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Short interest in First Republic Bank rocketed from just 1.3 per cent at the start of March to 38.5 per cent by March 30.MIKE SEGAR/Reuters

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Hedge funds made more than US$7-billion in profits by betting against bank shares during the recent crisis that rocked the sector, their biggest such haul since the 2008 global financial crisis.

The bumper gains came during a bleak month for banks, with the collapse of Silicon Valley Bank (SVB) and the emergency sale of Credit Suisse CSGFK affecting the wider sector. Amid plunging share prices, German Chancellor Olaf Scholz was forced to dismiss fears about the health of Deutsche Bank AG DBMBF while San Francisco-based First Republic Bank FRC-N was bailed out by larger rivals.

Short sellers – who borrow stock and sell it, hoping to buy it back at a lower price – made estimated total profits of about US$1.3-billion from short positions taken against SVB, according to data group Ortex. A further US$848-million in gains came from bets against First Republic, whose shares fell 89 per cent in March.

Investors made US$684-million from shorting Credit Suisse as a crisis of confidence in the Switzerland-based lender sent its shares tumbling 71 per cent, according to the data. Profits from short positions across the U.S. and European banking sector as a whole totalled US$7.2-billion.

“March was the single most profitable month for short sellers in the banking sector since the 2008 financial crash,” says Ortex co-founder Peter Hillerberg. While bank stocks also fell sharply in early 2020 during the onset of the COVID-19 pandemic, fewer funds were shorting the sector at the time, limiting gains, he says.

Barry Norris, chief investment officer at Argonaut Capital, says he had enjoyed a “stellar” month thanks to bets against banks including Credit Suisse and First Republic. His VT Argonaut Absolute Return fund gained more than 6 per cent.

London-based Marshall Wace LLP, one of the world’s biggest hedge fund groups, was also among those placing bets, shorting 0.7 per cent of Deutsche Bank’s shares. Funds netted gains of about US$40-million from bets against the German lender.

Many hedge funds responded to the growing turmoil by increasing their short positions.

Bets against Credit Suisse, for instance, were running at just 3.5 per cent of the bank’s outstanding shares at the start of March, according to S&P Global Market Intelligence, as measured by shares out on loan, but had jumped to 14 per cent by March 20, the day after Credit Suisse was sold to UBS Group AG UBS-N.

Short interest in First Republic rocketed from just 1.3 per cent at the start of March to 38.5 per cent by March 30.

Other managers who benefited include Ravi Chopra’s U.S.-based hedge fund group Azora Capital LP, which profited from bets against U.S. regional banks, according to a person familiar with its positions. Azora did not respond to a request for comment.

Short sellers’ gains on Deutsche Bank, however, were more muted. While bets against the bank were quickly raised from 1.4 per cent at the start of March to as much as 6.1 per cent by March 28, the bank’s shares had already bottomed on March 24 – the day of Chancellor Scholz’s comments – and have since recovered some ground, eroding funds’ gains.

Hedge funds appear to be expecting further problems to emerge in the sector. Short interest in First Republic remains only marginally below the March high at 37.3 per cent, while bets against Deutsche have also fallen only slightly.

Argonaut’s Mr. Norris highlights the U.S. Federal Reserve Board’s liquidity assistance programme announced last month. This, he says, reduced the risk of weaker U.S. regional banks going bust owing to a lack of liquidity, but the high rate of interest being charged could lead to “a catastrophic impact on net interest margins, creating a solvency risk.”

“The liquidity crisis is probably over, but the solvency crisis is about to begin,” he says.

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