PORSCHE CORNERED VOLKSWAGEN WITHOUT ACTUALLY BUYING THE WHOLE COMPANY
Porsche was much smaller than Volkswagen. Yet in 2008, it found a way to control an enormous economic position in VW without simply buying three-quarters of the company in the traditional way.
The trick involved something most ordinary investors rarely think about:
derivatives.
And the consequences were extraordinary.
Volkswagen briefly became the most valuable publicly traded company in the world.
PORSCHE WAS TRYING TO TAKE OVER A GIANT
In 2007, Porsche began building a much larger position in Volkswagen.
At first, the idea seemed almost absurd.
Porsche was a luxury sports-car manufacturer.
Volkswagen was a giant industrial group owning brands including:
Volkswagen
Audi
Škoda
SEAT
Bentley
Lamborghini
Yet Porsche wanted increasing control over VW.
By 2008, Porsche had already accumulated a significant direct stake.
But buying every Volkswagen share it wanted would have required an enormous amount of capital.
So Porsche used another financial tool.
THE SECRET WEAPON WAS AN OPTION
An option is a financial contract whose value is linked to an underlying asset.
Instead of simply buying a Volkswagen share today, an investor can enter into a contract giving them economic exposure to Volkswagen's share price.
Porsche used cash-settled options linked to Volkswagen ordinary shares.
This distinction is important.
Porsche did not initially own the Volkswagen shares represented by those options.
Instead, the options gave Porsche economic exposure to their price movements.
Porsche later explained that it held the options as hedging positions and that, when settled, Porsche would receive the difference between Volkswagen's market price and the option's strike price in cash.
THEN PORSCHE MADE A SHOCKING ANNOUNCEMENT
On October 26, 2008, Porsche revealed that it owned:
42.6% of Volkswagen's ordinary shares
and also held cash-settled options representing another:
31.5%
That gave Porsche economic exposure equivalent to:
74.1%
of Volkswagen's ordinary shares.
Porsche said its goal was eventually to reach 75%, which would open the way toward a domination agreement under German corporate law.
But here's the fascinating part:
Porsche had not simply purchased 74.1% of Volkswagen's shares.
A large part of that economic position came through derivatives.
THEN EVERYONE LOOKED AT THE OTHER 25%
There was another huge shareholder:
The German state of Lower Saxony.
It held roughly 20% of Volkswagen's ordinary shares.
So the rough picture suddenly looked like this:
Porsche — 42.6% directly
Porsche's options — 31.5% economically
Lower Saxony — ~20%
That left only a tiny portion of Volkswagen shares genuinely available for trading.
Contemporary reporting estimated the free float at around 5.7%.
And this is where Porsche's derivatives strategy collided with another group of investors.
THE SHORT SELLERS
Many hedge funds had bet that Volkswagen's share price would fall.
The reasoning seemed logical.
It was October 2008.
The global financial crisis was raging.
Automakers around the world were suffering.
Investors expected car sales and profits to deteriorate.
So some traders shorted Volkswagen.
The basic strategy was:
Borrow shares → sell them → wait for the price to fall → buy them back cheaper.
But there was a problem.
The traders had assumed there would be enough Volkswagen shares available to buy later.
Porsche's announcement suddenly made that assumption look very dangerous.
THERE WERE MORE SHORT POSITIONS THAN PEOPLE REALIZED
Porsche itself said it made the October 26 disclosure after it became clear that there were far more short positions in Volkswagen than it had expected.
The company said it wanted to give short sellers an opportunity to settle their positions without rushing.
But the disclosure had almost the opposite effect.
Short sellers now desperately needed shares.
And the market discovered that there weren't many freely tradable shares left.
THIS CREATED A SHORT SQUEEZE
Imagine a market with:
100 shares
Porsche controls 74.
Lower Saxony controls 20.
Only about:
6 shares
are freely available.
Now imagine investors have short positions that require them to eventually buy shares.
Suddenly, those six shares become extremely valuable.
If several short sellers need to buy them at the same time, they have to compete.
The price rises.
Then other short sellers see the price rising and realize their losses are getting worse.
They also buy.
Which pushes the price even higher.
So:
Price rises
↓
Short sellers panic
↓
They buy shares
↓
Demand increases
↓
Price rises further
↓
More short sellers buy
↓
Price rises again
This is a short squeeze.
VOLKSWAGEN'S SHARE PRICE WENT CRAZY
On October 27, Volkswagen shares ended the day at around:
€520
That was a 147% increase in one day.
The following day was even more extraordinary.
Volkswagen shares briefly reached:
€1,005
The stock had been trading around €200 just days earlier.
At the peak, Volkswagen's market capitalization approached €300 billion, briefly making it the world's most valuable publicly traded company.
And remember:
Volkswagen hadn't suddenly become a €300 billion better business.
The market had become trapped by an extreme shortage of tradable shares.
PORSCHE HAD CREATED ECONOMIC CONTROL WITHOUT BUYING EVERYTHING
This is the part that makes the story so unusual.
Porsche had:
Direct ownership
plus
Derivative exposure
plus
A relatively small free float
and Volkswagen had:
A huge number of short positions
The combination produced an extraordinary market situation.
Porsche didn't need to immediately purchase every Volkswagen share to have enormous economic influence over the stock.
The derivatives allowed Porsche to obtain exposure first.
WHY DIDN'T PORSCHE JUST BUY ALL THE SHARES?
Because buying shares directly costs enormous amounts of money.
Derivatives can provide economic exposure with a different capital structure.
Instead of:
Pay €X → receive shares
Porsche could enter contracts linked to the shares.
This allowed it to build a very large economic position while using financial instruments rather than simply purchasing every underlying share immediately.
The strategy was enormously sophisticated — and controversial.
German regulators examined the extraordinary trading activity, while Porsche denied allegations of market manipulation and insider trading.
THE MARKET VALUE THEN COLLAPSED
A price that rises because buyers are desperate for scarce shares can also fall extremely quickly once that pressure disappears.
After Volkswagen reached its extraordinary peak, Porsche made up to 5% of Volkswagen's stock available to increase liquidity and help short sellers close their positions.
The response was immediate.
Volkswagen shares fell almost 37% in early trading that day, from around €945 to roughly €596.
The market capitalization fell from roughly €296 billion at the peak to around €178 billion.
Nothing remotely comparable to €118 billion of physical assets had disappeared overnight.
The share price had simply stopped being pushed upward by the same extreme shortage.
PORSCHE DIDN'T END UP GETTING THE SIMPLE TAKEOVER IT EXPECTED
There is another twist.
Porsche had aimed to increase its Volkswagen stake to around 75%.
But the financial crisis made the strategy much more difficult.
Porsche had accumulated substantial financing obligations associated with its Volkswagen strategy.
Eventually, its attempt to absorb Volkswagen unraveled.
In 2009, Volkswagen instead moved toward taking over Porsche's automotive business.
The irony was extraordinary:
Porsche had tried to take control of Volkswagen.
But eventually:
Volkswagen ended up taking control of Porsche's operating business.
THE REALLY IMPORTANT FINANCIAL LESSON
The story isn't simply:
"Porsche bought Volkswagen."
It demonstrates something much more subtle.
There is a difference between:
Owning shares
and
having economic exposure to shares.
There is also a difference between:
Market capitalization
and
the amount of money that would actually be required to buy every share.
And finally, there is a difference between:
A company's fundamental value
and
the price temporarily produced by an extreme shortage of tradable stock.
ONE COMPANY, THREE DIFFERENT NUMBERS
At the height of the squeeze, you could look at Volkswagen and see:
42.6%
Porsche's direct ordinary-share ownership.
31.5%
Porsche's additional cash-settled option exposure.
~5.7%
The approximate free float remaining after Porsche's position and Lower Saxony's stake.
Those three numbers explain much of the madness.
Porsche didn't need to own every Volkswagen share.
It needed to control enough of the economic exposure while leaving the market with very few shares available for everyone else.
MAACAT PERSPECTIVE
The Volkswagen episode is one of the clearest examples of how financial engineering can change the behavior of an entire stock market.
Porsche wasn't simply saying:
"We want to buy Volkswagen."
It was building exposure through:
Shares + options + control of a shrinking pool of tradable stock.
Then the short sellers discovered that the shares they needed were extremely difficult to find.
The result?
A car company briefly became the world's most valuable publicly traded company during the middle of the 2008 financial crisis.
Not because Volkswagen suddenly became the world's most profitable business.
But because:
too many people needed to buy something that too few people could sell.
