Nick Leeson at Barings Bank in

SingaporeSo famous that he became

a movie:”Rogue Trader” (1999)

Bo SjöVT 2014

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Barings Bank

• 1992, Nicholas Leeson, clerk, moved from London to Barings Futures Singapore (BFS).

• To head the Singapore International Monetary Exchange (SIMEX)

• Trade in options and futures on NIKKEI-225, mainly 10 year Jap. Gov. Bond, 3-mths euroyen.

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Leeson’s Job

• In 1992, took SIMEX exam. • Became a floor trader in Singapore.• And, the General manager and the Head

trader for BFS.• But, Trading and Back office are

normally split in two units to keep separate records.

• N.L.’s task was to look for arbitrage between Osaka and Singapore Exchanges. NIKKEI-225 and Jap. Gov. futures. No risk-taking was allowed.

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But, Nick Leeson• He did speculate, against

instructions! • He placed bets on the direction of

price movements on the Tokyo Stock Exchange.

• Did well at first, soon looses mounted…

• 1992: - $2m, 1993: -$21m• 1994: -$185m 1995: -$619m,

early Jan. and then …

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Wait there is more…

• In 1994 he began selling (equity) straddles (short), speculating in a lower stock volatility on NIKKEI-225.

• In early January 1995, he was short in 37,000 calls and 33,000 puts.

• Plus long in 1000 futures. Now..

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In January 17 1995 – A Major Earthquake in Kobe• Markets explode in volatility and N.L.

looses even more and now het bets even harder (he has nothing to lose), so by February 23 he holds:

• 61,000 March futures contracts 49% of open interest.

• + 24% of all June contracts.• + 88% of all Jap. Gov. Bond futures.• + Large amounts of euroyen contracts, betting

on lower Japanese interest rates.

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Margin Calls All Over

• In Feb 1995 Leeson has to spend $740m in Margin calls.

• Barings in London gets suspicious, they hear rumors about an extremely big speculator on the Asian Markets.

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London Calling

• In the last days of February 1995, Baring sends an inspector.

• Leeson and his wife decide to leave Singapore for Germany.

• The total loss was almost 2.10 times Baring’s Equity value.

• Baring was bought and recapitalized by ING, The Netherlands.

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Lessons of Leeson?

•Bad management, Leeson was sitting on two chairs. Trading and back office.

•Better regulations ? Maybe•What has changed - not

much, mostly details says Leeson.

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Final Words

”They have learned nothing” according to Nick Leeson

The scandals have changed from derivatives to accounting.

The nature of man? Moral Hazard is the problem - not derivatives as such.

Some sentenced individuals in trading scandal

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Toshihide Iguchi 1995

• Institution: Daiwa Bank

• Activity: US Treasury Bonds

• Loss : $1.1bn

• Sentence: 4 years

• ”Star trader” who forged 30,000 trading slipes. Hide the losses of $1.1b over a decade.

Nick Leeson 1995

• Institution: Barings Bank

• Activity: Nikkei Index Futures

• Loss: $1.4bn

• Sentence: 4 years

• Positioned in Singapore, made money at first, but later losses. His hidden losses of £827 brought down the bank.

Yasuo Hamanaka 1996

• Institution: Sumito Corporation

• Activity: Copper

• Loss: $2.6bn

• Sentence: 8 years

• Controlled a relatively large part of the market for copper (5%). Tried to manipulate copper prices. Hide losses for some time.

John Rusak 2002

• Institution: Allied Irish Banks

• Activity: FX options

• Loss: $691m

• Sentence: 7.5 years

• ”Solid performer”, spent five years cover up his losses.

Vince Ficarra, Luke Duffy, David Bullen and Gianni Gray 2003

• Institution: National Bank of Australia• Activity: FX Options, Loss: $268m• Sentences:

– Ficarra 44 months– Luke Duffy: 29 months– Bullen 28 months– Gray: 16 months

• Broke trading limits 800 times, and inflated profits minutes before the end of the year to get bigger bonuses. Bullen and Ficarra were sentenced first.

Chen Jiulin 2005

• Institution: China Aviation Oil

• Activity: Jet Fuel Futures

• Loss: $550m

• Sentence: 4 years + 3 months

Matthew Taylor 2007

• Institution: Goldman Sachs

• Activity: S&P 500 futures

• Loss: $118m

• Sentence: ? Pending?

Jerome Kerviel 2008• Institution: Société Générale

• Activity: European stock index futures

• Loss: $7.2bn

• Sentence: 5 years of which 2 years are suspended, to be served starting fall 2014?

• The first court sentenced him to pay-back, but this was upheld by a higher court in 2014.

Kweku Adoboli 2012• Institution: UBS (UK)• Activity: Exchange Traded Funds (ETF)• Loss: $2.3bn• Sentence: 7 years• Used his knowledge about back office routines to

cover his losses from 2008. Worked 16 hours a day, slep under his desk. Hunted by the back office he went home and sent a mail to his boss confessing his losses. He was close to recup some of the losses but sold off one day to early.

Also, not fully covered here

• Boris Picano-Nacci, 2008: €751m Equity derivatives, ongoing investigation?

• Orange County, $1.7b, 1994.• Metallgesellschaft, $1.3b, 1993

• Substantial amounts of money but how and why did it get wrong?

Gold Prices go up and Gold Mines go under? An example

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Gold and Derivatives

Gold mining companies Ashanti in Ghana and Cambior in Canada.

1999 September gold prices went up, but these firms made big losses and almost got into default!

How could that be?

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Miners have long positions!

Typically, mining companies hedge at least 30-40% of future sales.

Some mining companies used 15-20 years derivative contracts.

15-20 years is a long time!Critique: Many investors might are not

prepared to mandate companies that sell vast proportions of ore reserve at low prices.

What happened in 1999? In Jan/Feb 1999 gold prices fell. Miners thought that prices would stay low

for the rest of the year. They saw losses from their positions, that

could be compensated by incomes from selling out-of-the money call options on Gold.

Since, they assumed that gold prices would stay low, it seemed safe and would reduce, or off-set expected losses.

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Earnings from derivatives?

In these firms derivatives trading was seen as a source of income.

Thus, they mixed speculation and hedging When they foresaw low prices, they

thought that selling options - and cash in on premiums would lead to better earnings.

But, they did more than selling the plain ”vanilla options”

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They did some Exotic Options

The Escalating Ounce: The number of ounces that the writer might have to deliver raises with the gold price.

The Parisian: The price at which the firm can be asked to sell falls with increasing market prices of gold.

The outcome was catastrophical.