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Kerviel鈥檚 bank-busting bets

• Robert Peston
• 30 Jan 08, 04:50 PM

I have discovered more about the extraordinary risks being run by Jerome Kerviel, the rogue trader at whose transactions cost the bank 鈧�4.9bn.

According to official investigators, in the last few weeks his bets on stock markets were so big that every 1 per cent swing in the value of European shares resulted in either a profit or a loss for the bank of 鈧�500m (拢370m) depending on whether the swing was positive or negative.

In other words, his bet was big enough to bankrupt SocGen on the basis of any sustained fall in stock markets.

What鈥檚 more, bankers have confirmed that at the end of last year, Jerome Kerviel had generated a colossal hidden profit for the bank of 鈧�1.4bn.

Among the great mysteries of the Kerviel affair is how the French bank could have failed to notice a profit of that size.

That 鈧�1.4bn profit had become a loss of 鈧�4.9bn by January 23, when M. Kerviel鈥檚 position had been unwound.

Or to put it another way, the deficit on Kerviel鈥檚 bet in the opening weeks of this year was 鈧�6.3bn, or 拢4.6bn.

Bankers have also disclosed that in 2006 Kerviel鈥檚 open positions in stock-market index futures 鈥� largely bets on the direction of the DAX, FTSE and Eurostoxx indexes 鈥� reached a colossal nominal amount of 鈧�30bn.

This was closed out at the end of 2007. But Kerviel then went on a gambling spree and increased his position to a mind-boggling 鈧�50bn earlier in January.

According to a banker close to the investigation, Kerviel鈥檚 first fraudulent positions were taken out in January of last year 鈥� although he apparently took steps to conceal a small loss at the end of 2006.

What is also shocking is that as long ago as March and April of last year, Societe Generale鈥檚 back office, or administrative operation, queried phoney transactions being carried out by Kerviel to disguise his massive stock-market bets.

At the time he was covering up his massive speculative activity by pretending to enter into 鈥減ending鈥� futures transactions, whose economic effect would have been to negate the real trades.

These pending futures deals were identified by SocGen鈥檚 back office 10 months ago, but Kerviel鈥檚 explanations of them were regarded at the time as plausible.

The use of the 鈥減ending鈥� futures transactions was one of five different methods employed by Kerviel to hide the extent of his real trading.

The other techniques for creating phoney trades included entering transaction dates for deals that fell after the normal settlement cycle, doing forward deals with other parts of SocGen, and creating fictitious issues of warrants.

Bankers say that he must have been frenetically busy covering his tracks by concocting these illusory transactions.

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Banks v Treasury

• Robert Peston
• 30 Jan 08, 09:02 AM

There will be a lot of harrumphing in the board rooms of the big banks this morning.

They won鈥檛 like the Treasury鈥檚 nod in favour of pre-funding a new scheme for insuring their retail customers鈥� deposits.

It would mean that the banks would have to transfer billions of pounds into a rainy-day pot.

And the money would simply sit there, unless and until a bank collapsed and depositors had to be recompensed.

The argument for such an arrangement is a good one, which is that in these anxious times it鈥檚 important to have a tangible manifestation that depositors鈥� funds are being protected.

That鈥檚 what the said in a published over the weekend.

But the volatile conditions in financial markets that have created anxiety about the robustness of banks are what make the reform proposal difficult for banks: right now they are chronically strapped for cash.

The big banks fear that if they were to inject hundreds of millions of pounds each into the new insurance fund, they would have less capital available to lend to all of us 鈥� and that would exacerbate an economic slowdown that鈥檚 already underway.

The Treasury is promising to consult on this idea.

Of all its myriad proposals to shore up the financial regulatory system in the wake of the debacle at Northern Rock, this is the one that will precipitate an unseemly fracas.

By contrast, there will probably be a broad welcome for measures to help the mount covert rescue ops for troubled banks.

It wants to legislate to over-ride provisions in law and in stock exchange listing rules that force a troubled bank to make a public statement that it is being propped up by the Bank of England.

The Treasury would also end the requirement for the Bank of England to publish a weekly balance sheet, which is what helps nosey parkers like me identify how much support is being provided to a frail deposit-taker.

And protection would be given to Bank of England directors against the risk of being sued by the shareholders in an enfeebled bank 鈥� who might legitimately feel that if the Bank of England knows their business is in trouble, so should they.

There is only one flaw in the Treasury鈥檚 cunning plan.

What is proposed would not have done much to prevent the panic at the Rock that was caused by the disclosure that it had gone cap in hand to the Bank of England.

The Treasury feels that an emergency loan from the Bank of England should only be kept secret where that loan is temporary and limited in nature.

But the Treasury, the and the Bank of England have concluded that the Rock was suffering from a serious structural flaw in its business model.

And they believe that the Rock would have required so much taxpayer support for so long that it would have been inappropriate, naive and impractical to endeavour to keep it on a life-support machine in a wholly clandestine way.

Whether they are right or not excites great passions. Some Rock shareholders profoundly disagree with them.

There is also the point that I disclosed the news of the Rock having gone to the Bank for a rescue loan some 12 hours before the authorities were planning to make their official announcement.

Or to put it another way, there is no way any new law can prevent journalists or City analysts excavating the truth about evasive action being taken by the Bank of England.

So it鈥檚 the other parts of today鈥檚 reform package which are more relevant to preventing a repetition of a Rock-style disaster.

They include measures to give the authorities more powers to intervene at a bank that鈥檚 being managed in an unduly risky way, and 鈥� as a last resort 鈥� to seize control of that bank and manage it with the twin aims of protecting retail depositors and taxpayers.

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