Thursday, January 31, 2008

L'Affaire Kerviel: the mystery persists

Recent reports note that Kerviel was up over a billion Euros at the end of 2007. It is impossible for him to have made such a large profit without exceeding his limits, so if his superiors knew about his profits they should have known something fishy was going on. It has been reported that Kerviel asked for a 600k Euro bonus in 2007. To justify this bonus he must have pointed to significant trading profits. Things don't quite add up...


Sharing the blame: "I cannot believe that my superiors did not realize the amount I was risking. It is impossible to generate such profit with small positions. That's what leads me to say that while I was positive [in the black], my supervisors closed their eyes on the methods I was using and the volumes I was trading. A trader can't generate so much cash on a daily basis with standard activities."

On his bonus targets: "For 2007, I tried to negotiate a bonus of €600,000." He added that a supervisor "led me to understand that I couldn't hope for more than €300,000." (Mr. Kerviel's lawyer said her client hadn't been paid any bonus.)

More background on elitism at Societe Generale:

WSJ: Kerviel Felt Out of His League

January 31, 2008; Page C1

In 2005, Jérôme Kerviel got the biggest break of his career: a promotion out of Société Générale SA's lowly back office -- a place so uncool it was dubbed "the mine" -- and into a coveted job as a trader at the powerful bank.

But if clawing your way up from the mailroom wins you a badge of honor in the U.S., not so within in the rigid class system that defines the upper ranks of French finance. Mr. Kerviel's effort to impress his colleagues now appears to be a motivating factor behind his disastrous trading spree, which burned a €4.9 billion ($7.3 billion) hole in Société Générale's books.

"I was held in lower regard than the others because of my educational and professional background." Mr. Kerviel told prosecutors over the weekend. His comments were from a transcript and confirmed by prosecutors and his lawyer.

Trading might not be rocket science, but Société Générale has a tradition of drawing its star traders from France's most elite schools. Many have doctorates in disciplines such as astrophysics or nuclear science. They are known as "quants" for the complex "quantitative" mathematical trading formulas they develop. They pull down the biggest paychecks.

The bank's top brass, including investment-banking head Jean-Pierre Mustier, is from the engineering school Polytechnique, the M.I.T. of France. Chief Executive Daniel Bouton graduated from the prestigious Ecole Nationale d'Administration, a school known for churning out high-level government functionaries that run the country.

"If you graduated from ENA or Polytechnique, you have an absolute tenure; if not, you miss out on all the good job opportunities," according to a former Société Générale executive. "This rift exists all over the bank."

French authorities placed Mr. Kerviel under formal investigation Monday on charges of forgery, breach of trust and breaking into computer systems. He was released but barred from leaving the country. Société Générale has accused him of fraudulent trading that at one point left the bank exposed by €50 billion.

"His career path made him sort of an exception," says Mr. Mustier.

It hasn't always been this way. Société Générale's current corporate culture is a byproduct of the bank's transformation in the late 1980s from a conventional retail bank to a major player on the global financial stage, according to Michel Marchet, a representative of one of the bank's labor unions and 40-year employee. When he started, Mr. Marchet recalls, even employees without college degrees could build successful careers.

Suddenly, they found themselves overshadowed by new recruits plucked from France's top-notch schools. The rise of a new "elite" class, Mr. Marchet says, also meant "fewer working-class people were joining the bank."

The high-pressure atmosphere has taken its share of victims. In June, a trader in his 30s who worked on the same floor as Mr. Kerviel jumped to his death from a footbridge near Société Générale's towering headquarters in the La Défense suburb of Paris. Moments before his death, Mr. Marchet says, a supervisor had interrogated the trader for losing about €9 million in unauthorized trades. "He took his bag, left Société Générale and jumped off a bridge," Mr. Marchet says.

A spokeswoman at Société Générale declined to comment on social tensions at the bank. She confirmed that an employee committed suicide last year.

That death came in the wake of two other suicides in recent years. In 2005, a trader jumped to his death from a ninth-floor window at the bank's headquarters, Mr. Marchet said. A year later, a back-office employee jumped in front of a train commuting between La Défense and the center of Paris.

The trading desk where Mr. Kerviel landed, the "Delta One" unit, deals with trades aimed at making small profits with stock-market fluctuations. Mr. Kerviel, who hails from a small town in Brittany and graduated from a little-known university, suggested in his statement to prosecutors that he hoped to curry favor with people who counted.

Mr. Kerviel's job was to invest by simultaneously taking opposite bets on the direction of the markets. The bets were supposed to mostly offset each other in what is typically a low-risk way to make a small profit. But starting in November 2005, Mr. Kerviel started placing bets only in one direction, hoping for far bigger gains.

To hide his strategy, he created a set of parallel fake bets in the other direction to give his supervisors the illusion that his books were correctly balanced.

When his supervisors asked him about unusual transactions, Mr. Kerviel would rely on simple tricks to evade their inquiries. "I fabricated a fake mail using a feature in our in-house messaging system, a function which allows you to reuse the electronic letterhead I had received and change the body of the text," he said.

At first, Mr. Kerviel's strategy paid off -- too well, in fact. His gains snowballed so quickly that, at some point, he had locked in a gain of €1.6 billion, about a third of the bank's overall net profit in 2006.

At that moment, "I don't know what to do," Mr. Kerviel told investigators. "I am happy, proud, but I don't know how to justify my gains."

What seemed to disappoint Mr. Kerviel was that his trading prowess wasn't being acknowledged. He told prosecutors that he believes managers were aware of his methods but never spoke up as long as things were going well.

"I cannot believe that my superiors did not realize the amount I was risking," he said in the interrogation. "It is impossible to generate such profit with small positions. That's what leads me to say that while I was [in the black], my supervisors closed their eyes on the methods I was using and the volumes I was trading.


Carson C. Chow said...

It sounds like this poor guy is just a scapegoat.

An Investor said...

We're now beginning to get the answer to the other question that no one had really addressed: Who exactly was responsible for what loss?

The initial reports alleged that Kerviel lost the entire $7+ billion. Now, we're finding out that, as many of us suspected all along, the "star trader" they assigned to manage Kerviel's trades after the alleged fraud was discovered may have actually lost at least half of that amount. If that's the case, then that trader would share in the dubious distinction of having suffered one of the largest individual all-time trading losses.

SocGen, mind telling us THAT trader's name?

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