Jerome Kerviel (31), a French junior market trader from the No 2 bank in France, Societe Generale (SG) is accused of being a rogue trader causing losses of 4.9 billion euros (US$ 7.2 billion). The Murdoch owned London Times describes him as “something of a global folk hero, with songs, videos and internet sites devoted to him.” Kerviel’s lawyers are portraying him as the victim of unscrupulous employers.
Some Facebook groups have set up Jerome Kerviel web sites as proof that this “super -trader …has become a world hero.” John Gapper, a finance journalist at Financial Times in London compares Jerome with the actor scientologist Tom Cruise.
Says Gapper (January 30 2008) “He had as firm a grasp of superstar economics as Mr Cruise, one of the world’s best paid film actors. The basic principle of superstar economics, which applies to both entertainment and investment banking, is that a few people take most of the rewards, if you gain status and get rich.” Gapper added the obvious, that there are only a few stars in Hollywood or at banks.
Unlike the real superstars, Kerviel didn’t get any financial gain from his unauthorised trades, the Paris prosecutor Jean-Claude Marin saying that Kerviel only wanted to prove to his bosses “that he was worth as much as the others around him. He truly believed that ….everyone would recognise his financial genius.”
In the rogue trading gallery, Kerviel ranks No 1 in size of trading losses. His next rival is Brian Hunter, a trader in natural gas for the hedge fund Amaranth Advisors. Having earned US$ 75 million for his successful trades in 2005, Hunter’s remuneration was based on 15 per cent of any profit he made. Hunter went for broke in 2006 betting that the difference in prices of natural gas between winter and summer months would widen.
At first Hunter was on a winner making as much as $1.3 billion placing trades going out to 2012, and betting at the same time that natural gas prices would widen, while fuel and heating oil would stay the same or fall. The luck of the dice turned in September 2006, when the whole trade fell apart, ending up losing for the hedge fund $6.6 billion, at which point the hedge fund went to the wall.
Jerome Kerviel is mostly compared with Nick Leeson, the Barings trader whose losses in 1995, although enough to put his firm out of business, was only a small rogue trader compared to our folk hero, having gone through only a miserly $1.2 billion. Both Leeson and Kerviel started in the back office doing settlements work, and then moved up to the trading floor, which for Leeson was becoming a trader on the floor of the Simex derivatives exchange in Singapore.
Our folk hero joined SG in 2000 spending some years in the back office of SG in risk management and compliance, where he had time to absorb the workings of the password protected systems and controls. In 2005, he was promoted to junior trader in the bank’s Delta One equity derivatives team. His pay in 2006 was a comparatively low 110,000 euros, including a bonus of 40,000 euros.
Kerveil’s job was limited to dealing in three European futures indices. In the language of the financial markets, the securities were all simple “plain vanilla” products, nothing complex. SG was a large trader in equity derivatives, being selected by the Banker (London) as the 2007 equity derivative trader of the year.
What makes this tale somewhat unbelievable, is SG not being able to detect what Kerviel was doing in running up a giant liability of 50 billion euros. ($74 billion), before it was unwound. At the time the share market value of SG was 35 billion euros.
The size of the derivatives trades by Kerviel prompted two queries from Eurex, the largest of the European derivatives exchanges, but each time he is said to have produced false documentation to allow him to continue trading outside the limits set by the bank.
When the police were finally called in, the rogue trader was told that he faced initial charges of forgery, breach of trust and computing abuses at the bank. But the judges’ decision not to grant the prosecutor’s full demands seem to indicate they did not buy SG’s claim that he had committed historic fraud against the bank, and that he acted alone.
Lawyers for Jerome Kerviel have accused the bank of creating a smokescreen to divert attention from other bank losses. They insist that Jerome “did not commit any dishonest act, nor embezzle a single cent, and he in no way benefited from the bank’s funds.” Jerome told prosecutors that the bank was “complacent” about his practices.
Jerome is reported in a transcript: “As soon as were winning and it wasn’t too visible, things worked out, no one said anything. I am convinced my managers turned a blind eye to the means and amounts in questions.”
He also said: “the simple fact that I didn’t take vacation days in 2007 should have alerted my managers. That’s one of the first rules of internal controls. A trader who doesn’t take vacation is a trader who doesn’t want to leave his book to someone else.”
Jerome is also reported as saying: “I cannot believe that my superiors did not know about the amounts I was taking on. It is impossible to generate that much profit with small positions, which leads me to say that so long as I was in profit, the superiors closed their eyes to the way I did it and the amounts I took on.”
Whatever blame is finally attached to Jerome Kerviel, SG is equally culpable, its internal controls in poor shape, and the bank’s reputation shattered. If the media speculation is on the ball, France’s biggest bank BNP will ultimately make an offer for Societe Generale.
That is by far the best outcome.
