In the language of traders, this type of transaction is called “selling small puts” and is often described as collecting money in front of a bulldozer.

“The capped-uncapped strategy is amateurism,” said Gontran de Quillacq, a flight market veteran who consults institutions and lawyers when the funds explode. “Selling small puts is a beginner’s mistake,” de Quillacq said. “Anyone with experience in options and volatility trading knows that these ‘rare of the century’ events happen every few years – much more frequently than simple calculations would say. It’s a guarantee. How often should you play Russian roulette? How about with three balls? “

“I am always shocked when I see” institutional funds “or fund managers embarking on these strategies,” he added.

Without knowing the details of AIMCo’s positions, he said, “Alberta is a qualified investor. As such, he is expected to know and understand what he is doing. It’s not the job of salespeople to know AIMCo’s strategy, which they cannot know anyway. Alberta took too big a risk. “

Most US institutions avoid the sector or pay outside companies to trade it for profit, with varying results. However, even the leaders of American public funds easily present their Canadian counterparts as models.

The Canada Pension Plan Investment Board and the Ontario Teachers’ Pension Plan are among the largest institutional investors in the world. Both are well known and “aggressive” volatility players.

Experts and data put AIMCo at a lower level of sophistication. The organization may not have understood the risks it was taking. Or AIMCo executives collapsed under pressure in the middle of the crash and killed a thoughtful – albeit risky – program.

“If you didn’t have the stomach and you weren’t prepared for a 40% drawdown, you shouldn’t have been involved” in the volatility markets, said Taylor Lukof of ABR Dynamic Funds , a successful trading firm, about institutions in general. “If you haven’t managed expectations well with your stakeholders, you may be forced to make suboptimal decisions when the volume is really, really high. “

Institutional investor broke the story of AIMCo’s blunder last week, putting the loss at $ 3 billion. Other media reports have set them at $ 4 billion, which Uebelein has pushed back against.

The trade debacle has ignited Albertans, who are already facing a dismal economy and massive layoffs as Canadian oil prices hit historic lows.

Uebelein has promised that a “thorough review of this situation” has started, “using both the strength of AIMCo’s internal audit capabilities, as well as external third-party experts. AIMCo initially blamed the stock market, but also expressed contrition.

“The markets have behaved in ways never seen before and the result has been a very unfortunate loss,” Uebelein wrote in the letter. “Let me be clear, the performance of this investment is completely unsatisfactory and the AIMCo board of directors and management share the frustration and disappointment of our clients, their beneficiaries and all Albertans. “

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