Porsche and Volkswagen

In a time when many odd economic events are taking place, this saga nonetheless deserves comment:

Volkswagen’s shares more than doubled on Monday after Porsche moved to cement its control of Europe’s biggest carmaker and hedge funds, rushing to cover short positions, were forced to buy stock from a shrinking pool of shares in free float.

VW shares rose 147 per cent after Porsche unexpectedly disclosed that through the use of derivatives it had increased its stake in VW from 35 to 74.1 per cent, sparking outcry among investors, analysts and corporate governance experts.

This seesaw has been going on for some time and German regulators haven’t done much about it, despite complaints from hedge funds.  Today the share price rose by a factor of nearly five (!).  So for a brief while Volkswagen became the world’s largest company in terms of capitalization.  Who needs Exxon and WalMart?

I thank Ben, a loyal MR reader, for the pointer to this episode.


Why should German regulators do anything about it? I know many hedge funds involved in what's called the Porsche stub trade, and truthfully, it was flawed from the start. Essentially what happened is that earlier this year Porsche disclosed a sizeable stake in VW. Hedge funds figured out that the value of Porsche's stake in VW exceeded the enterprise value of Porsche, meaning in effect you were getting paid to own the operating business of Porsche. So to capture that spread, you go long Porsche and short VW. I know a number of funds that put this trade on and pitched it to me. The glaring flaw in their analysis though was that they assumed that Porsche, who had announced its intention to take a "majority" stake in VW, was going to stop accumulating at 50.1% because Lower Saxony controls 20% of VW and it was thought they would never acquiesce to a takeover by Porsche. Porsche never committed to stopping at 50.1%, and as this weekend's announcement shows, they didn't.

So what ended up happening was that the hedge funds were shorting VW as Porsche was acquiring it. It's akin to a reverse risk arb; in risk arb you buy the target and short the acquiror, here the funds were shorting the target and buying the acquiror. As would be expected, this is a recipe for disaster. Once Porsche announced they controlled 74.1% of the stock through owned shares and cash settled options (where their banks effectively control the shares), it became obvious that with only 5.9% of shares now in the free float (remember Saxony controls 20%) that the 13% of shares sold short were in a, shall we say, precarious position. Thus the single greatest short squeeze I have ever seen. VW is now valued at over 2x Toyota Motor despite being smaller and less profitable.

Seems to me that having the shorts squeezed in such a manner is a far better object lesson about the possible dangers of naked puts than government regulation could ever be. (And naked puts are sometimes quite useful and healthy things.)

BTW, I agree that shorters are paying for a mistake. On the other hand, Porsche has been less than transparent, stating repeatedly that they are not actively buying on the market, have no intention of reaching 75%, are not lending VW stock etc. So one might say that there has been market manipulation, and many HF fell for it.

A possible reason for regulatory action could be that, at least in the United States, a holder of a certain amount of stock in a company must disclose its purchases to provide greater transparency in the market. If Germany has similar requirements and Porsche failed to appropriately comply, then the securities regulators would have grounds to take enforcement action. The point is not to protect naked option takers, but to enhance confidence in the the market and provide information and greater transparency.


According to FT Alphaville, the "relevant legislation" that would curtail Porsche's activity does not come into effect in Germany until the spring, so they would seem to be in the clear.

And now GS and MS are down -10% to -26% on rumors that they lost bundles on VOW!

It serves them right for taking on the Largest Company in the World!

They've come out with statements refuting this (and we heard it from other sources), but rumors have a life of their own.

And now GS and MS are down -10% to -26% on rumors that they lost bundles on VOW!

No problem, Paulson's got tens of billions lying around to help them out. It'll be good for main street. Good for America.

I can barely understand it, but it sounds hilarious.

Phil and Sune: hedge funds noticed Volkswagen shares were way overpriced, and shorted them. However, Porsche had secretly cornered the market in Volkswagen shares, and publicly revealed this fact a couple of days ago. Short-sellers were forced to buy back VW shares at ruinously ever-higher prices.

Shorting shares means you try to sell high and buy low, in that order. If the price spikes in the meantime, you lose. Just like panic selling can drive the price of shares down (a familiar scenario lately), panic buying by short-sellers can spike the price upward, which is known as a "short squeeze". This was the mother of short squeezes.

The money quote:

“I have hedge fund managers literally in tears on the phone,† said one London-based auto analyst.

P.S. when Porsche casually revealed that they controlled far more VW shares than they had previously been thought to own, they disingenuously stated:

The disclosure should give so called short sellers [...] the opportunity to settle their relevant positions without rush and without facing major risks.

Which only goes to show that sadistic Teutonic humor is alive and well.

It's amazing that hedge funds are so despised that people don't seem to mind that porsche lied (yes lied) about their intentions and blatantly manipulated the market. But hey, if the counterparties are american and english "locusts", then i guess it's okay to let them suffer. I am not short VW shares, but I continue to follow this story and I think it has several more interesting turns to take. What Joe did not mention in his good summary of the situation is that Porsche had stated publicly earlier in the year that it would not seek to go to 75% and only very recently (3 weeks ago) did they mention that going to 75% was a "theoretical possibility". I guess "theoretical possibility" actually meant they were buying boatloads of options to take them to 75%. I have heard that privately porsche was telling investors the share price was too high and thus egging on short sellers. So hedge funds that were caught short were a little naive, but the "flaw" Joe points out is really that they took Porsche management at their word. And that turned out to be a huge mistake.

Other tidbits:
1) Porsche has disclosed they own options to take porsche to 75%. . but these could be way out of the money call options that as of last week (pre announcement and squeeze) had fallen tremendously in value as VW fell 50%.
2) Porsche has also sold puts in the market (perhaps to fund buying all these calls), so last week's sharp decline also was probably killing them on put liability.
3) So whatever options they own, Porsche has clearly levered up to buy them (Porsche is a tiny company compared to VW). When VW stock fell last week, all of a sudden Porsche could have found itself in a terrible liquidity crunch. Thus the press release about owning options to go to 74% and the very weird statement about allowing shorts to exit their positions in an orderly fashion (hahaha).

the whole thing is totally bizarre. and Sunday's announcement smelled more like panic than triumph to me. it is too bad there aren't more financial journalists looking at this situation from the correct angles. . .i feel like it's another fantastic story from 2008 featuring games with derivatives which have gone bad. if porsche does not get away with cornering the market here, they could be totally screwed. given their bad behaviour, they deserve it.

porsche lied (yes lied) about their intentions and blatantly manipulated the market

Welcome to the poker game.

"Okay I think I get it now. What made people short VW in the first place?"

Fundamental overvaluation. A stupid reason in this case.

Everyone of those traders is whining, but are not options volumes available? Wouldn't due diligence be to know what those are?

And Jeff, selling naked shorts should be dangerous; traders should bare the risk.

And why is it so damn different if Porsche buys those options or Warren Buffet?

Why should one have to disclose and the other not?

The point that everyone seems to have forgotten is that being a trader involves risk. Risk is a part of the reason you get paid the large sums you do. If you don't like the blow-up, don't pick up pennies in front of the steamroller. You guys got your bailout now stop whining that its too damn risky.

In a credit crunch, when banks and private equity falter, it's heartening to see hedge funds step up to the plate and provide the financing for a leveraged buyout. :)

Why should German regulators do anything about it?
Because an public offer is mandatory

So if VW is the largest company in the world, and Porsche owns VW, doesn't that make Porsche the largest company in the world?

What is going on here? Should I invest in VW or PORSCHE?

It sounds like Porsche and Volkswagen screwed some people over. From what I see Porsche did this by having invested more in Volkswagen than anyone new. I am just glad that this situation has nothing to do with me because it sounds like a lot of people lost a lot of money.

Is there such a thing as business ethics? It was known that Porsche wanted to take control of VW. This might have been an efficient way of doing this, but at what cost VW already manufactures at least three models of Porsches now that the companies will be integrated how well will their efficiency be with all the mixed feelings about how they assumed control. What is to be gained if a company saves a little money but causes internal problems and damages its public image?
What about the millions of dollars hedge funds lost? Without regulations that require a companies intentions to be transparent it would be hard for investors to make sound decisions upon were or who to invest in. it seems that Porsche misled the market and took advantage of legislature in order to acquire majority control of VW. The market should be competitive to stay healthy this is understandable but, it should be fair.
The short run VW stock has rocketed upward but will the long run prove to benefit them as well? What exactly does Porsche has to offer a company who produces more fuel efficient and cost efficient cars? It seems that Porsche will get the best end of this deal and due to the nature of the merger will have escalated already hostile conditions between two rival companies

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