The Swiss investment bank UBS lost more than $2billion when one of its employees performed a series of unauthorised trades.
Kweku Adoboli was a director of the bank’s Global Synthetic Equities Trading team at its London offices, and was sentenced to seven years imprisonment for fraud as a result of his crimes.
The rogue trader had managed to rack up the huge losses by speculating on EuroStoxx, DAX and S&P 500 indexes. The prosecutor in Mr. Adoboli’s trial said that the Ghanaian national “was a gamble or two from destroying Switzerland’s largest bank for his own benefit.”
The fraud occurred when Mr. Adoboli exploited a technical loophole which allowed some Exchange Traded Fund (a type of investment fund that is traded on stock exchanges) transactions not to require confirmation of a trade until after the settlement (delivery of the assets) has taken place. This allowed the parties involved to receive payment for a trade before it had been confirmed. The seller in such a transaction does not necessarily have immediate access to the cash, but is able to show it on his or her books, meaning it can then be used in other trades.
This process of utilising unconfirmed transactions is sometimes used by banks for the purpose of portraying financial performance in a more positive light as the value of securities sold, but not delivered, as well as the value of the cash booked, but not received can all be shown on the books.
UBS’s computer system had issued warnings after detecting some of Adoboli’s unauthorised trading activity, but the bank failed to act upon the information.
So how did he do it?
When Mr. Adoboli was arrested on September 14th 2011, he had run up an exposure to equity futures that amounted to $8.75 billion using the bank’s own money, a practice known as proprietary trading. To hide the bigger bets, Mr. Adoboli booked fake trades, which offset the exposure he had created. Since his trades appeared to be covered, other staff working at the bank were unaware of the risk Mr. Adoboli was taking.
The fake trades had been booked using extended settlement dates which meant that no one would question the trades because they showed up in the books as assets. As his activities progressed however, instead of using fake trades to simply mask the exposure the bank had, Mr. Adoboli began to use them to cover up the real losses he had run up and in one month this figure amounted to $2billion.
In June of 2011 Mr. Adoboli began to escalate the risks he was taking. He believed the markets would fall in early July as the Greek parliament took a vote on austerity measures but the market instead rose, causing him to lose money.
Mr. Adoboli then predicted a rise in the market which happened accordingly, but rather than closing his position when he had the opportunity to limit his losses, he chose not to and the market dropped again, causing further losses which he hid again.
Mr. Adoboli’s defence team claimed that the UBS management had given mixed signals to traders that risk limits were regarded as flexible and a culture of taking greater risks in the hope of generating higher profits had developed from 2009.
John DiBacco, who had moved from UBS’s office in New York to London to take over as boss in April 2011, said in a statement in November of that year that he was “surprised” by the large positions that were taken by traders at the bank. Neverless, Mr. DiBacco still doubled the risk limits that were previously imposed to $100m for intra-day trading and $50m for trades made overnight.
In a document submitted to the Securities and Exchange Commission (SEC), UBS stated that controls requiring bilateral confirmation between the counterparties of trades had not been operating adequately. The control was supposed to apply to trades with settlement dates of +15 days after a trade was made. When such trades were cancelled or amended, the related monitoring control for validating these changes had ceased to operate effectively. UBS however declined to explain how such controls ceased to operate as they should.
The Swiss bank also admitted a breakdown of measures that were designed to ensure that internal transactions were valid and accurately recorded – including controls over cancellations and amendments of internal trades that required validation from a supervisor.
CEO of UBS Mr. Oswald Grübel, resigned on 24 September 2011 “to assume responsibility for the recent unauthorized trading incident”, according to a memo that was sent to UBS staff. The company was said to be “in disarray” following the departure of the CEO as a result of the scandal and ten days later the co-heads of Global Equities at UBS, Mr. Francois Gouws and Ms. Yassine Bouhara, also resigned.
UBS was fined £29.7 million on 26th November 2012 by the UK finance regulator for system and control failings that allowed Kweku Adoboli to cause over $2 billion of losses through unauthorized trading.
In our opinion, the finance regulator shouldn’t be too hard on UBS for not keeping a proper eye on their internal procedures. Here at The W1nners’ Club we repeatedly have to hold internal investigations as to why staff members have gone over their monthly limit for expenses, although we’ve never to date had anyone put us in the red by $2billion – thankfully!