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TRADING: HINTS TO THE BANK CEOs
Yesterday we heard that some unknown before guy, Kweku Abdoli somehow managed to make a rogue trade losing UBS USD2bn. Media is all over this guy as well as UBS and risk managers, asking “how is this possible in the modern age?”. It is also interesting, that as the result of this one rogue trade, it is now very much possible that UBS will lose all of its Investment Banking business, as it is known that the Swiss regulators – like many others - are looking for any reason to at least scale this casino activity down. Now they have the needed ammunition, though they too do not understand what has actually happened in the UBS trading room.
Indeed there is the general problem with discussing such issues by media, regulators, politicians, even CEOs, as most of them have never made a single trade in their life. Especially in European Banks, CEOs tend to be “corporate politicians” elected by other “corporate politicians” who are simply put too comfortable where they are to have any incentive to change things or to admit to any past mistakes. After all, the longer they manage to maintain their current status quo and pretend to do something, the longer they will get paid their bonuses, and if they get paid then subsequently the board will get paid, MDs will get paid, VPs will get paid, then Associates and Analysts will get paid and at the end of the food chain even the Desk Assistants will get paid. Hence why stop the party?
I should note here that this position is widely true mainly for the European banks, hence the losses happen at the likes of UBS or SocGen, while at the US Banks (especially Goldman Sachs) it is frequent that the role of the CEO is done by the ex trader, making it easier for him to understand what trading actually is. Let this special note be hence addressed to all CEOs who have no idea what trading is.
TRADERS
First of all it should be pointed out that traders are often some of the smartest people who work in the banks, even though they are doing the job that they themselves regard as one of the most stupid jobs in the world, totally unwearthy of their education and childhood aspirations (none of them wanted to be traders when they were small kids). Traders do their job for one reason only: for the money that they are paid in February each year. In return for this money they sell their souls, become animalistic ruthless individuals that will cut through any corners to make this money. After all even from philosophical point of view trading is a zero sum game, so every dollar one makes, someone else loses.
INFRASTRUCTURE
Despite all the i-phones, i-pads, googles, and state of the art technology that we have today, financial markets operate on the setup of the 80s. There are 10s if not 100s of Exchanges around the world, and each Exchange has its own IT systems to operate. Banks try to combine these into one system (internal or via Orc or GLWin) but frankly speaking mistakes happen all the time, if not at the bank end, then at the Exchange end, trades do not feed through, or the data is wrong. In addition number of trades are OTC that are done on the phone and are hence booked manually. Basically for the guy who trades ETFs in Europe like Kweku, he needs to be registered and connected to some 20 exchanges, trade equities, trade FX, rates, commodities, so the power he has at his fingers is immense. There is no accident that both Kweku Abdoli and Jerome Kerviel were from the Delta 1 derivatives desks. Indeed when I traded these products back in 2001 – 2004, I often joked with my colleagues that should we get annoyed one day we will “do the Nick Leeson” , as anyone of us could have easily done the same thing. We did not do it of course as we had internal moral constraints, but sometimes a wrong guy on a wrong day can actually do some serious damage, the damage that probably starts very innocently by accident that he than tries to correct but is simply out of luck. I actually think that in some circumstances I could have been that guy, hence I do feel for Kweku who is now sitting in the prison cell in City of London Police station being interrogated by people who have no idea about the job he was performing. In some way they gave him the gun, and are now blaming him for using it.
SOLUTION
Short Term:
1. CEOs of Investment Banks should be experienced but ideally mid aged Investment Bankers (ideally even traders), and not “clappers” of the old system. They should also surround themselves by equally smart and challenging to them “real” people, and not yet more old school “clappers” as it often happens. It is amazing how influential ONE PERSON can be to an organization, especially as dynamic as the investment bank.
2. More specifically, for trading desks that due to volumes and involvement of OTC trades are most likely to be in position to do “the serious damage” you need to have dynamic risk managers monitoring each trade live and not at the end of the day. This is suboptimal from the headcount perspective, but this is the only way that these high volume cross exchange product books can be managed. If someone does not know this and is Head of Trading, they should in my humble opinion be fired.
3. Talk to your traders. Offer them money to show the “cracks” in the system – as every bank has these cracks. Reward their crooked minds, rather than wait for disaster to happen.
Mid Term:
Someone needs to develop one new combined, electronic and universal exchange. No CME, LSE, Eurex, no OTC trades, but everyone connected to one machine, from the single investor in Monaco, to the fund manager in Edinburgh. In many ways I was counting on Deutsche Bank's Autobahn to become this platform, but I think that they lost their steam. Bottom line is that once such platform exists, you will not only stop the risk (or enable live monitoring of it), but indeed you might even manage to get rid of most market making traders altogether.
Long Term:
This information is only for internal use. Sorry guys, got to get paid.
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