3. Mall rats
The so-called "mall short" — an attempt to find a derivative instrument that would pay off if certain shopping malls end up defaulting on their mortgages — ended up making a lot of money for a lot of hedge funds. Largely by dumb luck.
Why it matters: The mall short, also known for the past few years as "the next big short," made more than $1 billion for Carl Icahn alone. But it wasn't an easy win.
- Eric Yip's Alder Hill Management closed last October after being too early on the mall short, which finally paid off only when the coronavirus forced malls around the country to close their doors entirely.
How it works: Short selling, per Kate Kelly of the New York Times, is seen as a business that "preys on failure and can push a business over the edge."
- In this case, however, any defaults on shopping-mall mortgages were caused by the pandemic, not by financial speculators.
At the center of the trade was an obscure financial index — the CMBX 6 — derived from a list of 25 commercial mortgages dating from 2012, each with a face value of between $32 million and $75 million. Many of those mortgages were on shopping malls.
Speculators were closely watching whether those mortgages would default, and made enormous wagers (much bigger than the mortgages themselves) on whether and when default would come.
- When the pandemic hit, the index plunged, and fortunes were made.
Of note: The speculators were betting against extremely sophisticated investors at the likes of Alliance Bernstein and Putnam Investments.
- Before the pandemic, the long side of the trade was winning. The longs have been making money since May, too. But they lost billions in March and April.
The bottom line: Looking at the fortunes of the CMBX 6, or of the hedge funders betting on it, tells you surprisingly little about the state of commercial mortgages more generally. While many analysts still expect a wave of defaults, that wave hasn't started yet.
- The mall short makes for a gripping tale of high-stakes gambling. But it's not really about malls, and it certainly isn't a morality tale.