Old presentation about corruption in finance

1. All bankers are criminals

2. © 2006 The Tower Group, Inc.
All bankers are criminals
Trust
Scandal
Greed
Compliance
Dogs and Cats

3. © 2006 The Tower Group, Inc.

4. © 2006 The Tower Group, Inc.
We don’t trust less …
we trust differently

5. © 2006 The Tower Group, Inc.
Trust is upside-down
Religion
Government
Authorities
Institutions
Media
Family
Friends
Neighbours
traditionally today

6. © 2006 The Tower Group, Inc.
Source: Standard & Poor’s RatingsDirect
high-profile corporate defaults, 2001–2003
Companies losing trust
2003
 Marconi
 HEALTHSOUTH
 J Crew Group
 American Cellular
 Loral
 Parmalat
2002
 Worldcom
 Qwest
 Tyco
 Williams
 Nortel
 Goodyear
 AT&T Canada
 Georgia Pacific
2001
 Enron
 Calpine
 JCPenney
 PG&E
 Lucent
 Delta Airlines
 KMart

7. © 2006 The Tower Group, Inc.
“WorldCom chief's part in $11bn fraud”

8. © 2006 The Tower Group, Inc.
What happened to $12 billion in assets?

9. © 2006 The Tower Group, Inc.
“It was the finance chief's doings”

10. © 2006 The Tower Group, Inc.
Sarbanes Oxley Derek Higgins
Who?

11. © 2006 The Tower Group, Inc.
Response
Sarbanes Oxley
▪ US firms’ auditing fees up 17% in 2003 and 40% increase in
2004 to $3.5 billion in 2004.
▪ Section 404 ensuring management can prove effective internal
controls cost $35 billion alone according to the American
Electronics Association, about 20 times more than anticipated.
▪ University of Rochester graduate Ivy Xiying Zhang estimates the
overall cost of SOX is over
$1.4 trillion..

12. © 2006 The Tower Group, Inc.
Benchmark: Trust in Sectors
42%
44%
47%
38%
55%
59%
36%
36%
38%
40%
42%
43%
45%
48%
51%
65%
66%
66%
30%
42%
54%
54%
51%
58%
0% 20% 40% 60% 80% 100%
Telecomm
Energy
Professional services
Healthcare
Retail financial services
Investment & insurance services
Pharma & drug
Airlines
Automotive
Technology
Consumer packaged goods
Consumer durables
US
Europe
Source: the Annual Edelman
Trust Barometer, 2003
Rank
8 of 12

15. © 2006 The Tower Group, Inc.
$650m cash found in Baghdad, April 2003
Sources: New York Times, June 6, 2004

16. © 2006 The Tower Group, Inc.
$650m cash found in Baghdad, April 2003
Sources: New York Times, June 6, 2004

17. © 2006 The Tower Group, Inc.
$650m cash found in Baghdad, April 2003
Sources: New York Times, June 6, 2004

18. © 2006 The Tower Group, Inc.
$650m cash found in Baghdad, April 2003
Sources: New York Times, June 6, 2004
Social Club

20. © 2006 The Tower Group, Inc.
Liberty National Securities Broker, Martin
Frankel

21. © 2006 The Tower Group, Inc.
Credit Suisse Banker, Frank Quattrone

22. © 2006 The Tower Group, Inc.
Morgan Stanley Securities Analyst
Henry Blodget

23. © 2006 The Tower Group, Inc.
Salomon Analyst, Jack Grubman

25. © 2006 The Tower Group, Inc.
Not forgetting …

26. © 2006 The Tower Group, Inc.
Allied Irish Bank, John Rusnak

27. © 2006 The Tower Group, Inc.
NAB, FX Trader, David Bullen

28. © 2006 The Tower Group, Inc.
Theodore Sihpol, Bank of America

30. © 2006 The Tower Group, Inc.
NextCard, CEO, John Hashman

31. © 2006 The Tower Group, Inc.
Citi CEO, Chuck Prince

32. © 2006 The Tower Group, Inc.
Deutsche Bank CEO, Joseph Ackermann

34. © 2006 The Tower Group, Inc.
it’s not just a few
 John Rusnak and Allied Irish Banks
 Banco Ambrosiano and the Vatican Bank
 Bank of Credit and Commerce International
 Nick Leeson and Barings Bank
 Bre-X and Canadian Mining Scandals
 Butcher Brothers and the United American
Bank
 Cendant Corp.
 Credit Lyonnais
 Toshihide Iguchi and Daiwa Bank
 The Dot-Com Bubble and Investment Banks
 Enron Corp. and Arthur Andersen
 The Flaming Ferraris
 Jardine Fleming
 Martin Frankel
 Griffin Trading Co.
 Conrad Black and Hollinger International
 Joseph Jett and Kidder, Peabody & Co.
 The "Nigerian 419" Advance Fee Scam
 Lottery / Sweepstake Offers
 Orange County
 Metallgesellschaft
 Morgan Grenfell
 NASDAQ Stock Market
 NatWest Markets
 Lloyd's of London and the Insurance
Industry
 Operation Wooden Nickel
 Parmalat
 Maritime Fraud
 The Savings and Loan or Thrifts Crisis
 Smith Barney
 Robert Maxwell
 Pension Funds, Mortgages, Split Capital
Investment Trusts, Precipice Bonds ...
 Yasuo Hamanaka and Sumitomo Corp.
 WorldCom

35. "Bankers who hire money
hungry geniuses should not
express surprise when
some of them turn around
with creative and illegal
means of making money."
Linda Davies
Author and former
Investment Banker

36. © 2006 The Tower Group, Inc.

37. © 2006 The Tower Group, Inc.

38. Greed
Is
Good
As long as you know what
you’re talking about

39. © 2006 The Tower Group, Inc.
“It was the finance chief's doings”

40. © 2006 The Tower Group, Inc.
1973, Fischer Black and Myron Scholes
published "Value of Derivatives"

41. © 2006 The Tower Group, Inc.
John W Meriwether
buying bonds without
authority
▪ Gutfreund
▪ Merriwether
▪ Mozer

42. © 2006 The Tower Group, Inc.

43. © 2006 The Tower Group, Inc.
John W Meriwether
January 1998
LTCM had capital of $4.8
billion
Portfolio of $200 billion
Derivatives with a
notional value of $1.25
trillion
Debt:Equity Ratio of
100:1

44. Greed
Is
Good
As long as you know what
you’re talking about

45. © 2006 The Tower Group, Inc.

46. © 2006 The Tower Group, Inc.

47. © 2006 The Tower Group, Inc.
$33 trillion in Credit Derivatives

48. Where did this come from?
 Assets under management of the hedge fund industry totaled
$1.225 trillion at the end of the second quarter of 2006, up 19%
on 2005 and twice the total of 2003
 Because hedge funds use gearing to invest, the positions they
take are much larger than their assets – most estimate that
over $10 trillion leverage is possible …
 There are now over 10,000 hedge funds, up 10% during the
past year
 TowerGroup predicts that hedge fund assets will grow at an
annualised rate of 15% between 2006 and 2008 while the
actual number of hedge funds is likely to remain relatively flat.
 London is Europe’s leading centre for the management of
hedge funds with assets up four-fold between 2002 and 2005
from $61bn to $225bn.

49. © 2006 The Tower Group, Inc.
And it’s growing fast …

50. © 2006 The Tower Group, Inc.
“It was the finance chief's doings”

51. © 2006 The Tower Group, Inc.
1973, Fischer Black and Myron Scholes
published "Value of Derivatives"

52. 1989
▪ No mention of derivatives
▪ Stock options only mentioned as a
postscript in index on page 364
2006
▪ $33 trillion in credit derivatives
▪ $10 trillion+ hedge fund industry

53. © 2006 The Tower Group, Inc.
a long, long time ago … 1989

54. © 2006 The Tower Group, Inc.
fifteen years …

55. © 2006 The Tower Group, Inc.
Black-Scholes didn’t know about Moore’s Law

56. © 2006 The Tower Group, Inc.
%age of USA equity trades flowing through
algorithmic trading strategies, 2004-2006
Source: TowerGroup
Exhibit #: 40:20MS-E7
Buy
Side
Sell
Side
48%
18%
27%
16%
32%
7%
16%
3%
Institutional Broker:
Program Desk
Institutional Broker:
Cash Desk
Hedge Funds
Institutional
Asset Managers
2004
2006

57. © 2006 The Tower Group, Inc.
The point of human traders?

58. © 2006 The Tower Group, Inc.
0
50
100
150
200
250
1980 1993 1996 1999 2003 2004 2010
Financial Assets Investment Business
Financial Services Assets
US$ Trillion
1993 – 2010 Growth Rate
8.4% Total Growth Rate
8.6% Equities
10.2% Corporate Debt
6.9% Government Debt
7.8% Bank Deposits
Regional Growth Rates
9.8% Euro Zone (3.1x GDP)
11.3% UK – 19.3% Eastern Europe
8.6% USA (4x GDP)
4% Japan (4.1x GDP)
14.5% China (3.2x GDP)
1
2
5
3
6
9
9
6
11
8
11
9
209

59. © 2006 The Tower Group, Inc.
amounts outstanding for all derivatives
72134
80309 81458
88202
94008 95200
99755
111178
127509
141665
169658
197167
220058
0
50000
100000
150000
200000
250000
Jun
98
Dec
98
Jun
99
Dec
99
Jun
00
Dec
00
Jun
01
Dec
01
Jun
02
Dec
02
Jun
03
Dec
03
Jun
04
(billions of US dollars)

60. © 2006 The Tower Group, Inc.
Monetary Stability or Instability
$2.7 trillion traded in FX
markets every day
100x more than the daily
volume of all the world’s
stockmarkets combined
only 2% relate to real
goods and services
98% is purely speculative

61. © 2006 The Tower Group, Inc.
Monetary Stability or Instability
$33 trillion in credit
derivatives
$10 trillion+ hedge fund
industry

63. “It is not that humans
have become any
more greedy than in
generations past. It
is that the avenues to
express greed have
grown so
enormously.”
Alan Greenspan
July 2002

64. © 2006 The Tower Group, Inc.

65. © 2006 The Tower Group, Inc.
not a problem

66. © 2006 The Tower Group, Inc.

67. © 2006 The Tower Group, Inc.
2006
Hedge funds account for 32% of credit-default swap
sellers and 28% of buyers, up from 15% and 16% in
2004
Credit-default swap contracts jumped to $20.3 trillion
from $13.9 trillion at the end of 2005 and are the
fastest growing financial instrument
Total Derivates Trading in 2006 is estimated at
$370 trillion

68. © 2006 The Tower Group, Inc.
Uh-oh
“In our view, derivatives are
financial weapons of mass
destruction, carrying dangers
that, while now latent, are
potentially lethal.
Warren Buffet
Berkshire Hathaway
Annual Report, 2002

69. © 2006 The Tower Group, Inc.

70. © 2006 The Tower Group, Inc.
result: a series of regulatory actions
Sarbanes-Oxley
Basel II
IAS39
Financial Services Action Plan

71. © 2006 The Tower Group, Inc.
result: a series of regulatory actions
Directive to Modernise
Accounting Provisions
of 4th & 7th Company
Law Directives
Consumer Credit
Directive
Electronic
Money
Directive
Financial
Conglomerates
Directive
Insurance
Mediation
Directive
Solvency II
Directive
Takeover Bids
Directive
Collateral
Directive
Distance
Marketing
Directive
Market
Abuse
Directive
EU Savings
Directive
UCITS
Amendments
Directive
Capital Adequacy
Directive/ Risk-Based
Capital Directive Directive on Markets in
Financial Instruments
(MIFID) aka ISD II
Prospectus
Directive
2nd/3rd Money
Laundering
Directive
Transparency
Directive

72. © 2006 The Tower Group, Inc.
Rolf Breuer
Former Chairman
Deutsche Bank
Ieke van den Burg
MEP
Antonio Borges
Vice Chairman
Goldman Sachs International
Henri de Castries
Chairman and CEO
AXA
Alex Schaub
Director General
European Commission
Fabrice Demarigny
Secretary General
CESR
Should we have a Pan-European Regulator?

73. © 2006 The Tower Group, Inc.
Henri de Castries, AXA CEO and Chairman
Under EU Solvency II Regulations, AXA has to hold
€23 billion in reserves to cover capital risk.
An equivalent USA insurer with a Triple B rating (AXA
is Aa3) would only need to reserve €19 billion.
AXA has €4 billion sitting doing nothing.
Invested wisely, €4b would earn €900 million per year.
AXA is forced to invest in Government Bonds and
Real Estate, rather than Equities and Growth.
And this is good for the EU’s competitiveness?

74. © 2006 The Tower Group, Inc.
Alternative: lots of fines …

75. © 2006 The Tower Group, Inc.
One of the biggest changes in banking …
my role is to “find the chinks
in the regulators’ armour”
Salomon’s General Counsel,
Donald Feuerstein

76. © 2006 The Tower Group, Inc.
“not so much sleeping as comatose”

77. © 2006 The Tower Group, Inc.

78. © 2006 The Tower Group, Inc.

79. © 2006 The Tower Group, Inc.

80. © 2006 The Tower Group, Inc.
All bankers are criminals
Trust
Scandal
Greed
Compliance
Dogs and Cats

81. © 2006 The Tower Group, Inc.
Conclusions
the destruction of trust is due to high risk, high loss
disasters
stakes have been raised exorbitantly by derivatives
derivatives are turbo-charged by technology
what were complex products are simple today
simple products are now auto-traded
human trading now focuses upon complex, cross-
asset class, derviatives of derivatives
the more complex, the greater the risk and return
result: the more tech, the more complex, the more
greed, the more scandal, the more disasters, the
more systemic risk …
and regulators are only just keeping up.

82. © 2006 The Tower Group, Inc.
Trading vision

83. © 2006 The Tower Group, Inc.
the regulatory issue

84. © 2006 The Tower Group, Inc.
Regulators’ vision

85. © 2006 The Tower Group, Inc.

86. All bankers are criminals