silicon flat irons june 5, 2009 kimberly d. krawiec
TRANSCRIPT
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The Return of The Rogue
Silicon Flat IronsJune 5, 2009
Kimberly D. Krawiec
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What is Op Risk?
The risk of loss from inadequate or failed internal processes, people, and systems or from external events
Historically, a residual risk category i.e. not market or credit = operational
New focus & importance, thanks to Basel II and market changes
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Basic Thesis
Bad – maybe worst of all alternatives Require capital cushion, but use internal
models
Limited effectiveness Banks w/ highest op risk levels are least
likely to credibly assess
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Basic Thesis
High costs: Definition, modeling, and data problems Enforcement likely to be lacking Room for interest groups –lawyers,
accountants, risk management experts – to capture definition and management
Incentive to “manage the model,” rather than op risk
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Alternatives
Status quo Plausible deniability re: other limits
Do it better Future:
incentivize market-based solutions (e.g. insurance)
Non-financial metrics Other proposals – compensation
revisions
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Jerome Kerviel – Societe Generale
Authorized to engage in client sales and arbitrage
Not authorized to take directional positions
Fraud = series of unauthorized directional positions in equities and equity futures
Concealed by a series of fictitious transactions
Note that subsequent investigation turned up numerous violations
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3 Concealment Techniques Entry then cancellation of fictitious
trades 947 transactions
“matched” trades – i.e. purchase/sale of equal quantities at different “off market” prices, thus generating gain or loss as needed 115 transactions
Intra-monthly provisions 9 transactions
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Actual v. Authorized Earnings
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Fictitious Transactions
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Nicholas Leeson
28-year-old trader who never graduated from college
Barings Bank desk at the Singapore International Monetary Exchange
In charge of both trading and settlement
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Nicholas Leeson
Accused of losing $1.3 billion
Charged with forgery and trading violations on December 1, 1995
Sentenced to six and a half years
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Leeson and Barings
Short Straddles: Profitable (Premium) if Nikkei traded
within or near strikes between 18,500 – 20,000
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Leeson and Barings
4Q 1994 - January 1995 Nikkei in a range of 19,000 – 19,500 Recall that Leeson’s goal = 18,500-
20,000
Nikkei 225日経平均株価
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Leeson and Barings
January 17, 1995 Kobe Earthquake Nikkei dropped sharply Leeson goes long
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Leeson and Barings
January 20 – February, 1995 Leeson launched aggressive buying
program: 55,206 March contracts and 5,650 June contracts
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Leeson and Barings
Barings collapsed – could not meet huge trading obligations
Outstanding futures positions of $27 billion (Barings’ capital was $615 million)
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1050023ST 17
Osaka Securities Exchange10 largest net Nikkei 225 futures positions
0 5,000 10,000 15,000 20,000
17.02.95
Barings
Paribas
Salomon
JP Morgan
BNP
SBC
Yamaichi
Soc Gen
Tokyo Mitsubishi
BZW
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Do it better
Improbable profits Esp. in light of experience level and
authorized trading strategy Unusual trades (real and/or fictitious)
in terms of type and/or volume Back office issues
Bully back office, evasive answers Ignored inquiries from regulators,
exchanges, competitors, other employees