Collapse of Barrings Bank

Topics: Derivative, Futures contract, Barings Bank Pages: 7 (2488 words) Published: September 17, 2008
The history of Barings Bank Plc began in 1762 and thus making it the oldest merchant bank of London. Over this period it had managed to earn a high reputation in the global finance market as it assisted in financing the purchase of Louisiana, Erie Canal and the Napoleon wars (Fay, 1996). It was also known as the Queens bank due to the fact that the Queen had an account with Barings. But this success was interrupted in the Mid 90’s when Barings caught the attention of the world due to bankruptcy which was caused by one rogue trader, Nick Leeson, based in a small office in Singapore. His sole trading activities for derivatives on the Singapore and Osaka Exchange lead the 233 years old bank into bankruptcy. Further below we discuss how the bank was lead into bankruptcy.

Question 1 & 2
Nick Leeson, a young man from Watford in England joined Barings in 1989 from Morgan Stanley shortly after having graduated from University. His responsibilities involved doing settlement work and accounting and paying for transactions. Shortly after he was sent to their office in Jakarta, Indonesia to sort out a back-office mess involving £100 million worth of share certificates. After successfully sorting out the mess and having his reputation enhanced, he was appointed the General Manager of Barings Futures subsidiary in Singapore (Risk Glossary, 2008). Originally as General Manager Leeson responsibilities wasn’t trading but he took an exam which allowed him to trade on the Singapore International Monetary Exchange (SIMEX) along with his fellow traders. This meant that Leeson had the responsibilities of a General Manager and with enough trading knowledge he had become the Chief trader and also with his experience of the back-office, he was in charge of back-office duties such as accounting for the transactions (Stock Market, 2008). This lack of segregation of duties has lead to one of the most infamous financial demises of the century.

The tasks of Leeson and his fellow traders were only to conduct transactions for futures and options for clients and also for other firms within Barings Bank. And also to look for arbitraging price difference for Nikkei 225 futures traded on the SIMEX and Japan’s Osaka exchange. The arbitrage policy was seen by Management as quite a low risk strategy and Leeson and his team were meant to make an amount of small profits rather than spectacular profits (Risk Glossary, 2008). Since this was so low risk Leeson was allowed to both execute and settle his own trades so basically he did all the paperwork to account for his trades without any supervision. But Leeson started making unauthorised speculation on Nikkei 225 stock index futures and Japanese Government Bonds (JGB) (Stock Market, 2008). He started taking outright positions on the two exchanges and this was the beginning of the end for Barrings Bank. Nick Leeson opened up a secret error trading account ‘88888’ to facilitate his unauthorised trading, which he used to conceal his substantial losses (Wikipedia, nd). He adopted a trading strategy known as a Straddle; his objective was to sell call and put options on the same underlying instrument and make a profit (Erisk, 2008). This was a very risky strategy, a far call from the low risk strategy of Arbitrage; it had the capacity to produce good profits if the market was stable but also the chance to accrue great losses if they became volatile (Erisk, 2008). He started losing money from the beginning and to make up for this he started making bigger trades which only increased his losses. He started basing most of his trades on emotion rather than calculation of risks and this had a big impact. By the end of 1994 Leeson had run up losses of up to £200 million(Stock Market, 2008). By early 2005, Leeson had taken a strategy which saw him hold long positions in Nikkei Futures, short positions in Japanese Government Bonds and a short volatility position in Nikkei exchange traded options. For Leeson to have made a...
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