Description
This is a presentation highlighting Baring Bank's case Analysis. Whatever happened at baring bank.
Barings Bank: “The Lure to derivatives and Collapse” –Case Analysis
The Organisation
Case Synopsis
• Barings addicted to high growth after Heath’s departure
• Nick Leeson entered BFS in 1992
• Main job is to exploit arbitrage opportunities in Far East markets in Futures
• Confused reporting structure for Leeson
• Barings doing proprietary trade in F&O using small shareholder capital(£347m).
• Unauthorized and fraudulent trade and lack of control systems lead to a
collapse.
Why Derivatives?
• • • • Competitive pressure Lower margins Diminishing profits in traditional business lines Look for alternatives
– Pushing into new financial products – Focusing more on emerging markets
• High Leverage
Risk Matrix
Financial Risks: Derivatives -NIKKEI 225 Futures -JGB Futures -Options Other Risks: •Monitoring •Closing positions •Positions adequately hedged •Trading limits •Allocation of funding
BARINGS’ STRATEGY ON DERIVATIVE TRADING
• Falling profits in traditional banking business
– Disintermediation – Technological Innovation
• New sources for income sought
– Acquisition of Henderson Crosthwaite in 1984 – Establishment of Barings Securities Limited, Headed by Christopher Heath
• Taking advantage of Stock Market boom in emerging markets • Integration of BB & Co and BSL into Barings Investment Bank for reporting purposes
Derivative Strategy cont…
• Exploit arbitrage opportunities • Proprietary trading – against a insignificant equity capital of £354mn • Used client orders to take counter positions • Concealed high exposure to Barings HQ • Reported false profit figures • Funding of margin money by group companies
Trading Strategy
• Nick Leeson was trading futures and options on the Nikkei 225, an index of Japanese securities. • He was long Nikkei 225 futures, short Japanese government bond futures, and short both put and call options on the Nikkei Index. • He was betting that the Nikkei index would rise, but instead, it fell, causing him to lose $1.39 billion.
Why Nick Failed???
• Nikkei 225 index kept falling while he continued to bet that it would rise. • Did know when to quit and take his losses.
• Short on JGB futures while logically he should have had
a long position. • Writing naked options thinking markets will operate in a range.
Why Barings Failed?
• Lack of knowledge of the business • Inadequate monitoring mechanism • Lack of supportive organization structure
• Inadequate risk analysis and correction mechanism
• Lack of an advisory, Guiding panel
• Communication mechanism with customers
Why the Regulators Failed?
• Did not have adequate monitoring mechanisms, guidelines to detect fraud and suspicious dealings. • Did not require companies to report fund utilization and exposure • No Clear guidelines to Industry. • Did not have well defined reporting mechanisms for banks. • Inadequate monitoring mechanisms.
Questions ???
• Why an error a/c was established • Derivatives policy and procedure (unauthorized trading) • The role of Barings auditor • The roles of regulators in the various countries • The role of Barings UK in transferring cash to meet margins.
Bogus a/c
• Nick Leeson established a bogus error account (88888) when a legitimate account (99002) already existed in order to conceal his unauthorized trading activities. • Legitimate error account was known to Barings Securities in London, the bogus account was not. • Known to SIMEX as a customer account, not as an error account/ proprietary (Hide the loss from London office)
Internal Control and Systems
• No clear reporting structure • Lack of segregation of duties • Lack of reporting systems to identify risks and exposure each day • Systems incapable of providing adequate reports and calculating exposure for all product trades • Absence of policy on risk or a policy which is not formalized or communicated to employees
Regulators Role
• SIMEX assumed Barings was hedging while they were actually speculating. • No mechanism to check bogus accounts. • Large exposures ignored. • Lack of system support for verifying bogus and fraudulent transactions.
Recommendations
Individual Level:
•
• •
Acquire knowledge and Skill
Self checks and control (Ethical orientation) Understanding consequences on self and company.
Recommendations
Organisational Level:
• Knowledge of the business vertical
• Adequate monitoring mechanism and systems. • Limits on capital exposure
• Employee training and orientation
• Proper advisory panel • Supportive organization structure
• Adequate monitoring, risk analysis and correction mechanism
Recommendations
Regulator Level:
• Clear guidelines to Industry on critical aspects.
• Defining adequate monitoring mechanisms • Continuously Upgrade on the checks and mechanisms in place.
doc_433505081.pptx
This is a presentation highlighting Baring Bank's case Analysis. Whatever happened at baring bank.
Barings Bank: “The Lure to derivatives and Collapse” –Case Analysis
The Organisation
Case Synopsis
• Barings addicted to high growth after Heath’s departure
• Nick Leeson entered BFS in 1992
• Main job is to exploit arbitrage opportunities in Far East markets in Futures
• Confused reporting structure for Leeson
• Barings doing proprietary trade in F&O using small shareholder capital(£347m).
• Unauthorized and fraudulent trade and lack of control systems lead to a
collapse.
Why Derivatives?
• • • • Competitive pressure Lower margins Diminishing profits in traditional business lines Look for alternatives
– Pushing into new financial products – Focusing more on emerging markets
• High Leverage
Risk Matrix
Financial Risks: Derivatives -NIKKEI 225 Futures -JGB Futures -Options Other Risks: •Monitoring •Closing positions •Positions adequately hedged •Trading limits •Allocation of funding
BARINGS’ STRATEGY ON DERIVATIVE TRADING
• Falling profits in traditional banking business
– Disintermediation – Technological Innovation
• New sources for income sought
– Acquisition of Henderson Crosthwaite in 1984 – Establishment of Barings Securities Limited, Headed by Christopher Heath
• Taking advantage of Stock Market boom in emerging markets • Integration of BB & Co and BSL into Barings Investment Bank for reporting purposes
Derivative Strategy cont…
• Exploit arbitrage opportunities • Proprietary trading – against a insignificant equity capital of £354mn • Used client orders to take counter positions • Concealed high exposure to Barings HQ • Reported false profit figures • Funding of margin money by group companies
Trading Strategy
• Nick Leeson was trading futures and options on the Nikkei 225, an index of Japanese securities. • He was long Nikkei 225 futures, short Japanese government bond futures, and short both put and call options on the Nikkei Index. • He was betting that the Nikkei index would rise, but instead, it fell, causing him to lose $1.39 billion.
Why Nick Failed???
• Nikkei 225 index kept falling while he continued to bet that it would rise. • Did know when to quit and take his losses.
• Short on JGB futures while logically he should have had
a long position. • Writing naked options thinking markets will operate in a range.
Why Barings Failed?
• Lack of knowledge of the business • Inadequate monitoring mechanism • Lack of supportive organization structure
• Inadequate risk analysis and correction mechanism
• Lack of an advisory, Guiding panel
• Communication mechanism with customers
Why the Regulators Failed?
• Did not have adequate monitoring mechanisms, guidelines to detect fraud and suspicious dealings. • Did not require companies to report fund utilization and exposure • No Clear guidelines to Industry. • Did not have well defined reporting mechanisms for banks. • Inadequate monitoring mechanisms.
Questions ???
• Why an error a/c was established • Derivatives policy and procedure (unauthorized trading) • The role of Barings auditor • The roles of regulators in the various countries • The role of Barings UK in transferring cash to meet margins.
Bogus a/c
• Nick Leeson established a bogus error account (88888) when a legitimate account (99002) already existed in order to conceal his unauthorized trading activities. • Legitimate error account was known to Barings Securities in London, the bogus account was not. • Known to SIMEX as a customer account, not as an error account/ proprietary (Hide the loss from London office)
Internal Control and Systems
• No clear reporting structure • Lack of segregation of duties • Lack of reporting systems to identify risks and exposure each day • Systems incapable of providing adequate reports and calculating exposure for all product trades • Absence of policy on risk or a policy which is not formalized or communicated to employees
Regulators Role
• SIMEX assumed Barings was hedging while they were actually speculating. • No mechanism to check bogus accounts. • Large exposures ignored. • Lack of system support for verifying bogus and fraudulent transactions.
Recommendations
Individual Level:
•
• •
Acquire knowledge and Skill
Self checks and control (Ethical orientation) Understanding consequences on self and company.
Recommendations
Organisational Level:
• Knowledge of the business vertical
• Adequate monitoring mechanism and systems. • Limits on capital exposure
• Employee training and orientation
• Proper advisory panel • Supportive organization structure
• Adequate monitoring, risk analysis and correction mechanism
Recommendations
Regulator Level:
• Clear guidelines to Industry on critical aspects.
• Defining adequate monitoring mechanisms • Continuously Upgrade on the checks and mechanisms in place.
doc_433505081.pptx