January 2008 Société Générale trading loss incident

The January 2008 Société Générale trading loss incident was an incident in which the bank Société Générale lost approximately €4.9 billion closing out positions over three days of trading beginning January 21, 2008, a period in which the market was experiencing a large drop in equity indices.cite web
url=http://www.cnn.com/2008/WORLD/europe/01/29/rogue.trader/
title=Fears over rogue trader 'raised 3 months ago'
date=2008-01-29
accessdate=2008-01-29
publisher=CNN] The bank states these positions were fraudulent transactions created by Jérôme Kerviel, trader with the company. The police stated they lack evidence to charge him with fraud and charged him with abuse of confidence and illegal access to computers. Kerviel states his actions were known to his superiors and that the losses were caused by panic-selling by the bank.

Employment history of Jérôme Kerviel

Kerviel joined the middle offices in the bank Société Générale in the summer of 2000,cite web |url=http://www.telegraph.co.uk/news/main.jhtml?xml=/news/2008/01/26/nkerviel426.xml
title=Jerome Kerviel was 'honest, working class'
author=Ben Martin, Nick Allen, Peter Allen and Henry Samuel
date=2008-01-28
accessdate=2008-01-29
publisher=Telegraph UK] working in its compliance department.cite news |first=Gordon |last=Rayner |coauthors=Allen, Peter |title=Profile: Rogue trader Jerome Kerviel |url=http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/01/25/nsocgen325.xml |publisher=The Telegraph |date=2008-01-26 |accessdate=2008-01-28] In 2005 he was promoted to the bank's Delta One products team in Paris where he was a junior trader.cite web |url=http://www.nationalpost.com/news/story.html?id=266900|title=French police question rogue trader Kerviel |accessdate=2008-01-26 |date=2008-01-26 |work=Reuters |publisher=National Post] Société Générale’s Delta One business includes program trading, exchange-traded funds (ETFs), swaps, index and quantitative trading.

The incident

Bank officials claim that throughout 2007, Kerviel had been trading profitably in anticipation of falling market prices; however, they have accused him of exceeding his authority to engage in unauthorized trades totaling as much as €49.9 billion, a figure far higher than the bank's total market capitalization. Bank officials claim that Kerviel tried to conceal the activity by creating losing trades intentionally so as to offset his early gains. [cite news |first=Pierre-Antoine |last=Souchard |title=Rogue French trader taken into custody |url=http://news.yahoo.com/s/ap/20080126/ap_on_re_eu/france_societe_generale |publisher=Associated Press|location=Paris |date=2008-01-26 |accessdate=2008-01-26] According to the BBC, Kerviel generated €1.4 billion in hidden profits by the end of 2007. [cite news |title=Rogue trader began year in profit |url=http://news.bbc.co.uk/2/hi/business/7218380.stm |publisher=BBC News |date=2008-01-30 |accessdate=2008-01-30] His employers say they uncovered unauthorized trading traced to Kerviel on January 19, 2008. The bank then closed out these positions over three days of trading beginning January 21, 2008, a period in which the market was experiencing a large drop in equity indices, and losses attributed are estimated at €4.9 billion.

The bank claimed Kerviel "had taken massive fraudulent directional positions in 2007 and 2008 far beyond his limited authority"cite web
url=http://www.nytimes.com/2008/01/25/business/worldbusiness/25bank.html
title=French Bank Says Rogue Trader Lost $7 Billion
publisher=New York Times
date=January 25, 2008
author=Nicola Clark and David Jolly
accessdate=2008-01-25] and that the trades involved European stock index futures.cite web
url=http://www.nytimes.com/2008/01/25/business/worldbusiness/25bank.html
title=French Bank Says Rogue Trader Lost $7 Billion
publisher=New York Times
date=January 25, 2008
author=Nicola Clark and David Jolly
accessdate=2008-01-25] Though bank officials say Kerviel apparently worked alone, skeptics question how unauthorized trading of this magnitude could go unnoticed. Kerviel's unassuming background and position have heightened the skepticism that he worked alone.cite news
first=Doreen
last=Carvajal
coauthors=Brothers, Caroline
title=‘Rogue Trader’ Is Remembered as Mr. Average
url=http://www.nytimes.com/2008/01/26/business/worldbusiness/26trader.html?_r=1&hp&oref=slogin
publisher=The New York Times
date=2008-01-26
accessdate=2008-01-26] Some analysts suggest that unauthorized trading of this scale may have gone unnoticed initially due to the high volume in low-risk trades normally conducted by his department.cite web
url=http://www.ft.com/cms/s/1/13e0c5b0-cb28-11dc-97ff-000077b07658.html
title=SocGen postmortem
publisher=FT.com
date=January 25, 2008
author=
accessdate=2008-01-25] The bank said that whenever the fake trades were questioned, Kerviel would describe it as a mistake then cancel the trade followed by replacing that trade with another transaction using a different instrument to avoid detection. Kerviel's lawyers, Elisabeth Meyer and Christian Charrière-Bournazel, said that the bank’s managers "brought the loss on themselves"; accused the bank’s management of wanting to "raise a smokescreen to divert public attention from far more substantial losses in the last few months"; and said that Kerviel had made the bank a profit of $2 billion as of Dec. 31, 2007.

Kerviel is not thought to have profited personally from the suspicious trades. Prosecutors say Kerviel has been cooperative with the investigation, and has told them his actions were also practiced by other traders in the company. Kerviel admits to exceeding his credit limits, but claims he was working to increase bank profits. He told authorities that the bank was happy with his previous year's performance, and was expecting to be paid a €300,000 bonus. Family members speaking out say the bank is using Kerviel as a scapegoat to excuse its recent heavy losses.

Methods used

The bank states that Kerviel was assigned to arbitrage discrepancies between equity derivatives and cash equity prices,cite web
url=http://www.ft.com/cms/s/1/13e0c5b0-cb28-11dc-97ff-000077b07658.html
title=SocGen postmortem
publisher=Financial Times
date=January 25, 2008
accessdate=2008-01-25] and "began creating the fictitious trades in late 2006 and early 2007, but that these transactions were relatively small. The fake trading increased in frequency, and in size".cite web
url=http://www.nytimes.com/2008/01/28/business/worldbusiness/28bank.html?em&ex=1201669200&en=9787a96b4e941d12&ei=5087%0A
title=Bank Outlines How Trader Hid His Activities
publisher=New York Times
date=January 28, 2008
author=ICOLA CLARK
accessdate=2008-01-28] The Executive Chairman of Société Générale, Daniel Bouton described the pattern as like "a mutating virus" in which hundreds of thousands of trades were hidden behind offsetting faked hedge trades. Officials say Kerviel was careful to close the trades in just two or three days, just before the trades' timed controls would trigger notice from the bank's internal control system, and Kerviel would then shift those older positions to newly initiated trades. City experts have expressed skepticism of the bank's account, saying that a pattern of closing out trades within the three day cycle alleged could not be accomplished given the immense sums involved.cite news |coauthors=Matthew Campbell, John Follain |title=Rogue trader Jerome Kerviel held for a further 24 hours |url=http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article3260455.ece |publisher=Times Online |location=Paris, Pont l’Abbe |date=2008-01-27 |accessdate=2008-01-27] Kerviel has simply been suspended, but is in the process of being fired by the bank. [ [http://www.time.com/time/business/article/0,8599,1707306,00.html Behind the Trader's Market Chaos] , Time, January 27, 2008.] [ [http://www.bloomberg.com/apps/news?pid=20601085&sid=auk00jDKCNA0 French Police to Determine SocGen Trader's Fate Today] , Bloomberg.com, January 28, 2008.]

Allegations of fraud and legal ramifications

In answers to the rumors alleging Jérôme Kerviel had fled Paris following the discovery of the unauthorized trading, on January 24, 2008 Kerviel's lawyer denied that he attempted to disappear and said he remained in Paris to face the accusations. [cite news |first=Gregory |last=Viscusi |coauthors=Chassany, Anne-Sylvaine |title=Société Générale Reports 4.9 Billion EU Trading Loss |url=http://www.bloomberg.com/apps/news?pid=20601087&sid=a8GBEB7UuuXc&refer=home |publisher=Bloomberg |date=2008-01-24 |accessdate=2008-01-24]

Also on January 24, 2008, Société Générale filed a lawsuit against "a 31-year-old person" for creating fraudulent documents, using forged documents and making attacks on an automated system, according to Clarisse Grillon, a spokeswoman for the Nanterre prosecutor. "Le Figaro" reported that in addition to the Société Générale lawsuit, a group of shareholders filed a lawsuit for fraud, breach of trust and forgery. [cite news |title=Un extraordinaire talent de dissimulation |url=http://www.lefigaro.fr/societes-francaises/2008/01/25/04010-20080125ARTFIG00261-un-extraordinaire-talent-de-dissimulation-.php |publisher=Le Figaro |language=French |quote=Une deuxième plainte pour «escroquerie, abus de confiance et faux», a été déposée au nom d'un groupe d'actionnaires à Paris. ... Selon l'ampleur de l'escroquerie, Jérôme Kerviel risque de cinq ans à quinze ans de prison.|date=2008-01-25 |accessdate=2008-01-26]

On the eve and afternoon of January 25, 2008, police raided the Paris headquarters of Société Générale and Kerviel's apartment in the western suburb of Neuilly-sur-Seinecite web |url=http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article3254619.ece
title=Jerome Kerviel is not a Machiavellian genius. He’s just an average kind of guy
publisher=Times Online
author=Adam Sage
date=January 26, 2008
accessdate=2008-01-28] to seize his computer files. [cite web
url=http://afp.google.com/article/ALeqM5gD0QVnXt4tdnH6g5s89mUo0u5O1Q
title=Police raid HQ of bank in French rogue trader scandal
publisher=AFP
date=2008-01-26
accessdate=2008-01-26] On January 26, 2008, the Paris prosecutors' office stated that Kerviel "is not on the run. He will be questioned at the appropriate time, as soon as the police have analysed documents provided by Société Générale." [cite web
url=http://www.france24.com/france24Public/en/news/france/20080125-societe-generale-kerviel-banking-scandal-investigation.html
title=SocGen trader not on the run says prosecutors
publisher=Reuters
date=2008-01-26
accessdate=2008-01-28] He was taken into police custody later that day. [cite web |url=http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article3256630.ece
title=Rogue trader taken into police custody
author=Chris Gourlay
publisher=Times Online
date=2008-01-26
accessdate=2008-01-28]

Kerviel's initial 24 hour detention was extended to 48 while French law enforcement questioned him about possible accomplices. The investigation later widened to encompass his personal cell phone records, and to explore possible links to other individuals working at rival banks and private investment firms who may be involved. The police are investigating whether he worked alone, and whether any investors outside of Société Générale may have been tipped in advance. Police are interested whether others were involved in either the trades themselves, or received notice of the bank's impending sell-off before the details of the scandal were publicly disclosed.cite web |url=http://www.telegraph.co.uk/money/main.jhtml?view=DETAILS&grid=&xml=/money/2008/01/28/bcncruise128.xml |title=Phone records could be key to Kerviel case |author=Peter Allen |date=2008-01-28 |publisher=Telegraph UK |accessdate=2008-01-28]

Kerviel was formally charged on January 28, 2008 with abuse of confidence and illegal access to computers.cite web |url=http://www.cnn.com/2008/WORLD/europe/01/29/rogue.trader/ |Title=Fears over rogue trader 'raised 3 months ago |author=Jim Bittermann |date=2008-01-29 |accessdate=2008-01-29 publisher=CNN ] He was released from custody a short time after.cite web |url=http://edition.cnn.com/2008/WORLD/europe/01/28/rogue.trader/ |title=Accused billion-dollar rogue trader charged, freed |author=Jim Bittermann and Niki Cook |date=2008-01-28 |accessdate=2008-01-28 |publisher=CNN ] The charges filed carry a maximum three year prison term. On January 29, 2008 investigating judges Renaud van Ryumbecke and Francoise Desset had rejected prosecutor Jean-Claude Marin's bid to charge Kerviel with the more serious crime of "attempted fraud" and refuse bail. [cite news |title=Jerome Kerviel charged over $8bn bank scam |url=http://www.news.com.au/mercury/story/0,22884,23125177-923,00.html |publisher=Mercury, Tasmania |date=2008-01-29 |accessdate=2008-01-29 ]

Société Générale characterizes Kerviel as a rogue trader and claims Kerviel worked these trades alone, and without its authorization. Kerviel, in turn, told investigators that such practices are widespread and that getting a profit makes the hierarchy turn a blind eye. [cite news |page=1 |title=Le trader livre sa version de l'affaire Société Générale |date=2008-01-29 |accessdate=2008-01-29 |publisher=Le Monde, paper version ] The current investigation involves what is reported to be the largest fraud in banking history. [cite news |first=Peter |last=Allen |coauthors=Rayner, Gordon |title=Jerome Kerviel behind Société Générale fraud |url=http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/01/24/bcnsocgen924.xml |publisher=The Telegraph |date=2008-01-25 |accessdate=2008-01-26] [cite news |url=http://abcnews.go.com/Business/story?id=4205767&page=1 |title=Rogue Traders a Nightmare Scenario for Finance CEOs |date=2008-01-29 |accessdate=2008-01-29 |author=Bianna Golodryga |publisher=ABC News ]

On 11 March, 2008, Société Générale announced that another of their employees had been taken into custody in connection with the investigation of the fraud, and their headquarters searched by police. [cite news|url=http://www.bloomberg.com/apps/news?pid=20601087&sid=ag4DziG1HDBA&refer=home|publisher=Bloomberg|date=2008-03-12|accessdate=2008-03-12|title=Second SocGen Employee Held by Police in Kerviel Case|last=Benedetti-Valentini|first=Fabio]

Potential economic effects

On January 21, 2008, European stock markets suffered heavy losses of about 6%. The sharp fall, which was followed by an emergency cut in the federal funds rate by the United States Federal Reserve on the following Tuesday (US markets were closed on the Monday for Martin Luther King Jr Day), came as Société Générale tried to close out positions built up by Kerviel. This has led to speculation that stock market turbulence caused the Federal Reserve Board to cut the rate. [cite web |url=http://www.theglobeandmail.com/servlet/story/RTGAM.20080124.WBstreetwise20080124124534/WBStory/WBstreetwise |title=Thank Jerome Kerviel for Bernanke's rate cut |publisher=The Globe and Mail: Streetwise Blog ] A Federal Reserve spokesperson denied the central bank knew of Société Générale's situation when it made its decision.cite web |url=http://www.reuters.com/article/ousiv/idUSL2455504620080124?pageNumber=1&virtualBrandChannel=0 Reuters, 24.01.08 |title=Did SocGen trades trigger market rout, Fed cut? |author=Sitaraman Shankar, Blaise Robinson |date=2008-01-24 |accessdate=2008-01-29 |publisher=Reuters]

It is estimated that over the period the total trading in futures and the cash market for the Euro Stoxx 50 was €544 billion. This would make the unwinding of Kerviel’s position account for five per cent or less of overall activity.cite web |url=http://www.ft.com/cms/s/1/13e0c5b0-cb28-11dc-97ff-000077b07658.html |title=SocGen postmortem |publisher=FT.com |date=2008-01-25 |accessdate=2008-01-25 ] Société Générale's investment banking chief, Jean-Pierre Mustier, acknowledged that the three days of forced selling played a role in the market's overall decline, but characterized that impact as "minimal".cite web |url=http://www.time.com/time/business/article/0,8599,1707306,00.html |title=Behind the Trader's Market Chaos |publisher=TIME (online) |date=2008-01-27 |author=Vivienne Walt |accessdate=2008-01-27 ]

Other notable trading losses

*Yasuo Hamanaka caused a loss of about $2.6 billion, over ten years, in unauthorized copper trading on the London Metal Exchange
*Nick Leeson caused a loss of £827 million for Barings Bank, leading to its collapse
*List of trading losses

References