Jerome Kerviel - Genius of Fraud

Jerome Kerviel - Genius of Fraud

Background:

Imagine growing up in a working class European family that is getting by but is by no means rick. You've done well in undergraduate college and are on the verge of graduating with a Masters in Finance from a reputable university but didn't do much to differentiate yourself while there. After grad school, you receive an offer for a middle office position at a large investment bank who guaranteed there's room to grow into a trading position, you're ultimate dream. You've finally made the move onto the desk and are doing well but again, haven't distinguished yourself enough to get that immense bonus. And you think to yourself, what can I do to impress my bosses? That, in a nutshell, describes Jerome Kerviel.

Jerome Kerviel grew up in Pont-l'Abbé, Brittany in Northwestern France to a hairdresser and blacksmith. He received a bachelor's degree in Finance from the University of Nantes, later attending University Lyon 2 to pursue a Master in Finance where he graduated in 2000 with a specialization in organization and control of financial markets. According to a source at Lyon, there was nothing remarkable about him. He was a student like everyone else but didn't distinguish himself in any way.

Kerviel began at Societe General in the middle office after receiving his Master's degree. He initially began in the compliance department and was promoted to the Delta One products team in 2005 as a junior trader. This area of the bank dealt with program trading, exchange traded funds, swaps, index and quantitative trading. He did well at the bank but again didn't set himself apart and wasn't considered a star. In 2006, he received a salary of EUR 74,000 with a bonus of EUR 60,000 hoping that in 2007, based on his performance, that bonus could be upwards of EUR 300,000.

In early 2006, Kerviel began creating fictitious trades that were initially relatively small. As time progressed, the fake trading increased in both frequency and size. At the end of 2007, the trader had shown a massive profit of EUR 1.4 billion in unauthorized trading. When the Bank discovered the unauthorized trading January 19, 2008, Kerviel had built a book of unauthorized opens positions which at that point amounted to a notional value of around EUR 50 billion. The Bank began unwinding the positions on January 21, 2008 and over three days of trading was able to close all of the trades. During this time the equities markets dropped significantly and the unwinding of his book led to a loss of around EUR 4.7 billion. By the end of December he was "massively in the money" but since the beginning of 2008, those trades had become unprofitable. Kerviel has claimed that his boss turned a blind eye to what he was doing and encouraged his activity so long as it was profitable. Since he showed such high profits at the end of 2007, his superiors were in support of his actions, however, the moment they turned the other way, it was his name on the line.

According to Societe Generale, "intimate and perverse" knowledge of the bank's controls allowed him to avoid detection. Knowledge of back-office computer functions enabled him to conceal some of his bets by offsetting deals with fictional counterparties. Kerviel would normally close the trades after only a couple of days so as not to be noticed by the bank's internal control system and would then move the older positions to new trades. Bank of France Governor Christian Noyer described him as a "genius of fraud." There was significant deficiency in internal controls, unauthorized trading activities, computer hacking and the breach of trust involving a conscious effort by the rogue trader to deceive his managers.

Verdict:

Kerviel was convicted on all charges of forgery, fictitious transactions and falsifying documents to justify his actions, hacking into the bank's computer to input falsified information and breach of trust concerning the properties of third party (taking positions that exceeded his trading limits). He was sentenced to three years in prison, ordered to repay EUR 4.9 billion in restitution to the bank and barred for life working in financial services. A spokeswoman for Societe Generale said the EUR 4.9 billion award was a "symbolic" sum that the bank did not expect to be paid but it recognizes that the entirety of the losses are attributed to Jerome Kerviel's actions.

The bank, however, was not absolved of responsibility. A line from the ruling reads: "The lack of vigilance by the bank in monitoring the only existing limits, acting as alert signs, hardly exempted Jérôme Kerviel from his duty to inform his hierarchy of the reality of his excesses or to come back within the limits imposed."

In this case, the prosecution had the ability to prove each one of the charges. Breach of trust is defined as any act which is in violation of the duties or a trustee or of the terms of a trust and while breach need not be intentional or with malice, it can be due to negligence. In this case, Kerviel breached this trust when he traded past his trading limits. While it was an intentional violation of their trading policies, he did not do this out of disdain for the bank but out of the sheer excitement of trading those types of volumes.

Forgery is the process of making, adapting, or imitating documents (or other objects) with the intent to deceive. This encompasses all of the charges related to forgery that Kerviel was convicted under including fictitious transactions and falsifying documents. Kerviel would forge trading documents in order to submit something to his compliance department, the group monitoring the trading, knowing full well that the trades never took place.

There are few defenses, if any, with regards to Kerviel's actions as they are all documented in the Soc Gen computer system and file cabinets. The one argument that can be made is that while Kerviel took these actions, his superiors knew that they were taking place but did nothing to stop the trading from happening so long as it was profitable. This was Kerviel's initial claim that yes, he entered the trades, but