Barings Bank was founded in 1762 as the "John and Francis Baring Company" by Sir Francis Baring.  This bank was the oldest merchant bank in London, financed the Napoleonic Wars, and was the Queen of England's own bank. In 1996, one man, Nick Leeson, managed to bring down Barings Bank, one of the oldest and most conservative financial institutions in the world, through his illicit trading activity.

In 1989, Leeson joined Barings Bank.  After being transferred to Jakarta, Indonesia to sort through a back-office mess involving 100 million of share certificates, Leeson solidified his reputation within Barings when he successfully rectified the situation in 10 months. Lesson also knew how to account for derivatives, even if he did not fully understand the complexities of their pricing. Therefore, in 1992, when Barings opened a new office in Singapore to trade on the expanding Singapore Mercantile Exchange (SIMEX), Leeson became an obvious candidate to manage it. Senior management at Barings Bank assumed that Leeson would turn the Singapore office into a highly profitable endeavor and therefore gave him extensive responsibility. As general manager, Nick Leeson oversaw both trading and back-office functions, which eliminated the necessary checks and balances usually found within trading organizations.

Soon he was Barings Bank's star Singapore trader, bringing in substantial profits from trading on the Singapore exchange. By 1993, Leeson had made more than 10 million, about 10% of Barings's total profit for that year. In 1994, he delivered over half of the 52.9 million in revenue for his division on his own, making many proclaim him as the "miracle worker." In his autobiography Rogue Trader, Leeson said the culture at Barings was simple: "We were all driven to make profits, profits, and more profits ... I was the rising star."

Aided by his lack of supervision, the 28-year-old Nick Lesson promptly started unauthorized speculation in futures on the Nikkei 225 stock index and Japanese government bonds. SIMEX regulators were aware of Leeson's cross-trading activities, and his breach of their exchange regulations, but did not act decisively to stop him. Leeson's large trading volumes were quickly becoming important for the exchange, and being a lightly regulated market was central to SIMEX's strategy to woo trade from neighboring Osaka.

Using futures contracts, Leeson speculated that the Nikkei would rise. Unfortunately he was wrong. The Japanese market continued to fall and his losses mounted. He attempted to cover his losses by hiding them in an error account (account number 88888), which grew exponentially over time. He sought to make up losses by using this account to speculate in foreign currency - with no success. With the Japanese market continuing to decline, Leeson bought furiously, desperate to make it hold its value. On January 23, 1995, the market briefly rose, and then came crashing down, falling an astonishing 1175 points during the day, losing Leeson over 100 million. Leeson then began a frantic period of "doubling" his trading position to attempt to drive the market back up virtually alone. Doubling is a classic gambler's strategy, but one that was doomed to fail. After finally realizing that he could not reverse his catastrophic losses, he fled the country leaving the Barings Bank with a total of 827 million in losses. In February 1995, England's oldest, most established bank was unable to meet SIMEX's margin call, and was declared bankrupt. On March 3, 1995, Barings was bought for 1 by the Dutch banking and insurance group ING.

 

 DISCUSSION QUESTIONS

1. What is a doubling strategy and why is it unwise?

2. What role did overconfidence have in the Barings Bank debacle?

Answer rating: 100% (QA)

1 A doubling strategy in the context of trading refers to a risky approach where an investor or trader increases their position or investment after experiencing losses in the hope of recouping those l... View the full answer