Each new revelation about the EUR4.9 billion trading loss at Societe Generale (SG) seems to confirm early conjecture as to why the losses were so large - there were monumental failures in the bank's back-office processes and risk management controls.
According to an internal audit released by SG on February 20, Jerome Kerviel's trading activity tripped internal alarms on 93 occasions between June 2006 and January 2008, but on each occasion, the departments questioning the trader took his explanations at face value, without carrying out detailed checks and escalating the information to senior managers.
Dealers point out traders often hit limits and trigger internal warnings - indeed, this can occur daily, from multiple traders, across multiple asset classes. But many observers are still unclear as to how the back office did not spot fictitious over-the-counter forwards transactions during the confirmation process, how Kerviel was repeatedly able to cancel false trades prior to their requiring margin payments and replace them with new fake contracts, and how he was allegedly able to use back-office staff passwords to enter systems and cancel certain operations.
Kerviel was also able to flout an industry-wide standard requiring traders to take two consecutive weeks' holiday, taking only four days off in 2007 - suggesting a failure of supervision at the bank, say observers.
With legal proceedings ongoing, and a report due from PricewaterhouseCoopers still to come, it's unlikely to be the last we hear about the circumstances leading to the losses. But one positive thing has come from the scandal: the bank has been refreshingly transparent in its handling of the alleged fraud, publicly releasing details on the trades, the notional size of the exposures and the techniques apparently used by Kerviel. In fact, one head of investment banking at a US bank privately expressed amazement that SG has disclosed so much, so early.
This move towards transparency is also noticeable in other business areas - the monolines have revealed details of their structured finance portfolios, the rating agencies have published regular updates on subprime exposures, expected losses and changes in rating methodology, while the banks have, for the most part, been quick to recognise their exposures to subprime securities and disclose writedowns.
They need to. Investor confidence has been knocked by recent events and, as Moody's Investors Service pointed out in a report last month, only increased transparency on collateralised debt obligation underlyings and expected loss and correlation assumptions will tempt investors to re-enter this particular market.
Clearly, plenty of lessons will be learned from the past six months. Hopefully, one of those will be that all dealers and investors ought to embrace transparency, and stop hiding behind the (sometimes, admittedly, true) justification they will lose their competitive advantage if they disclose too much.
Nick Sawyer, Editor.