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Last Updated: Thursday, 24 January 2008, 17:53 GMT
Market culture 'at root of rogue trading'
By Katie Hunt
Business reporter, BBC News

Societe Generale headquarters
The losses are four times greater than those made by Nick Leeson

Societe Generale, nursing huge losses, is at pains to point out the trader who inflicted them was "irrational" and acting alone.

But banking industry experts say complacency and a market culture that rewards excessive risk-taking could also be at fault.

After Nick Leeson bankrupted Britain's Barings in 1995, banks invested heavily in risk management systems that were meant to avert instances of rogue trading.

For a while, this seemed to be working.

Cases still made the headlines, but the trading losses amassed were lower and the individuals involved were less high-profile.

In 2002, US currency trader John Rusnak was charged with covering up $691m (474m) of trading losses.

Last year, an American dealer for the New York subsidiary of France's Credit Agricole lost 250m euros by taking excessive risks without authorisation.

But the revelations of a 4.9bn euro (3.7bn $7.1bn) fraud at Societe Generale could be the result of complacency, as the lessons of Nick Leeson and the Barings case appear to be forgotten by some, says David Dearman, a partner at forensic accountants PKF.

"While we don't have the full details of how this happened, it sounds as if there has been a massive failure of corporate governance and control procedures," he says.

"I can only trust that the procedures adopted in the City a decade ago are working and being regularly reviewed, but there will undoubtedly be some very nervous senior people in the industry today," he says.

Technology

More sophisticated technology has made banks' internal controls tougher, says Bruce Weber, a professor of information management at London Business School.

There is a systemic deficit in ethical values within the banking industry,
Professor Roger Steare, Cass Business School

"I think these events are becoming less common. The quality standards of the system and the knowledge of auditing has cleaned up loose controls in banks."

"But again, this shows that no system is entirely invulnerable."

In the past, forged paperwork was often behind trading fraud, but this is less of a risk in today's computerised age, Professor Weber says.

Yasuo Hamanaka, known as Mr Five Per Cent on account of his share of the world copper market, was jailed for eight years in 1996 after admitting to a 10-year career of unauthorised dealing.

He had forged the signatures of two of his superiors in letters written to foreign dealers.

In-depth knowledge

Societe Generale alleges the trader used in-depth knowledge of the control procedures gained while working in the bank's middle office in his former job.

Daniel Bouton, Societe Generale chief executive
Mr Bouton is in charge of Societe Generale

"The transactions which involved the fraud were simple - taking a position on shares rising - but hidden using extremely sophisticated and varied techniques," chief executive Daniel Bouton said in a letter to the bank's customers.

While not unprecedented, it is still fairly unusual for an employee to move to frontline trading from the more administrative functions of the back and middle offices.

"These are very distinct jobs. Back office is all about following the rule book, but traders are all about finding opportunities in the market and exploiting them," says Professor Weber.

Societe Generale said the trader, in his 30s, was relatively junior. He joined the bank in 2000 and earned an annual salary and bonus of less than 100,000 euros.

"Probably his biggest fear was the fear of failure, as was mine," Nick Leeson told the BBC.

"Everything gets caught up in the success story around you."

Transparent

Industry insiders were also puzzled that fraudulent trading took place in equity market futures, a more transparent market compared with currencies, energy and commodities.

These are often traded "over the counter" rather than on a formal exchange.

At its most basic, futures trading involves selling commodities such as cocoa or oil, to be delivered at a specified date in the future.

The market has expanded rapidly in recent years to include many kinds of extremely complex financial instruments, but Societe Generale said he was involved in "plain vanilla" or the more basic forms of hedging.

Societe Generale has ranked first or second during the past five years in client surveys of equity derivative firms, according to Risk Magazine.

In 2007, it received the award for "Equity Derivatives House of the Year'' from the Banker, a London-based monthly magazine.

Ethical deficit

Roger Steare, professor of organisational ethics at Cass Business School, says that the trading scandal at Societe Generale is evidence of a wider malaise in the banking industry that used to have a reputation for honesty, trust and prudence.

In addition to the latest news, the banking industry is also grappling with massive losses related to the crisis in the US sub-prime mortgage market. In the UK, it is under fire for allegedly overcharging customers.

"There is a systemic deficit in ethical values within the banking industry. This will not change by hanging a few people out to dry," says Professor Steare.

Professor Steare says he has undertaken integrity tests for more than 700 financial services executives in several major firms.

The results of these tests indicate that as a group, they score lower than average in honesty, loyalty and self-discipline, he said.

He compared traders to "mercenary hired guns", who regularly switch firms to maximise earnings.

"Technology does help prevent these kinds of scandals, but it's people's behaviour that counts," he says.

"What leaders in the banking industry need to do is to ensure that the high-minded business principles that they all say they stand for become a reality in the behaviours of everyone they employ."



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