Rogue Traders: Financial Crime

What Drives Trading Floor Crime?

What drives rogue trading? Do the same factors drive crime in other fields?I thought about this while watching a Lance Armstrong documentary. A look through the most infamous trading floor crimes of the last 30 years displays consistent features and helps to explain today’s trading floor compliance challenges.

Nick Leeson: Textbook Rogue Trading

My career in telecoms became trading floor focused in the 1990s. While I was in New York helping to develop communications solutions, another expat, Nick Leeson, was racking up losses and hiding them at Barings Bank in Singapore. My career has generated fewer headlines, zero bank collapses and 100% less jail time. Leeson still does quite well for himself on the public speaking circuit and has recently started consulting on financial fraud.

While Leeson was not as smart as some notable rogue traders, his case is a benchmark. He was ambitious, working in various back-office roles before making progress after joining Barings, where he worked settling derivative orders and even helped to investigate a fraud. This type of process knowledge helped several infamous rogue traders hide their losses. Leeson was made general manager of both front and back offices for a new Futures and Options desk in Singapore. UK authorities refused him a broker’s license prior to leaving because he failed to report a judgement against him by NatWest bank. Neither he nor Barings disclosed this to the Singapore authorities.

Once installed, he made unauthorized trades from the outset, they went well, and he was handsomely rewarded for it. Having used a Barings “error account” to hide a team member’s mistake he started using the same method to hide his own bad trades. As these racked up, he would use a doubling strategy to try and replace the money, this worked as late as 1993 when he managed to recoup a $9M loss. However, pride got the better of him. He wanted to maintain his star trader image, so he continued the unauthorized trades and things spiraled. In January 1995 he placed a “short straddle,” a risky options trade that requires the underlying asset, in this case the Nikkei Index, to maintain a stable value for a brief period. Unfortunately for him, and Japan, the Great Hanshin earthquake struck early the next day. He flailed around trying to fill the financial black hole with risky bets for over a month, racking up losses of $1.4B before admitting defeat, leaving a note saying “I’m sorry” and fleeing to Malaysia.

Like Leeson, the most infamous rogue traders (see table) were excellent at covering their tracks. The Europeans on the list all had back or middle office experience which helped them understand how to do this. In most cases, internal governance was fairly lax and most of these traders went through a notably successful patch that was rewarded without question. Rusnak didn’t make huge money for himself, but only Kerviel was seen as an average trader. Even he had been aiming to put a zero on the end of his bonus for the year in which the bank realized what he was doing. Like sportspeople, traders seek success, enjoy the kudos when it comes and don’t want to let it go.

Infamous Rogue Traders

Nick Leeson, 1995, Barings Singapore, unauthorized derivatives trading, $1.4B loss, back-office experience.
Kweku Adoboli, 2011,UBS London, unauthorised derivatives (ETF) trading $2B, Swiss Franc currency correction. Back Office 2 years.
Jérôme Kerviel, 2008, Société Générale unauthorised derivatives trading £3.7bn. Had been middle office compliance
John Rusnak 2002, Allfirst Financial, a division of Allied Irish Bank $700m, unauthorised currency trading.
Toshihide Iguchi, 1995, Daiwa, $1.1bn unauthorised bond trading.
Yasuo Hamanaka, 1996, Sumitomo Corporation, $2.6bn rogue copper trading and market manipulation. Cornered 5% of global market.

That brings us to Yasuo Hamanaka. He is an outlier compared to the other traders, a far from secretive business leader who brazenly managed to corner 5% of the global copper market. Because his actions were global, different regulators stood and looked at each other like fieldsmen who have converged only to see the ball hit the turf. Unlike the others, it is thought he was following a strategy set by his bank. It was his hubris that brought him down. Cornering a market is a strategy that generally only works once because after a cycle, nobody will sell to you again. The “King of Copper” faced a situation where he could have walked away with some small losses following a period of massive gains, he chose to go again, and the house of cards fell down around him.

Hamanaka seems like the closest fit to Armstrong. His employer knew, his team knew, his competitors knew, the regulators at the very least suspected but there was also a hero myth that pervaded. Both he and Armstrong chose aggression to try and keep the “secret” alive and both would have been well advised to stop earlier.


Like sport, trading can be all consuming. There is a desperation to succeed in a career that can be cut short if you don’t. Those who get to the top like to stay there. Despite some incredibly successful female traders, it remains a male dominated profession that holds a mystique for some. Google “how to succeed at trading” and even the material aimed at professionals contains a fair bit of what looks like sports psychology.

The concept of data analysis and marginal gains changed cycling. Some of this meant traditions like the narrowest tires and flamboyant mountain attacks were dropped for more evidence-based approaches. Some of it meant pushing the laws to their limits and when you do that, sometimes you push too far. In trading as in sports, it may not be a case of “if you’re not cheating, you’re not trying” but the envelope of possibility will always be stretched.

LIBOR Scandal

The LIBOR rate fixing scandal was definitely cheating. Every case above was linked by some kind of insight, ability and most importantly, opportunity. The LIBOR scandal of 2012 had all of that, but the way the market manipulation was carried out, potentially for almost a decade, displayed a shocking lack of secrecy. Emails and phone records released during investigations showed traders openly asking others to set rates at specific levels so that a particular position would be profitable. Whereas some of the other cases generated public interest, this one caused outrage as people and businesses could easily grasp how they might have been impacted.

The Current Situation

All of these financial scandals, and the development of new technologies, led to a strengthening of regulatory control, internal governance and risk management. Trading is a quieter profession than in the 1990s with open outcry pits gone and phones not used as much. Communications are widely surveilled, recorded and analyzed. Compliance professionals monitor trading and transaction data for anomalies and then cross-reference against time stamps to locate conversations worth listening to.

Vigilance is increased and, although another example is bound to emerge, it is harder for a single trader to cause major disruption. When AIB investigated John Rusnak, they hoped to uncover a grand conspiracy that never emerged, whereas the LIBOR scandal that came afterwards was a conspiracy of the first order. It is more likely that any future scandal would require collaboration. That is why conversations rather than individuals are central to much of the trading controls at regulatory and legislative levels. Although most traders are beyond reproach, it is easy to see how the environment could push some people into illegal activity if an opportunity arose.

In the big scandals we have looked at, banks were less worried about trading practices if the money was coming in. These days, there is more focus on risk management. Like a missed test instead of actual doping, many of the regulatory fines applied now are for poor governance, record keeping, supervision and reporting rather than the actual financial crimes, but of course, these still happen.

A New Level of Governance

Nobody trying to manipulate markets now is likely to request a rate fix straight down the phone line. They would use code. I like the genuine example “my watch has stopped” that was uncovered as a signal by staff at a bank we worked with. The potential for visual signals on a video channel is endless, this being one of the reasons that some traders are kept away from it for now. As well as that, there are encrypted communications channels. The use of which is controlled better in some countries than others. They are recordable now with the right solution in place. The challenge for Compliance and IT staff is not only to find solutions that that capture required conversations on every channel while allowing trading staff to work productively, but also ensuring that every required modality is being recorded reliably and that records are all being saved in the appropriate storage.

Suddenly, a whole new area of complexity has emerged, which is exacerbated by different regions having different rules. Setting up each trader with approved communication systems, and required capture and surveillance systems is hard enough. Convincing yourself, and your auditors, that every record reaches the required storage is harder. My company is working on solutions that provide the governance and evidence to support multimillion dollar compliance systems and make this possible. As technology and regulations become tighter, the opportunities for financial crime become rarer but, as I’ve always said, if cultures are accommodating and mindsets haven’t changed, incidents will always arise.

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