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FRM Part - 1 Financial disasters (Barings – Nick Leeson (Was also the in…
FRM Part - 1
Financial disasters
Chase Manhattan Bank and Drysdale Securities
Drysdale exploited a flow in continuing value of collateral. (Collateral valued without considering accrued interest)
Chase did not notice in the contract, that if would be held responsible for any payments due.
Approval of risk control function when issuing funds.
Allied Irish Bank - AIB.
AIB management inexperienced to figure out his trading and suspicious trades & profits were ignored.
Similar to “BARINGS” but he bullied them.
Reported modest gains to avoid raising red flags and entered false positions in the system to calculate VaR.
OTC market contracts did not require cash settlements.
John Rusnak – currency trader made losses in millions and bullied bank office workers, but Hence supervisor realized.
Created fake trades to hide real ones and made the strategy look less risky.
Union Bank of Switzerland - UBS.
Huge investment in LTMC – which failed & UBS considered it less risky. LTCM wasn’t transparent.
Head to merge with SBC due to losses
Risk manager was head of quants analytics, had his compensation tied to trading results.
Too much independence to the equity derivative business.
Societe Generale
Lack of proper supervision and inability of bank to check gross positions (it checked only net positions)
Large amount of trading positions undetected and large amount of trading communications should have raised red flags.
Cancellation of trade immediately before continuation timing and incorrect handling of trade cancellations.
Mandatory vacation ruled should be enforced. Another trader comes in position & can uncover frequent activities.
Trader ethereal in large unauthorized trading activity created fake transaction to lied them.
P/L outside normal range should be investigated.
Kidder Peabody
Owned by General Electric.
Head of trading desk, Joseph Jett misreported earnings.
Substantial artificial profits
Took advantage of computer’s A/c error.
Computer system used for reporting government bond activity failed to A/c for towards contract’s present value.
Loss of confidence in management, GE had to sell the company.
Importance of investigating large profits from unknown trading strategies.
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Barings – Nick Leeson
Was also the in charge of settlement process, ∴ influenced back office employees & Used an old “Error A/c to book & hide losses.
Lack of outside process
Earthquake hit japan – markets – losses on a both positions
Reporting to multiple managers created ambiguity and loss undetected due to inadequate control systems.
Sold straddles & went double long positions on Nikkei.
Management weak – failed to established controls and systems of checks and balances should be created.
Hold speculative derivative positions and hid positions fraudulently