What's up guys and welcome back to wall street millennial on this channel, we cover everything related to stocks and investing investment. Bankers on wall street are often portrayed in the media as highly sophisticated or even evil geniuses that control the financial markets and economy, but at the end of the day, they're just humans, like the rest of us and they're, liable to make incredibly stupid mistakes. In some cases, these cost their firms, hundreds of millions or even billions of dollars. Barclays is one of the so-called bulge bracket investment banks with over 1.7 trillion dollars in assets and has been consistently ranked as one of the most prestigious firms in the financial world.

They do everything from advising on mergers and acquisitions underwriting ipos and operating a global franchise of consumer and corporate banking services, but the focus of today's video will be their structured products division, specifically their exchange traded notes under the ipath brand name. Exchange traded notes are kind of similar to etfs, in that anyone can buy them on just about any stock brokerage. Over the years, barclays has built a successful business of etms which have billions of dollars under management. One of their most popular etns is the vxx which tracks the prices of short-term vix futures.

This product has become very popular among investors, who want to gain exposure to the vix, either for hedging purposes or as pure speculation. Barclays makes money by charging a 0.9 fee to holders of the etn. This is usually considered a very safe business. It doesn't matter whether the etn goes up or down in value either way barclays collects their fee, so you might be surprised to hear that they recently announced a 450 million pound or almost 600 million dollar loss from their etn division.

This loss is so catastrophic that they are forced to suspend their pre-planned share repurchase plan, as they have to instead divert cash to cover this loss. Surely this unexpected loss was a result of heightened market volatility, possibly from russia's invasion of ukraine or the fed hiking interest rates right as it turns out, it had nothing to do with market conditions. It was purely the result of gross incompetence on the part of the bank's employees in this video, we'll look at what the vxx is and how barclays manage to incur a 600 million dollar loss before we move on with the video, i want to thank the sponsor Of our video public.com public is an investing platform that helps you be a better investor. You can buy and sell stocks, funds and crypto and they offer zero commissions on standard equity trades.

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If you buy 100 worth of qqq, they use this money to buy shares of the underlying index, they'll buy about 10 worth of apple stock, 10 worth of microsoft, stock, etc. Importantly, the etf is 100 backed up assets. If qqq holds about 140 billion dollars of assets under management, it owns 140 billion dollars worth of nasdaq stocks. Even if invesco went bankrupt, the etf can be liquidated and if you owned any shares of qqq you'll be paid in full because it's backed by hard assets there's pretty much no default risk.

An etn functions very differently. The issuer, in this case barclays promises to pay. You cash at some future date. The cash payment is linearly related to the performance of some index.

Unlike an etf, an etn does not directly hold any assets, it's just a contract. For example. Let's say you want to make an etn tracking the s p 500 index. Instead of directly buying the 500 constituent companies, you promise to pay the holders a cash sum equal to a level of the index at the end of the year.

As long as everything is functioning properly, the etn and etf would be indistinguishable because they target the exact same market exposure from the issuer's perspective. The etf is an asset, while the etn is a liability in the case of vxx, it is an etn meant to track the performance of short-term, fixed futures. If you want to learn more about the technicalities of how vix futures work watch, this video link in the description below basically, barclays is promising to eventually pay holders of vxx a cash payment based on the value of an index of short-term vix futures. In normal times.

The etn will exactly track the value of the index. So barclays has this massive liability worth hundreds of millions of dollars related to the vxx etn. If the index goes up, the payment it has to make to the holders increases to hedge this risk they go into the futures market and buy vix features exactly equal to the value of their liability. If the futures increase in value their liability from the vxx etn increases, but their portfolio of fixed features increases by the exact same amount.

This way they have a net zero position so for all practical purposes. It's completely safe. However, let's say there's another financial crisis like 2008 and the bank is pushed to insolvency due to risk it took on from other parts of its business. If barclays were to go bankrupt, you could theoretically get a situation where they have to liquidate all their assets and they may not have enough money to make good on their obligation to vxx holders.

This goes back to the point of etns being liabilities, not assets because of this, the sec requires issuers like barclays to register beforehand. How many shares of the etn they plan to issue. This requirement to register with the sec is where the problem arises. Over the past couple years, the vxx etn has grown in popularity as more investors want to buy in barclays issues new shares, as the number of shares grows, they're supposed to increase their registration with the sec as it turns out, barclays did not increase their registration and The number of shares exceeded the allowed amount, there's no obvious reason that they didn't increase their registration.

The bank is well capitalized and the sec almost certainly would have approved the increase. It appears that their employees were probably just lazy and completely forgot to file the necessary paperwork. So what does that mean for the bank under u.s securities laws when they issue an etn without properly registering it? The buyer of the etn has a so-called right of rescission. This means that barclays is obligated to buy back the etn at their original price of issue.

The vxx has not been doing very well recently. The current market price is 25, it traded as high as 242 dollars at its 2020 peak. If new shares were issued at the peak, barclays has to now buy back. These shares for 242 dollars 10 times higher than the current value they estimate losses from these recisions will cost them 600 million dollars after taxes.

They can write this off as a tax loss. So the actual losses could be closer to 800 million. The worst part about this was it was completely avoidable. There wasn't anything wrong with the product itself.

It was purely the result of incompetence on the part of barclay's employees once they found out about the problem. They froze the issuance of new shares in an attempt to stop the bleeding. This has led to some very unusual trading dynamics under normal circumstances, barclays issues or buys back shares of the etn if it ever diverges from its fundamental value. Now they can't issue new shares.

So the prices decoupled from the fundamental value in this chart, the vxx, is the red line. The blue line is a vi xy, an etn offered by a different issuer that tracks the exact same index 99 of the time they trade exactly in line with each other. But after barclays halted, the issuance of new shares, the vxx started trading at a large premium to its fundamental value. People are probably buying shares of vxx in anticipation that barclays will have to buy back.

These shares at the original price, which in most cases, will be much higher than the current 25 price. However, i would caution anyone about the risks in buying vxx. We don't know exactly how barclays will go about repurchasing these shares and not all shares are eligible for repurchase and eventually they will get the paperwork sorted out and the vxx will decline to its fundamental value, which is about 20 below, where it's trading today, given the Uncertainties, it would be extremely risky to speculate on the vxx, either long or short, the 600 million loss that barclays expects to incur forced them to delay their previously announced share repurchase authorization. At the end of the day, this loss isn't catastrophic for the company six hundred million dollars is less than two percent of their market cap.

Nevertheless, their share price performance has lagged their peers losing about a quarter of its value since the beginning of the year. As warren buffett says, there's never just one cockroach in the kitchen when you start looking around the fact that barkley's made such a dumb error points to a culture of incompetence and poor internal controls. Throughout the bank's complex operations, there could easily be similar blunders waiting to be uncovered. Alright guys that wraps it up for this video.

What do you think about barclay's 600 million dollar mistake? Let us know in the comments section below, as always. Thank you so much for watching and we'll see you in the next one wall, street millennial, signing out.