Ackman 2020 Hedge: The $27M Bet That Made $2.6B

Key Takeaways

• Pershing Square bought index credit-default-swap protection in February 2020 before the COVID crash.
• The hedge cost a small premium and was sold for roughly $2.6 billion.
• Ackman reinvested about $2.5 billion of the proceeds into equities near the market bottom.
• A March 18 CNBC appearance drew criticism while he was hedged and buying.

Background

In early 2020, Pershing Square Capital Management ran a concentrated, long-term equity portfolio across a handful of large U.S. companies. Bill Ackman, the firm's founder, describes its job as preserving capital and protecting investors from losses, not just chasing upside. Going into the year, the funds were heavily invested in businesses Ackman intended to hold for years.

As the coronavirus spread out of China, Ackman grew alarmed about both the health threat and the likely economic damage. In his own account, he faced a choice: sell the portfolio outright, or hedge it. He chose to hedge, because he believed his companies would eventually recover even if a shutdown crushed their share prices in the short run.

The tool he reached for was the credit-default swap, or CDS. A CDS works like insurance on debt. The buyer pays a fixed spread each quarter, and if credit conditions deteriorate the contract gains value. You can buy protection on a broad index rather than a single bond, which lets one trade express a view on a whole slice of the credit market.

The setup that made the trade attractive was price. When Pershing Square bought, the investment-grade indices were trading near all-time tight levels, about 50 basis points a year. With spreads that compressed, the cost of protection was unusually cheap, and the room for spreads to widen was unusually large. That is the asymmetry the firm was hunting.

What Happened

The hedge was put on in February 2020, before the worst of the sell-off, and was unwound over roughly two weeks in March as credit spreads exploded and equity markets cratered. Ackman then turned around and put the cash to work in stocks. The acute phase ran like this, drawing on Pershing Square's own disclosures.

• February 2020: Pershing Square buys CDS protection on the CDX IG, CDX HY, and iTraxx Europe (ITRX EUR) credit indices. Investment-grade spreads sit near all-time tights of about 50 basis points.
• March 3, 2020: Pershing Square Holdings discloses it has acquired "large notional hedges" with "asymmetric payoff characteristics," where the loss is limited and the upside is "many multiples of our capital at risk."
• March 9, 2020: A second disclosure reports the hedges had risen from zero to about $1.8 billion in market value as spreads widened.
• March 12, 2020: The CDS position is worth about $2.75 billion. Ackman begins selling, judging the risk-reward less compelling at 140 basis points than it had been at 50, with the position nearing 40 percent of the portfolio.
• March 18, 2020: By 12:30 p.m., when Ackman appears on CNBC, the firm has sold slightly more than half the notional, realizing over $1.3 billion, with the rest marked at $1.3 billion, for $2.6 billion total. He says on air he has been "aggressively buying stocks."
• March 23, 2020: Pershing Square completes its exit on the morning the Federal Reserve announces open-ended asset purchases. Markets bottom that day. The firm reinvests proceeds into equities.

By the time the dust settled, Pershing Square had generated about $2.6 billion of proceeds from a position that had cost very little to carry. The firm's own letter states the realized proceeds of $2.6 billion equaled the total realized and unrealized profit it had already achieved before the CNBC appearance, and that the hedge did not increase in value during or after the interview.

The reinvestment is the second half of the story. Ackman wrote that the firm was "in the process of investing about $2.5 billion in equities" as he spoke publicly, buying into companies it already knew. Pershing Square Holdings' 2020 Annual Report names the targets: it added to Agilent, Hilton, Lowe's, and Restaurant Brands, and re-established a core position in Starbucks. The index CDS hedge ended up the single largest contributor to the year, adding 36.6 percent to performance.

Why It Happened

The trade worked because of the same asymmetry that defines most good tail hedges. With investment-grade spreads near 50 basis points, the annual premium on the protection was tiny relative to the notional covered. If spreads stayed flat or tightened, Pershing Square would lose only the premium. If spreads widened sharply, the contracts could be worth many multiples of that cost. Ackman wrote that the firm was "confident that U.S. and European credit spreads would likely widen substantially from their near-all-time lows."

The macro view supplied the catalyst. Ackman reasoned that stopping the virus in Europe and the United States would require an unprecedented economic shutdown, based on what he had seen in China. A shutdown would hurt his portfolio companies and push their stocks down, but it would also widen credit spreads, which is exactly what makes CDS protection gain value. The hedge was built to pay off in the same scenario that would hurt the equity book, so the two would offset.

There was also a high-yield wrinkle worth understanding. The CDX HY index was near its lowest spread ever, but several names inside it were already close to default, trading at thousands of basis points. Strip those out, and the spreads on the healthier members were well below the 2006 to 2007 lows. That meant the average index spread understated how cheap protection on the sound credits really was, which sharpened the asymmetry.

Position sizing and discipline closed the loop. As spreads jumped, the CDS grew to roughly 40 percent of the portfolio, a concentration few managers would want to hold. Ackman sold into the move rather than waiting for a financial-crisis-level blowout, judging that at 130 to 150 basis points the remaining upside no longer justified the opportunity cost of not owning beaten-down stocks. A hedge is only as good as the decision to take it off.

By the Numbers

• Premium and commissions: about $27 million, the cost of the protection, as reported in coverage of Pershing Square's disclosures. (StreetFins; Navnoor Bawa analysis)
• Notional protected: widely reported around $71 billion to $74 billion of credit exposure; Pershing Square itself described only a "very large notional amount." (Navnoor Bawa analysis; StreetFins)
• Indices used: CDX IG (U.S. investment grade), CDX HY (U.S. high yield), and iTraxx Europe (European investment grade). (Pershing Square letter, March 26, 2020)
• Entry spread: investment-grade indices near 50 basis points, close to all-time tights. (Pershing Square letter, March 26, 2020)
• Value on March 9: about $1.8 billion, up from zero. (Pershing Square letter, March 26, 2020)
• Peak value, March 12: about $2.75 billion, when selling began. (Pershing Square letter, March 26, 2020)
• Realized proceeds: about $2.6 billion, a return of roughly 100 times the premium. (Pershing Square letter, March 26, 2020; StreetFins)
• Reinvested in equities: about $2.5 billion, near the March 23 bottom. (Pershing Square letter, March 26, 2020)
• CDS contribution to 2020: plus 36.6 percent, the largest single contributor. (Pershing Square Holdings 2020 Annual Report)
• Pershing Square Holdings 2020 NAV return: 70.2 percent, against the S&P 500's 18.4 percent. (Pershing Square Holdings 2020 Annual Report)

Aftermath

Ackman's CNBC appearance on March 18 became as famous as the trade itself. Appearing emotional and warning that "hell is coming" if the country did not lock down, he pressed for a 30-day shutdown to contain the virus. After the market fell further that afternoon, some commentators argued he had talked the market down to profit on hedges. No regulator brought a case, and Ackman was not charged with any wrongdoing.

Pershing Square's response was to publish a detailed investor letter on March 26 laying out the timeline. Ackman wrote that the firm had already sold more than half the hedge before he went on air, that the position "did not increase in value during or after I went on CNBC," and that he had told viewers he was "aggressively buying stocks, including Hilton." He called the idea that his appearance pushed the market down an additional 4 percent "absurd," and separately said, "I really blame CNBC" for replaying the most dramatic seconds of a 20-minute interview.

On the timing, the firm's account is precise. Ackman said that by 12:30 p.m. on March 18 the funds had realized more than $1.3 billion and held another $1.3 billion in unrealized gains, for $2.6 billion. He framed his public bullishness as consistent with the firm's trades, since it was buying equities and reducing its credit short at the same time. The hedge was fully unwound by the morning of March 23.

The financial outcome cemented the trade's reputation. Pershing Square Holdings finished 2020 with a 70.2 percent NAV return, far ahead of the S&P 500's 18.4 percent, with the index CDS the biggest driver. The episode is now cited alongside other celebrated CDS bets as a model of a cheap, asymmetric hedge that paid off when a rare event arrived. Ackman remains an active manager and a vocal public figure.

Lessons for Investors

1. A hedge is cheapest when no one wants it. Pershing Square bought protection when investment-grade spreads were near 50 basis points and almost everyone assumed calm would continue. The lower the implied probability of trouble, the cheaper insurance against it tends to be. Shopping for protection during quiet markets, not panicked ones, is what made the cost trivial relative to the payoff.

2. Define your downside before you size the bet. The most you could lose on the CDS was the premium, a known number set in advance. That capped, asymmetric profile is what let the firm carry the position without fear of a margin spiral. When the worst case is small and fixed, you can hold a contrarian view without it threatening the whole portfolio.

3. Pair the hedge with the risk it offsets. Ackman expected a shutdown to hurt his stocks and widen credit spreads at the same time, so the CDS was designed to gain in the exact scenario that would hurt his equity book. A hedge that moves opposite your main exposure smooths the path. A hedge bought just because it looks cheap, with no link to your risk, is closer to a speculation.

4. Know when to take the hedge off. The trade only became legendary because Pershing Square sold, starting at $2.75 billion of value and finishing by March 23. Holding for a financial-crisis-level blowout might have made more, or given a lot back. Setting a rule for monetizing protection, here the changed risk-reward at wider spreads, matters as much as putting it on.

5. The hedge can fund the offense. The point of the cash was not to sit safe. Ackman put about $2.5 billion back into equities near the bottom, turning a defensive position into dry powder for buying when others were forced to sell. A well-timed hedge does double duty: it protects on the way down and gives you capital to deploy when assets are cheapest.

Frequently Asked Questions

What was the Ackman 2020 hedge in simple terms? The Ackman 2020 hedge was Pershing Square's purchase of credit-default-swap protection on corporate credit indices in February 2020. As COVID hit markets and spreads widened, the firm sold it for roughly $2.6 billion.

Why did the hedge make so much money? Pershing Square bought protection when credit spreads were near record lows, so it cost very little. When the pandemic forced shutdowns, spreads widened sharply, which is exactly what makes credit-default-swap protection rise in value, multiplying a small premium into billions.

How much did Ackman make on the trade? Pershing Square realized about $2.6 billion of proceeds from a position that reportedly cost around $27 million in premiums and commissions, a return of roughly 100 times. The firm then reinvested about $2.5 billion of that into stocks.

Was the 2020 hedge legal, given the CNBC controversy? Yes. No regulator charged Ackman with wrongdoing. Pershing Square disclosed that it had already sold more than half the hedge before the March 18 CNBC interview and was buying stocks at the same time, and that the hedge did not gain value during or after the appearance.

What is the main lesson from the Ackman 2020 hedge? The core lesson is that a cheap, asymmetric hedge bought before a crisis can both protect a portfolio and fund opportunistic buying afterward. Defining a small, fixed downside let the firm hold the position and then deploy the proceeds near the bottom.

Sources

1. Pershing Square Capital Management, L.P. Letter to Investors, signed William A. Ackman. March 26, 2020. https://assets.pershingsquareholdings.com/2020/03/26222617/Pershing-Square-Capital-Management-L.P.-Releases-Letter-to-Investors-March-26-2020.pdf
2. Pershing Square Holdings, Ltd. 2020 Annual Report. March 29, 2021. https://assets.pershingsquareholdings.com/2021/03/29100010/Pershing-Square-Holdings-Ltd.-2020-Annual-Report.pdf
3. Board of Governors of the Federal Reserve System. FOMC statement and open-ended asset purchases. March 23, 2020. https://www.federalreserve.gov/newsevents/pressreleases/monetary20200323a.htm
4. Fox Business. Bill Ackman: 'I really blame CNBC' for 'Hell is coming' controversy. https://www.foxbusiness.com/economy/bill-ackman-i-really-blame-cnbc-for-hell-is-coming-controversy
5. StreetFins. Analyzing Bill Ackman's $2.6 Billion CDS Trade. https://streetfins.com/analyzing-bill-ackmans-2-6-billion-cds-trade/
6. Navnoor Bawa. The $27 Million Bet That Returned $2.6 Billion (analysis). https://navnoorbawa.substack.com/p/the-27-million-bet-that-returned

Disclaimer

This article is educational content only and is not financial advice. Nothing here is a recommendation to buy, sell, or hold any security. Consult a licensed advisor before making investment decisions.