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Global financial crunch raises fraud risks

By Neil Behrmann

 

London:- Societe Generale €4.9 billion ($7.2 bn) rogue trade loss is a wake up call for global banks and trading firms.

The US and European credit crunch and world-wide market turmoil will increase the risks of financial crime, including market abuse and fraud, according to the UK Financial Services Authority Risk Outlook 2008. The conclusions of the report are fascinating as the report was eerily compiled prior to the discovery of Jerome Kerviel’s dealings. The FSA warns that there is a risk that resources may be diverted away from tackling financial crime because of cost cutting measures in difficult times.

The Socgen rogue trade, illustrates how swiftly losses can mount when there is inadequate internal surveillance. Kerviel who specialized in European stock market index futures was supposed to arbitrage price differences between the various index derivatives. But French prosecutors disclosed that he confessed that he began placing directional bets on stock index derivatives as far back in November 2005. To hide his strategy, he created a set of parallel fake bets in the other direction to give his supervisor the illusion that his books were correctly balanced. By the time he was caught he had built up massive €50 billion ($73 bn) bull positions in Euro Stoxx 50, CAC, DAX and FTSE 100 futures, disclosed Socgen. Traders in the market, however, contend that the positions could have exceeded €100 billion ($145 bn) at times as only a fraction of the total value of contracts need be deposited as margin.

Over time, Kerviel made bigger and bigger bets, in the hope that he would achieve high bonuses.

“The size of bonuses can be a powerful incentive for staff to focus on the quantity of business that they may undertake during a year, and pay less attention to its quality,” notes the FSA in its report. “There is a concern that in some cases remuneration policies can work against the systems and controls that have been put in place in order to control risk.”

Société Générale was aware of Jérôme Kerviel’s trading actions, claim transcripts of his conversation with prosecutors released on the website of Le Monde, the French daily. “I cannot believe that my superiors did not know about the amounts I was taking on,” he is reported to have told investigators.

“It is impossible to generate that much profit with small positions, which leads me to say that so long as I was in profit, the superiors closed their eyes to the way I did it and the amounts I took on.

The board of Socgen is expected to call in independent auditors to examine the events leading up the €4.9 billion loss and scandal. According to sources and analysts, Jean-Pierre Mustier, head of corporate and investment banking is to be question about the November 2007 enquiries of Eurex, Europe’s derivatives exchange in November 2007. There is speculation that he will have to resign. The exchange had alerted the bank that there had been an extraordinary increase in the volume of trading. The market believes that SocGen is now a bid target.

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