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Trader blamed for lost billions

A French banking giant says a junior staffer's illicit investments cost it $7.2 billion.

January 25, 2008|Michael A. Hiltzik and Geraldine Baum | Times Staff Writers

PARIS — In what would be the largest fraud of its kind by a rogue trader, a junior employee at French banking giant Societe Generale cost the company $7.2 billion by making disastrous bets on European stock prices through a series of unauthorized and wildly outsized transactions, the bank said Thursday.

The alleged fraud by 31-year-old Jerome Kerviel staggered Societe Generale, France's second-largest bank. Its disclosure delivered a new blow to a European banking industry already reeling from losses on American sub-prime mortgage securities -- including a $3-billion write-down announced Thursday by Societe Generale itself.

"With everybody already quite scared about financial stocks, this creates even more of a threat to this sector," said Olivier de la Ferriere, a financial analyst at Richelieu Finance in Paris. "There is a real confidence crisis anyway [and] this does not help."

It also raised the possibility that the bank, in its haste to close out Kerviel's bad bets, may have exacerbated the European stock plunge earlier this week. That decline, in turn, was partly responsible for the U.S. Federal Reserve's extraordinary three-quarter-point interest rate cut Tuesday.

Societe Generale's chairman, Daniel Bouton, said in a letter to shareholders that immediately after discovering the scale of the alleged fraud Saturday, he decided to liquidate Kerviel's futures positions "in all urgency to avoid even worse consequences, given [their] size." Futures contracts allow traders to bet on the value of securities at a later date.

Bank officials said during a conference call Thursday in Paris that they had unwound all the transactions from Monday to Wednesday before publicly disclosing the alleged fraud. They added that the bank suffered an "enormous loss" because of unfavorable market conditions but that there was no evidence Kerviel personally profited from the scheme.

The timing and nature of Societe Generale's sales were unclear, however, as was their effect on European exchanges. Those markets plummeted more than 5% on Monday on the heels of a steep sell-off in Asian markets.

The Fed announced its rate cut early the next morning. A Fed official said the central bank was unaware of the Societe Generale situation when it took action, according to the Reuters news agency. The Fed maintained Tuesday that it dropped rates in response to "a weakening of the economic outlook" and deteriorating conditions in the financial markets.

Societe Generale's loss swamps the previous high water mark for activity by a rogue trader set by Nicholas Leeson, who lost $1.38 billion in Asian futures and other derivatives at Barings Bank in 1995. The damage bankrupted the 233-year-old British bank, which was subsequently taken over by Dutch financial firm ING.

Bank officials and securities analysts said it was unlikely that the new scandal would have the same effect on Societe General, which was founded in 1864 and has 120,000 employees in 77 countries.

It owns, among other properties, Los Angeles-based TCW Group, the parent of Trust Co. of the West, which manages $153 billion for clients. A TCW spokesman said the firm was "in no way directly or indirectly related to any of the losses announced today by Societe Generale."

"This is a very big bank," said Ruth Lea, economic advisor and director at Arbuthnot Banking Group in London. "It's not as if it's unenviable. I'd be very surprised if it didn't see its way through this."

Kerviel -- whom Societe Generale executives did not name but who was identified in news reports from Europe -- began working at the bank's back office in 2000, assigned to help create the internal programs that placed transaction limits on individual traders.

In 2005 he was moved to a trading desk, where bank officials said he was given only limited authority to hedge the bank's trading positions in European stocks with stock index futures. This involves making countervailing bets on stocks' future performance as an insurance policy against adverse moves in the bank's portfolio.

His salary was pegged at 100,000 euros, or about $148,000 a year, including bonus; the bank said his trades were expected to generate a modest $20 million in revenue a year.

Instead, Bouton and other bank executives said during their conference call, Kerviel regularly exceeded his trading limits without detection, starting as early as 2006.

Using the knowledge he had gained in the back office, Kerviel concealed his actions by fabricating balancing trades, using "extremely sophisticated and varied techniques," Bouton said in his letter to shareholders.

At least for a portion of 2007 his trading was profitable. Just before the start of the new year, however, he undertook a huge bet that European stock markets would rise in January.

Instead, they fell sharply, losing nearly 10% through last Friday. The following day, Societe Generale officials confronted Kerviel with evidence of his unauthorized trading.

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