Question

After watching the Rogue Trader movie, write a project report to include the following:

1.) Describe how Nick Leeson perpetrated fraud in Barings Bank.

2.) Analyze the fraud from the fraud triangle perspective.

3.) Identify the weaknesses in Barings' internal control system based on COSO ERM framework and provide your recommendations on how to improve.

Answer 1

Nick Leeson's single handedly perpetrating a fraud & failing the entire banking system left the entire England in a state of shock. He started working with Barings Bank in Indonesia and then eventually moved into stock market & trading. He traded on futures & options believed buying & selling at the right time was the key . Trading was done through an open outcry system & he trained those individuals who participated in the trade. Trading was done on the stock exchange of Singapore, SIMEX.

Leeson started making speculative trades which shot up Baring’s profits & he became a favorite in the bank & earned insurmountable amount of trust. As destiny had it, he started incurring losses & didn’t disclose it to the bank. Instead he created a false account & blamed it on his other coworkers due to lack of experience. The financial statements didn’t reflect this account & the documents were hidden very carefully. This made internal control of Barings completely inefficient. He started incurring further losses & then he had no option but to start selling off his option in order to gain premium so as to make up for losses. He had placed a short straddle & betted markets wouldn’t become more volatile. However, due to Kobe, the stocks started plunging which was followed by further change in Leeson’s strategy. He now took a long position & hoped he would move the market but unfortunately the opposite happened. This led to a high low which was double the bank’s capital. This led to fall of Baring as it didn’t have sufficient capital to make up for its own losses.

The weakness in Barings Internal Control system are as follows:

• Leeson gained too much of trust & had independent authority in the local office in Singapore. Internal memo’s had no consequence which was due to lack of surveillance & check.
• Leeson had the authority to operate both in the front office & back office which further gave him the liberty to confirm & settle trades and pass entries in books of account. This made window dressing quite easy & effective for him.
• The management didn’t have enough aptitude nor sufficient knowledge in trading techniques & financial markets & as such didn’t understand the risk involved in dealing with such derivatives.
• He gave fallible declarations to the management authorities which let him hid the profits & avoid margin calls which would be audited.
• Barings special privilege to lend more than 25% of its capital took a severe toll further on the bank.
• The auditor’s inability to suspect fraud & poor internal control led to Barings own doom as the accounting rules & procedures within the organization was inefficient & ineffective.

Barings fall collapsed the entire economy & this affect could be felt worldwide. The weakness could be overcome by having proper exposure norms & prudential norms, knowledgeable & financially & technically relevant management , strong internal control & check, no duplication in roles, no unnecessary freedom or favourism to any one employee, risk compliance officers, risk management policies, etc.