Monday, January 28, 2008
SockGen: Part Deux
Societe Generale's management has denied that its unwind of $74 billion of European equity index futures last week affected the markets. As quoted in the Financial Times ("SocGen raises questions over Fed rate cut", Jan. 24, 2008), Philippe Collas, the head of asset management at the bank, said, "It’s not possible that our covering operations contributed to the market’s fall."
An analysis of SocGen's positions speaks differently. The bank stated they had positions of €30 billion in Eurostoxx 50 index futures, €18 billion in DAX futures and €2 billion of FTSE 100 futures.
Those positions correspond to 60%, 50% and 20% of ordinary daily volume in the respective futures contracts -- substantial portions by any measure.
However, Monday, January 21 was not an ordinary day: the U.S. markets were closed for Martin Luther King, Jr., Day. When the U.S. is on holiday, European liquidity is vastly diminished. In 2007, on days when the U.S. equity markets were closed, these futures contracts traded only a third their ordinary volume.
So, in fact, SocGen held 200% of U.S.-holiday volume in Eurostoxx futures, 150% in DAX, and 60% in FTSE. Assuming the bank sold a third of its positions on Monday, it dumped over 50% of U.S.-holiday volume on the European markets.
As any futures trader will tell you, trades like that can easily move a market lower, particularly when selling into market weakness, diminished liquidity and rumors of trouble at a large French bank. --GAHjr
An analysis of SocGen's positions speaks differently. The bank stated they had positions of €30 billion in Eurostoxx 50 index futures, €18 billion in DAX futures and €2 billion of FTSE 100 futures.
Those positions correspond to 60%, 50% and 20% of ordinary daily volume in the respective futures contracts -- substantial portions by any measure.
However, Monday, January 21 was not an ordinary day: the U.S. markets were closed for Martin Luther King, Jr., Day. When the U.S. is on holiday, European liquidity is vastly diminished. In 2007, on days when the U.S. equity markets were closed, these futures contracts traded only a third their ordinary volume.
So, in fact, SocGen held 200% of U.S.-holiday volume in Eurostoxx futures, 150% in DAX, and 60% in FTSE. Assuming the bank sold a third of its positions on Monday, it dumped over 50% of U.S.-holiday volume on the European markets.
As any futures trader will tell you, trades like that can easily move a market lower, particularly when selling into market weakness, diminished liquidity and rumors of trouble at a large French bank. --GAHjr
Thursday, January 24, 2008
SockGen
Societe Generale, the French bank, reported $7.2 billion in losses from unauthorized trades in European equity index futures.
The fraud was reportedly discovered over the weekend, and the bank began liquidating positions Monday. Going into the weekend, European indices were down 10% or so for the year. Thus, to have generated losses of $7 billion, SocGen would have been net long notional positions of about $70 billion.
What's astounding is that a bank of SocGen's sophistication -- it is a leader in the derivatives markets -- could fall victim to a fraud of such proportion. The bank would have had to post several billion dollars of initial margin for their positions. And, since futures are marked to market daily, the losses would have to have been paid out each day... in cash. That unauthorized cashflows in the billions of dollars went unnoticed for several weeks demonstrates a complete lack of meaningful risk management and controls. (Supporting that argument, the bank concurrently announced $3 billion in writedowns linked to subprime mortgages.)
As a side note, it's entirely possible that the SocGen unwind precipitated this week's global market rout, or at the very least added fuel to the fire.
The losses imply net long positions of 1.2 million EuroStoxx 50 futures contracts, or 600,000 FTSE 100 futures contracts -- the equivalent of a couple days' ordinary volume. Reportedly, these positions were liquidated first thing Monday -- when the U.S. was on holiday and liquidity was thinner than usual.
Global equity markets plunged. The Federal Reserve panicked with an emergency intrameeting rate cut of 75 bp. The equity markets have since recovered some of their losses. --GAHjr
The fraud was reportedly discovered over the weekend, and the bank began liquidating positions Monday. Going into the weekend, European indices were down 10% or so for the year. Thus, to have generated losses of $7 billion, SocGen would have been net long notional positions of about $70 billion.
What's astounding is that a bank of SocGen's sophistication -- it is a leader in the derivatives markets -- could fall victim to a fraud of such proportion. The bank would have had to post several billion dollars of initial margin for their positions. And, since futures are marked to market daily, the losses would have to have been paid out each day... in cash. That unauthorized cashflows in the billions of dollars went unnoticed for several weeks demonstrates a complete lack of meaningful risk management and controls. (Supporting that argument, the bank concurrently announced $3 billion in writedowns linked to subprime mortgages.)
As a side note, it's entirely possible that the SocGen unwind precipitated this week's global market rout, or at the very least added fuel to the fire.
The losses imply net long positions of 1.2 million EuroStoxx 50 futures contracts, or 600,000 FTSE 100 futures contracts -- the equivalent of a couple days' ordinary volume. Reportedly, these positions were liquidated first thing Monday -- when the U.S. was on holiday and liquidity was thinner than usual.
Global equity markets plunged. The Federal Reserve panicked with an emergency intrameeting rate cut of 75 bp. The equity markets have since recovered some of their losses. --GAHjr
