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Understanding and managing risk
Understanding and managing risk

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1 Risk and the financial crisis

In September 2011, the eurozone governments were grappling with the debt crisis in Greece and the risks this posed to the banking system – given many banks had invested in Greece and other troubled European economies including Portugal, Spain and Italy. In the midst of this crisis one European bank – the United Bank of Switzerland (UBS) – announced that it had uncovered a huge and unexpected financial loss amounting to $2.3 billion as a result of the alleged activities of a rogue trader, Kweku Adoboli, based at the London offices of UBS.

Adoboli had allegedly run up these losses through transactions in the global equity markets – but had concealed these losses by establishing other fictitious transactions which covered up the actual losses the real transactions had made. Following the discovery of these losses, Adoboli was arrested and charged with fraud. At the time of writing he is on remand in prison awaiting his trial.

However, this was not the only consequence of the risk management failings at UBS.

Shortly after the discovery of the losses, the Chief Executive of UBS, Oswald Grubel, resigned. The bank was also criticised for its risk management failures by some of its largest shareholders. UBS subsequently announced plans to reduce its trading operations in London with a consequent loss of jobs.

This episode is yet another case of failings in financial risk management – indeed the use of fictitious transactions to mask losses on real transactions was a feature of previous risk management calamities at other banks, notably at Allfirst Bank in the US in 2001. Similarly, Adoboli’s actions mirror those of rogue trader Nick Leeson, infamous for his activities that led to the collapse of Barings Bank in 1995. Clearly, the lessons of the past have still not been fully learned. If you want to learn more about how to avoid such financial calamities then read on!