Chapter 258: Risk Hedging

"No, I did trade futures! Got a cigarette? Give me one!"

Julian suddenly leaned back in his seat, his previously conflicted expression giving way to a look of calm.

"Why are you telling me this now?"

Julian's confirmation that he had indeed purchased silver futures hit Carter like a bolt of lightning. Carter didn't know what to feel at that moment.

There was confusion over Julian's sudden confession, a sense of betrayal and heartbreak from broken trust, and regret over his own naivety at the time.

The overwhelming mix of emotions left Carter at a loss for words. The only thing he was certain of was that his hands trembled slightly as he handed Julian a cigarette.

"Paper can't cover fire forever! Facts won't disappear just because I avoid talking about them. Maybe you'd never think of this issue, but what if one day, you did?!"

The cigarette's flame glowed brightly for a moment before fading as Julian exhaled a plume of smoke.

"This has been like a thorn in my side. I planned to come clean next year, after you graduated high school and after Tiger Fund's first-year returns came in. But then, you brought up the duality of human nature."

"I felt that if I didn't clear this up, I'd have no face to answer your question."

Lighting a cigarette for himself, Carter gazed out the window, remaining silent and listening to Julian's explanation.

"You know me, right? I'm getting older, and I have family responsibilities. Since I started as a stockbroker at Kidder Peabody, I've always been a penny-pincher, focusing on low-priced stocks because of my cautious nature. Asking me to trade futures? That terrified me!"

"If futures made money, that would be thrilling. But if they lost money... What about my family? My kids?! Not just me, you couldn't bear the risk of losses back then either."

"But you still traded futures, didn't you?"

Julian's words brought back memories of their first meeting, when Julian had said, "My previous investment strategy was a bit, well, stingy? I especially liked low-priced stocks, though the profit cycles were slower."

At that time, Julian's slightly embarrassed expression and reaction seemed so genuine. In fact, his honesty was part of why Carter had chosen him.

But that didn't justify taking his money!

"Yes, I did trade futures. But I didn't buy a lot of contracts. I spent $340,000 on futures contracts but used over $1.6 million to hedge the risk."

"I used this money as a base, mortgaged my house, even some of my clients' stock securities, and borrowed about $6.5 million from friends and family, totaling over $8 million. With this as collateral, I borrowed a large amount of physical silver to hedge against the risk of silver futures falling. You saw the outcome; I lost heavily on the physical silver!"

Risk hedging?

Carter didn't fully grasp Julian's explanation about hedging between physical silver and futures, but sensing Carter's confusion, Julian continued to explain:

"Borrowing physical silver to short sell captures gains from price drops, while buying futures captures gains from price increases. By making opposite trades on related assets simultaneously, you hedge against one-sided risk."

"When I bought $340,000 worth of silver futures, I simultaneously shorted $8 million worth of physical silver. So, I bought 170,000 ounces of silver futures with $340,000, and sold 727,000 ounces of physical silver."

"When silver prices rose to $23 an ounce, I could have made around $20 million on futures. But I lost on the physical silver, having to buy over 740,000 ounces at $23, $24, even up to $29 an ounce to close my short positions. Closing those cost me over $18.8 million, so the actual profit was only about $1.1 million."

"Wait, you bought $340,000 in silver futures and shorted $8 million in physical silver to hedge? Isn't that a bit much?"

Julian's logic wasn't hard to follow, but Carter instinctively felt the numbers seemed off. It was like betting on both odd and even in dice—no matter the outcome, you win on one side and lose on the other. As long as the difference is positive, you profit.

This strategy wasn't difficult to understand, but without paper and pen to calculate, Carter's gut told him the disparity seemed too large.

"To someone like me back then, it was a huge gamble! If I could have, I'd have borrowed even more."

Julian chuckled, noticing Carter's increased engagement, indicating he was listening. Whether Carter could accept or forgive was uncertain, but at least communication was smoother.

"Carter, you have to understand that for a short seller, the profit margin is limited while the potential loss is infinite! For instance, if I shorted silver at $11 per ounce, the maximum profit is $11 per ounce. But futures? With a margin of $1,000 per contract, $340,000 buys 340 contracts, equivalent to 1.7 million ounces. If prices fell, losses could reach $18 million, and even with gains from short selling, the gap could be $11 million!"

"So for me back then, hedging $8 million in physical silver against $340,000 in futures was already risky. Of course, my execution had flaws; timing the closures better would have netted more profit."

"Anyway, that's how it was. Frankly, I didn't think it was necessary to tell you back then, as you were just one of many clients, albeit a valuable one. But fundamentally, it made no difference."

Carter fell silent. Indeed, his relationship with Julian wasn't as close back then. Deliberately skimming off him wouldn't have been surprising.

As for his subjective feelings of outrage and disappointment, those were his alone. What did they matter to Julian or the Wall Street environment?

On Wall Street, exploitation is the norm.

"And then?"