Noone is watching – while traders do their gymnastics

CS on the Brink of the Abyss
Lack of Control, Further Losses, $90 Billion of Distressed Debt

Credit Suisse’s ability to survive in its present form is threatened by the latest revelations of past mismanagement, dysfunctional communications and unsupervised trading.

Follow our Blog which will be continually updated as the drama unfolds.

CS CEO Tidjane Thiam admitted in a video interview that the bank had followed a Pursuit of Revenue “At All Costs” policy which had facilitated traders secretly holding high risk illiquid positions. Losses may eventually run into billions of dollars. Updates here and here point to fractured internal communications.

The drama is unfolding of a massive amount of illiquid debt scrip. (Illiquid scrip or illiquidity refers to investments for which there is no market, i.e. no buyers. Forced sales can result in massive price drops.) Credit Suisse wants to unload $90 billion of thinly traded debt scrip in unfavourable conditions.

CS’s weak position is an ironic reversal for a bank which often strove to exploit weaker counterparties. Thousands of those exploited by the bank’s greed will regard it as due comeuppance. Lisa Abramowicz’s video report on Credit Suisse’s woes highlights poor risk management by senior officers.

The bank’s capital ratio was already down to 11.4% – after the $6 billion capital raising. Those investors (including pension funds) lost badly in the massive drop in CS’s share price. The bank can hardly expect further capital from that source.

The bank currently carries $380 billion of leverage. A loss of 10% on the $90 billion it is attempting to divest in the current difficult market would cost $9 billion and drive the bank close to junk territory.

A loss of 5% on its $380 billion of leverage would take $19 billion off its balance sheet and could have it looking for a bailout.

Both scenarios are conservative if the uncertainties described below eventuate. Bank of America has just reiterated its “Sell” Rating for Credit Suisse.

Chairman Rohner Said “No Blind Spots”

A few days later (31 March), Credit Suisse Group AG Chairman Urs Rohner said: “There were no blind spots” – managers were aware of the trading positions that have forced the bank to take almost $1 billion of writedowns over the past two quarters.

If Rohner’s people knew, but Thiam’s people were kept in the dark, it suggests further dysfunction and a split between the Swiss “home team” and the non-Swiss “outsiders”.

It is a worry how pleased Rohner was that his organization was “in control” during this mess. To understand this, meet up with some Swiss-German bankers. For them, it would be unforgiveable to be blind-sided to the tune of multiple billions, and even worse to advertise that fact to the world. (Think: Titanic).

Rohner is Up for Re-Election as Chairman

Perhaps Rohner, who is standing for re-election as Chairman on April 29, is nervous that the share price has dropped from $77 in 2007 to the current $12-$15 under his watch. He was General Counsel (2004-09), Chief Operating Officer (2006-09) and Chairman (since then). We formally notified the General Counsel Department and Rohner of organized crime operating in and through the bank. We sent detailed evidence which the bank declined to refute. We offered further reports and evidence which they declined to accept. I would call that really bad wilful blindness, or a disaster waiting to happen.

About a year later, the bank was officially criminally convicted of fraud and conspiracy costing it $2.6 billion. Somehow, they denied knowledge of this criminal activity and blamed a few “rogues”, despite the bank being convicted of it in Germany in 20113 years earlier. The DOJ said it involved thousands of bankers and it went on for decades. Andreas Bachmann was one of those CS bankers – he called it a “massive conspiracy”.

Josef Dörig was another one of the participating CS bankers. His statement emphasized: “In a country leading the vanguard of bank secrecy, there simply is no place for Mr. Dörig, who aggressively encouraged clients to disclose accounts to U.S. authorities”. That reads like: “Swiss bankers are expected to enable clients to cheat on their taxes, i.e. to do crime as part of their job.”

But There Were Blind Spots Though:

The latest report of 4 April confirms there were dysfunctional communications. Now Thiam faces questions about the bank’s risk controls and oversight by senior management of part of its markets business, after $1 billion write-downs:
“Does it raise concerns? Yes it does,” said Andreas Vendetti, an analyst at Swiss private bank Vontobel.
Some people familiar with the Zurich-based bank’s operations expressed surprise and scepticism that top management could be unaware of such important details.
“If the CFO didn’t know about it, then sure as hell the chief risk officer would have done, which means everybody would have done,” said one former board member of a Credit Suisse investment banking subsidiary. “It’s hard to imagine that nobody knew about this stuff.”

No Buffer from Credible Uncertainties

The bank has no real buffer from credible uncertainties. The deflation cycle looks set in for a while and resource prices are heading down (again). China’s stock market is teetering (again), both George Soros and The Street are certain a Chinese crash is imminent. ISIS want to explode a dirty nuclear bomb and some respected experts are only surprised it hasn’t already happened. Central banks are playing a dangerous game which has the probable outcome that deflation will morph into stagflation – for which there is no known remedy.

Any significant combination of these would turn Credit Suisse into junk or worse. Thiam now expects further Q1 losses following the bank’s massive Q4 loss of $5.75 billion.

CS’s Crazy Creation – It is Taking Out Catastrophe Insurance

Matt Levine has unpackaged the complexities of CS’s drama. Here is a quick paraphrase: CS intends to sell its risk of a catastrophe so that it doesn’t need extra capital to cover it. It includes risk of big losses from illiquid investments and rogue-trading. But it is more complex resembling a Möbius strip or a Klein bottle:
“Credit Suisse packaged that risk into securities, gave some of the securities to its own bankers as part of their bonuses (surprise!), hedged the rest of them by buying yet another derivative from yet another counterparty, and then agreed to fund any amounts that the counterparty owed under the derivative.”

It is projected to include rogue-trading risk at the same time it is under criminal investigation for allowing rogue-trading. It is projected to be sold as an Operational Risk insurance policy through Operational Re Ltd. (Bermuda!) claiming it is catastrophe insurance with a relatively remote risk, with the “expected loss said to be just 0.15%”. My estimate of the risk is multiples of that and I wouldn’t want to litigate any claim in Bermuda.

To understand it, first read Matt Levine, then this, and this and this and then that and then this post. A month later, it still looks clear as mud but cyber-crime is included in the catastrophe package.

The bank’s propensity for elasticizing facts screams a warning. It regarded thousands of bankers in a management directed criminal conspiracy as a few rogues, apparently soon to be covered by catastrophe insurance.

It has made no bones about regarding cyber-crime as including internal data leaks and data CD sales to Germany. Indeed a catastrophe for tax cheats.

The upshot of this is that the bank’s official 11.4% capital adequacy may be a serious over-estimate. Perhaps the bank is already on the brink of a Liquidity Death Spiral. Note that about 40 percent of the bonds in the $1.4 trillion U.S. junk-debt market didn’t trade at all in the first two months of this year, and those that did were “absolutely crushed”. An estimated loss of only 10% on the $90 billion fire sale may be over-optimistic.

The Insider’s Version of the Story

Apart from Thiam’s video – the other half is in the confessions of a top ex-Credit Suisse banker – Mr X  – who managed some of its wealthiest billionaire clients. Mr X, who was identified as CS private banker Patrice Lescaudron, got the job because he could speak Russian. Banking experience? He had none before joining the bank. Less than two years after joining Credit Suisse, he said, he was handling the bank’s biggest clients in the region. He reportedly became one of Credit Suisse’s most successful bankers, until he was fired.

Credit Suisse said it suffered a 1.5 billion Swiss franc outflow of client funds. The bank has set aside 250 million Swiss francs in provisions for litigation related to the banker’s case, a person familiar with the matter said.

Bank Ignored Warnings for Years

We repeatedly warned the bank of a similar situation in Credit Suisse – but they refused to accept our reports and covered up the illegal activity instead. An account manager who had no relevant experience, but was chosen because he could speak the right language. In our case, his banking ignorance was convenient because there was a huge securities scam going on between various bank people and entities in organized crime (outside the bank). The Swiss accomplice had an arrest warrant out for him for wire fraud and money laundering. However, the Swiss ignored the US arrest warrant.

CS Private Banker Mr X: Patrice Lescaudron’s Inside Information

Mr X’s inside information (courtesy of Matt Levine) is the stuff of a TV sitcom, not a billionaire’s finance manager:
He joined Credit Suisse at age 40 with no prior banking experience, and almost immediately got some big clients, including Georgian politician-tycoon Bidzina Ivanishvili.
“Around April-May, I told myself that all my clients had to make profits so they would stop annoying me with their criticism about lack of performance,” he told bank investigators.
Can you imagine? Mr. X is new to banking, he’s good at client relationships, he picks up some big clients, he has fun going out to dinner with them or whatever. “Within weeks, he said, he was actively trading without permission, using Ivanishvili’s credit line to buy about $100 million in Russian stocks and bonds.” And: “With markets around the world surging, he had soon more than made up the missed gains, he said.”
But: a trade lost money, there were margin calls to clients who weren’t aware they were trading on margin, and the whole thing unravelled. He told investigators he could have prevented the margin calls with more unauthorized trading. But he was trying to enjoy the last day of his Italian vacation, he said. “I had had enough of this situation that had upset me so much.”

Legitimate or Illegal Profit “At All Costs”?

It is apparent that the bank’s criminal convictions, its fractured internal communications and its bloated distressed debt were intimately intertwined. The burning question is:

Were they all caused by policies designed to protect corporate crime – through ingrained deliberate ignorance and wilful blindness – which had these unexpected consequences?

Media Snapshots

Thiam’s 7 minute video interview has inspired a multitude of media comments. The real drama is too extended to capture in a single two minute read. This collage of one-liners paints a bleak picture for the bank:

It is going from bad to worse for Credit Suisse.
Mr. Thiam said the problems in the investment bank were connected to the pursuit of revenue “at all costs.”
Credit Suisse Chief Says Risky Bets Were a ‘Surprise’
A Credit Suisse wealth manager made rogue trades for 6 years just to keep his clients off his back
Liquidity Death Spiral Traps Credit Suisse
Credit Suisse CEO Blindsided as Bank Added to Risky Positions
There was clearly an active decision to retain illiquids that CS took which other firms didn’t take
Thiam said he was blindsided by a buildup of illiquid trading positions that will probably spark a first-quarter loss, and pledged to make deeper cost cuts.
For him to say he was surprised by the size of the position is clearly not good ….. It highlights, at best, historic control failures and is not good for confidence.
The shares dropped to the lowest since 1989 last month and are down 33 percent this year.
Thiam also warned trading revenues are expected to fall by up to 45 percent in the first quarter from a year earlier.
But investors should know there is no quick fix for a bank the size of Credit Suisse.
Fixed-income revenue was down 61 percent year-on-year in the fourth quarter
Thiam says his bank will report a bad first quarter
CFTC Fines Credit Suisse $665,000 Over Futures Debacle and giving the regulator false information.
The bank suffered $258 million of writedowns this year through March 11, and $495 million of losses in the fourth quarter, because of its holdings of distressed debt, leveraged loans and securitized products.
Apparently people at Credit Suisse don’t talk to each other? 
… if I ever got hired by an investment bank to be its CEO, I would spend my first week or two just sort of wandering around the trading floors, sidling up to people to ask questions like “so do you have any illiquid credit positions that might trigger oh say $1 billion of write-downs?”
Credit Suisse Confusion on Costly Trades Adds to CEO’s Woes
Credit Suisse’s $90 Billion Bitter Pill
As any trader knows, when a big player like Credit Suisse exits, it’s a shock for everyone involved. That’s even more true when the market is highly illiquid.
How is the bank going to reduce leverage in its global markets unit to $290 billion from $380 billion by the end of 2016? That’s $90 billion of assets that may be unloaded at fire-sale prices. If these positions are illiquid, which some of them seem to be, it could have a major impact on several markets.
Illiquid Positions Add to Credit Suisse Confusion
China’s Stock Market Is About to Crash — Sell Before It’s Too Late
Many U.S. experts consider the eventual detonation by terrorists of a dirty bomb containing radiological materials to be inevitable, because the mechanics of such a device are simple and widely-known.
The fuel for a nuclear bomb is in the hands of an unknown black marketeer
A distressed credit index touched a level not seen since 2009 in February as oil traded at $30/barrel
Credit Suisse `A Drag’ for Herro Awaiting Overhaul Success
Marvel At The Derivative On Its Derivatives That Credit Suisse Wrote To Itself
Mourn For The Derivative On Its Derivatives That Credit Suisse Wrote To Itself
CS turns to bonds to hedge rogue trader risk
Don’t believe or buy this:  CS Operational Risk insurance policy has a relatively remote risk, with the expected loss said to be just 0.15%.
If you make money, you’re a trader; but if you don’t, you’re a rogue trader.
“There were no blind spots. It’s not the case that positions suddenly surfaced that were not previously there,” Urs Rohner told a Swiss banking conference.

Fitch hasn’t changed the banks ratings yet but warned that the bank’s “Accelerated Restructuring Adds to Execution Risks”. It made a detailed release outlining possible consequences of the current upheavals which may lead to ratings adjustments.

The Bank’s Solution
Credit Suisse plans to monitor employee behavior to catch rogue trading through Artificial Intelligence (AI) surveillance, see: Signac – a 50/50 partnership with AI firm Palantir Technologies Inc.

K.I.S.S.: Why not Read Your Mail?
Considering that the bank ignored repeated written warnings of rogue activity, is it naive to suggest that the bank’s top management should read their mail, rather than create elaborate AI robots to spy on staff?

Wouldn’t it be much better to create elaborate AI robots to spy on top management, who presumably would then read the written warnings of organized crime in their banks?

And then maybe, just maybe, they would inspire their employees to gain honest profit instead of running after the crooked dollar, with its attendant blindness to billion dollar write-downs.

(K.I.S.S. is an acronym for “keep it simple, stupid”).

Last updated 11 June 2016 09:40 PM AEST
Credit Suisse Group AG (CS) in trouble again as Panama Papers explode:
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