Saturday, January 26, 2008

Societe Generale Trader Bet Tens of Billions

French Bank Trader Was Dealing in Tens of Billions of Euros.

French bank Societe Generale said Friday a rogue trader who cost it more than $7 billion by making bad stock market bets had been gambling on a much larger scale -- tens of billions of dollars of the bank's money.

As the depth of the risk to the bank became clearer, small shareholders questioned controls at Societe Generale and other leading banks, and France's prime minister joined skeptics wondering whether a lone trader could have been fully responsible for such major damage.

The bank, France's second-largest, apologized to shareholders in full-page newspaper ads after announcing the fraud, apparently the biggest ever carried out by one person. The news Thursday rattled an already jittery banking sector.

French police also conducted a search Friday at the home of the trader, 31-year-old Jerome Kerviel, spending more than two hours at his suburban Paris apartment before leaving with two large black leather cases and one briefcase. Prosecutors have already opened a preliminary investigation into the bank's accusation of fraud against Kerviel and into complaints by two small shareholders.

The fraud cost Societe Generale 4.9 billion euros, or more than $7 billion, but a bank official said Friday that Kerviel's positions had reached "several tens of billions of euros." The official spoke on condition of anonymity because of company policy on such matters.

French presidential aide Raymond Soubie said on LCI television that the trader had been dealing with more than 50 billion euros, or more than $73 billion. That figure easily outstrips the bank's market capitalization of 35.9 billion euros ($52.6 billion), and is close to the annual gross domestic product of entire nations such Slovakia, Qatar or Libya.

The debacle generated buzz at the World Economic Forum in Davos, Switzerland, with executives expressing shock that it could have happened to one of Europe's most respected financial institutions. The case also raised questions sector-wide about risk management.

"In a bull market, often the risk management does not cope with the significant growth in volumes, volatility, complexity of instruments," said Kinner Lakhani, an analyst at ABN Amro. "Pretty much every Wall Street management is definitely looking at this issue."

The damage might not have been as bad if it had happened in a less volatile time: The bank said it learned of the fraud last weekend. With stock markets in turmoil, Societe Generale was forced to sell the contracts built up by the rogue trader just as stocks were plunging. It took three days to unload them.

Societe Generale's unwinding of its massive positions over the next three days could even have contributed to the markets' fall, analysts said. "Any dumping will drop the price," said Mark G. Castelino, associate professor for finance and economics at Rutgers Business School in New Jersey.

He stopped short, however, of saying that Kerviel's actions affected the U.S. Federal Reserve's subsequent decision to cut its benchmark interest rate by an extraordinary three-quarters of a percentage point.

Societe Generale insisted it could weather the enormous loss. The bank's shares, which have lost nearly half their value over the past six months, fell 2.5 percent further Friday to 73.87 euros ($108.62) after an up-and-down day, following on a 4 percent drop Thursday. UBS downgraded the shares Friday bank to neutral from buy, while Deutsche Bank cut them to hold from buy.

However, Dresdner Kleinwort analysts Milan Gudka and Arturo De Frias said the bank's announcement "provides us with greater visibility and comfort. Despite our concern as to the adequacy of internal controls, we keep a positive recommendation on the stock."

The company, which also posted another 2.05 billion euro ($2.99 billion) subprime-related loss, planned to raise 5.5 billion euros ($8.02 billion) in new capital. Asian sovereign wealth funds had shown interest in Societe Generale before the fraud was announced, but analysts said the news could make the funds think twice about a quick purchase.

Shareholders and others raised questions about how Kerviel was apparently able to dodge the bank's internal controls for more than a year to make the unauthorized market bets. "One should not be able to take positions worth 40 billion (euros) without being spotted by an audit or a sophisticated computer system," said Didier Cornardeau, president of APPAC, a group representing small Societe Generale shareholders.

French Prime Minister Francois Fillon, meanwhile, said: "It is difficult ... to imagine how one person alone could, in a relatively short period of time, cause such considerable losses." He suggested the French government should have been informed immediately, instead of four days after the fraud was discovered.

Employed by Societe Generale since 2000, Kerviel worked his way up from a supporting role in an office that monitors trades to a job on the more glamorous futures desk where he invested the bank's own money by hedging on European equity market indices. That means he made bets on how the markets would perform at a future date.

Undetected by the bank's multilayered security systems, Kerviel had for over a year been fraudulently using the company's funds to bet on European stock markets, Societe Generale said. Kerviel's motive remains unclear. Three union officials representing Societe Generale employees said managers at the bank told them Kerviel was having "family problems."

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