The Collapse of Barings Bank

Prakar Kandelwal
Gaurav Varshney
Gaurav Sabhahit
Sahil Soi
Akash Arora
Dheeraj Negi


Contents
Background of Barings
Nicholas Leeson
How Leeson Broke Barings
Barings Inadequate Controls

Background of Barings
Founded in 1762.

Barings gradually diversified
from wool into many other
commodities, providing financial services
necessary for the rapid growth of
international trade.

Concurred as the sixth great European
power at the Congress of Vienna in 1815


Background of Barings
During the years of 1830s and 1840s,
Barings became the most influential
financial house in U.S.

A Financial Crisis in 1890

Provided loans to Argentina in 1824
Debt crisis in Argentina in 1888
Reported companys liabilities of over
21 million pounds sterling


Background of Barings
Rescued by the British government
and the Bank of England

Impact of Argentine Debt Crisis
Withdrew all transaction in
North American continent

Firms management was
relegated to consulting small firms and
wealthy people, which includes British
Royal family
Background of Barings
Repair of Companys Reputation

Success in consulting the royal
family asset management

Success in giving advice for stock and
bonds for small British firms

Moved back into American finance
scene in 1980s
Background of Barings
Expansion to Asia

Opened a stock brokerage operation in
Tokyo during the mid 1980s

Expanded its operation
by establishing offices
in Singapore
Background of Barings
Leeson Crisis in 1995

Nick Leeson, a lone manager in the
companys Singapore office made
speculative trades on future market,
which broke the company

ING, Dutch financial service company,
bought Barings at the fire sale price of
just 1 in June 1995
Nicholas Leeson
The son of a plasterer from
the London suburb of Watford

28-year-old trader who never graduated
from college

Gained knowledge through numerous
investment establishment positions


Nicholas Leeson

Working at the Singapore
International Monetary Exchange

In charge of both making deals and
overseeing the paperwork on these deals


Nicholas Leeson
Accused of losing the $1.3
billion

Charged with forgery and cheating on
December 1, 1995

Sentenced to six and a half years

How Leeson Broke Barings?
Arrived in Singapore in 1992

Arbitrage opportunities of Nikkei 225
futures between SIMEX and OSE

Leesons Singapore office is terribly
understaffed errors frequently occurred

Error account 88888 created by a new
phone clerk: Loss of 20,000
Why did Nick Leeson establish a bogus error
account (88888) when a legitimate account
(99002) already existed?


Nick Leeson established a bogus error account (88888) when a
legitimate account (99002) already existed in order to conceal
his unauthorized trading activities.

While the legitimate error account was known to Barings
Securities in London, the bogus account was not.

However, the bogus account was known to SIMEX as a
customer account, not as an error account. In this way Leeson
could hide his balances and losses from London but not
Singapore.

One the other hand, SIMEX thought the bogus error account,
88888, was a legitimate customer account rather than a
proprietary Barings account.


How Leeson Broke Barings?
How did he do that?
Cross-trade technique with a real
account 92000 and the error account
88888




In November and December 1994
Sold 34,400 options (straddles)
Year Reported (Million) Actual (Million)
1993 + 8.83 - 21
1994 + 28.53 - 185
1995 + 18.57 - 619
How Leeson Broke Barings?

Fantasy: Leeson is a genius Created
50% of Barings 1994 profits

Reality: Leeson is a loser Loss of $296
million in 1994 alone
Lack of accountability allowed Lesson to
hide loses.



How Leeson Broke Barings?







4Q 1994 - January 1995
Nikkei in a range of 19,000 19,500
Leeson held long futures of 3,000 Nikkei
225 equity contracts
Nikkei 225


How Leeson Broke Barings?








Straddles:
Profitable (Premium) if Nikkei traded
within or near strikes between 18,500
20,000
How Leeson Broke Barings?






January 17, 1995
Kobe Earthquake
Nikkei dropped sharply
as people took cash out
How Leeson Broke Barings?







January 20 February, 1995
Leeson launched aggressive buying
program: (3,000) 55,206 March contracts
and 5,650 June contracts
How Leeson Broke Barings?






Barings collapsed could not meet huge
trading obligations
Outstanding futures positions of $27 billion
(Barings capital was $615 million)
Barings Inadequate Controls
Lesson controlled both the dealing desk
and the back office

Leeson removed account 88888 from
daily accounts sent to Barings

Barings ignored internal auditors reports

Barings Inadequate Controls
Problems with Senior management

Showed little interest in the Singapore
Branch

Had only a vague understanding of
derivatives

Did not have a precise breakdown of
Leesons profits

Failed to question capital requests by
Leeson to fund margin accounts
Barings Inadequate Controls
Problems with Barings Funding
Control Measures

No distinction between proprietary and
customer trades

Ignorance to credit risks

Barings Inadequate Controls
Supervision Problems

Leesons superiors did not accept
responsibility over him

No one investigated a default in account
88888
Aftermath
Broadhust and Ledgerwood report in 1993
caux round table based in Switzerland
adopted International Code for
multinational Firms in Europe which
identifies 5 basic principles:
1. Stake holder Responsibility
2. Social Justice
3. Mutual Support
4. Environmental Concerns
5. Avoidance of illicit operations concept
practices.
Aftermath
SIMEX appointed an International
Advisory Panel which recommended
following best practices:
1. Upgrading of clearing system.
2. Promotion of information sharing among
exchanges.
3. Devising comprehensive internal risk
analysis procedures to identify high risk
accounts.
Conclusion

Incompet
ent
manage
ment
An
unlikely
series of
events in
the
market
One rogue
trader
Things to Remember
Principals Agent Problem:
Should be catered by Swetarship or
Trusteeship.

Accountability and Transparency.

Firms Should not tolerate compromise on
ethics.


Any Questions?