How Porsche picked the pockets of the hated hedge funds
By Philip Delves Broughton
FIRST POSTED OCTOBER 30, 2008
The geniuses at Porsche have just done what half the civilised world has been thinking of doing these past few weeks and stuffed it to hedge funds and banks. The numbers are still all over the place as people try to unravel the great Stuttgart Sting. But what appears to have happened is this.
Porsche had been itching to buy Volkswagen for years. But it was struggling to raise the money. So instead of getting a traditional bank loan or issuing equity, it decided to pick the pockets of British and American hedge funds, the very funds, in fact, which have belittled stodgy old German enterprise and called it out of date. The funds which one leading German politician called "locusts" for preying on businesses while adding no value.
These funds thought VW was overpriced and reckoned Porsche was insane trying to buy it. It was nothing but a quixotic fantasy of Ferdinand Piech, the grandson of Porsche's founder and a former chief executive of VW. Porsche, after all, had annual revenues of just £5.2bn to VW's £83bn. Its market cap was around a third of its takeover target.
British and American hedge funds have belittled stodgy old German enterprise and called it out of date
But Piech's intimate knowledge of VW had allowed Porsche to make enormous profits trading options on VW stock. What occurred over the weekend was the climax of this strategy. Hedge funds such as SAC and Greenlight in the US and Odey and Marshall Wace in London were eagerly shorting VW stock; borrowing, selling it and promising to return it later. They reckoned the stock price would fall and they could buy it back cheaply and pocket the difference.
What Porsche appears to have known, however, is that the volume of available shares was quickly dwindling. They knew this because they had been quietly building their own position in VW, through shares and derivatives, to 74 per cent of the firm. A further 20 per cent was owned by the government of Lower Saxony, and another five per cent owned by index tracking funds, leaving a tiny number of shares floating freely on the market.
It is conceivable that Porsche and its banks were the ones lending the hedge funds the shares and then buying them back through proxies. So while the hedge funds thought there was a large and liquid market in VW shares, Porsche knew otherwise.
On Sunday afternoon, Porsche played its hand. It announced that it controlled 74.1 per cent of VW. German law had not required it to disclose this information beforehand. The hedge funds did their calculations and freaked out. They had borrowed 15 per cent of VW and now it turned out Porsche may have lent them most of that.
They immediately began scrambling for what little stock was out there to close out their short position. Some were reported to be sobbing on the phone to their brokers. Too many traders chasing too little stock sent the price of VW soaring, pushing the company at one point on Monday past Exxon to make it the most valuable in the world. All Porsche needed to do at this point was sit back and smile. It had made billions in paper profits.
‘The chaos around VW overwhelmingly hit professional gamblers. Sympathy does not seem appropriate’
Then came the reckoning. On Wednesday Porsche announced it would release five per cent of VW's stock to ease pressure on the short sellers. The share price of VW is still around two-and-a-half times where it was last week and Porsche could make around £5bn on this portion of its manoeuvre alone.
But even better, Porsche owned cash-settlement call options on 31.5 per cent of VW which, according to the New York Times, matured yesterday. If true, this earned them the difference in cash between 31.5 per cent of VW valued around last Friday's closing price of 210 Euros per share and yesterday’s price of 517 Euros, an astonishing return. When VW's price returns to normal, Porsche should have more than enough cash to buy control.
Germany seems to be on Porsche's side in all this. Die Tageszeitung, a liberal newspaper, wrote on Wednesday: "As opposed to previous speculative bubbles that cost a lot of small investors their money in the stock exchange casino, the chaos around VW shares overwhelmingly hits professional gamblers. Sympathy does not seem appropriate."