31 year old Jérôme Kerveil, hit the headlines for all the wrong reasons this week when he was blamed for the biggest fraud in investment banking history after Société Générale, the second biggest investment bank in Europe, revealed he had concealed trading losses to the tune of €4.9billion. The story caused a media storm yesterday but details soon emerged of the events leading up to the announcement. The problem had actually come to light a full six days earlier on Friday last week when the head of the investment bank Mr. Mustier was notified. By Sunday night the losses were estimated at €1.5billion, and the pressure mounted. But as the saying goes ‘If you’re going to panic, panic constructively’ and that is exactly what the individuals involved in the affair have managed to do – a far cry from the mess that was Northern Rock. The Bank of England Governor Mervyn King took a hardline approach to the Northern Rock crisis and he insisted he wanted to play no part in rescuing banks and their shareholders as to do so would create a “moral hazard” situation of subsidising irresponsible banking.
While the tripartite system of regulation, being the Bank of England, Financial Services Authority and the Treasury failed to come to an agreement as to how, if at all, they should bail out the British mortgage lender when it first announced its severe problems, the French have proved far more competent in their handling of a crisis situation.
SocGen had been due on Monday to announce €2billion writedowns related to the US sub-prime mortgage crisis, in addition to the €375million taken in the third quarter of last year.
However, with the approval of its board of directors, the French central bank, and the relevant market authorities, the decision was taken to delay the announcement until the bank had a opportunity to close out its positions. In this case, it would seem the PR advisors had their thinking caps firmly screwed on and decided timing was everything! Alistair Darling on the other hand waited three days before announcing a blanket commitment to protect all deposits at Northern Rock, hoping that the Lloyds TSB bid would go ahead in the meantime.
SocGen has been very quick in rectifying the situation and closing out its positions. On Monday morning it began to unload huge amounts of futures contracts and sold into a sliding market. By the end of the trading day on Wednesday, the realised losses stood at €4.9billion, rather than the €1.5billion originally estimated. By contrast, the government attempt at ‘fixing’ the Northern Rock situation took weeks. After the emergency loan was put in place by the Bank of England, Northern Rock began to draw billions in order to refinance its mortgages. Within a few weeks this amount had grown to somewhere in the region of £28billion.
On Wednesday evening, SocGen’s chief executive, in wanting to raise €5.5billion of much needed capital, decided that launching a rights issue was the best way of doing this. A rights issue is a means of raising capital by selling new shares which are offered to existing shareholders in proportion to their current shareholding, and usually offered at a discount.
While the mess at SocGen was resolved quietly, efficiently, and privately, Northern Rock is still washing its dirty laundry in public. The latest episode in the ongoing saga is the proposal that Northern Rock is to sell a portion of its assets to a special purpose vehicle. This vehicle would then issue bonds, guaranteed by the government, to pay back the £28billion owed to the Bank of England (and then some) - the ultimate in government bail out (now standing at a grand total of £55billion) of a private sector bank! Prime Minister Gordon Brown has, in the words of Anatole Kaletssky of the Times, “…handed over the keys to the Treasury to Sir Richard Branson and Goldman Sachs, destroying in the process the entire economic and political framework that he created as Chancellor in 1997”. If this isn’t the prime example of the “moral hazard” situation which Mervyn King has so persistently resisted, then I don’t know what is. In the wake of this affair, the public is now left wondering what other constructive uses the £55billion could have been put to by the Treasury, and some in the City are left pondering how the Prime Minister and Mervyn King will ever work together again.
***
And finally………. The US Customs and Border Patrol staff have had their work cut out for them recently as a record number of otherwise respectable Scottish and American passengers try to circumvent a US Department of Agriculture ban on the import of Scottish haggis, all in the name of celebrating Burns night. Expected to make its way across the pond, past eagle-eyed customs officials, either in passenger luggage or through the mail are huge amounts of genuine haggis – complete with sheep’s lungs, heart, liver and stomach.
Keep the haggis, I’ll take the whisky!
Have a good week,
Aparna Ram
Research Analyst
Seven Investment Management Limited