Here's the criminal case against him, and the Securities and Exchange Commission press release and order. I have to say, it sure sounds like Canarsie's risk management was terrible. And prosecutors and the SEC make out a fair enough case for fraud, in that Li submitted fictitious trades to his prime broker to get more margin, and lied to investors about his performance in some months. But that stuff doesn't seem closely related to the actual blow-up, which was achieved in the time-honored way of putting all the money into risky options and hoping for the best:
Beginning on or around December 31, 2014 and continuing through January 15, 2015, Li used cash in the account and proceeds from stock sales to buy long positions in market index options. Virtually all of these purchases were in long call options with an expiration date of January 17—in other words, short-dated long options. At the same time, Li took down and eventually eliminated all short positions in the account. The result was an entirely long portfolio with no hedge.
On January 16, the market for index options moved against Canarsie’s positions, resulting in losses of approximately $39 million (approximately $28 million in expired premium and approximately $10.5 million in trading losses), leaving the Master Fund with no equity, short or options positions, and only $211,685 in cash (plus approximately $289,568 in its bank account). As a result of Li’s risky trading, Li caused the Master Fund to incur approximately $56.5 million in losses between December 31, 2014 and January 16, 2015, substantially depleting all of the Master Fund’s assets.
I often tell you that, if you have material nonpublic information about a merger, you shouldn't use it to go buy short-dated out-of-the-money call options on the target. But buying short-dated call options with all of your investors' money with no information, as a pure gamble for redemption, doesn't seem great either.
In other words, don't invest 100% of your total net worth in a short dated out of the money call option that expires next week. You just might go broke.
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